Uncovering structural issues when taking on a new client is a nightmare-not just for management, but for boards as well. Here’s what you can do to avoid that situation.
When a management company is considering taking on a new client, it needs to do its due diligence beforehand. But you can only uncover so much, and sometimes you later find some serious problems, especially when a condo is making the transition from sponsor control. What is your process when taking over a new building?
We have to take a look at the bylaws and, most important, the offering plan, including the Schedule B, which shows the original operating budget of the condo. When a sponsor puts together a Schedule B, they’re looking to sell apartments, and sometimes they will lowball expenses and leave out certain maintenance categories or service contracts.
This can happen because a system or piece of equipment is covered under the initial installation, and the sponsor isn’t thinking, “Well, this is going to run out in a year or two, and then we need to have a service contract.” In many cases, the Schedule B is done years before the building is even operating, so a lot of the Services are not even applicable anymore because of inflation or other costs or things like that. The end result is that the common charges are artificially low.
What about engineer surveys to look for structural defects? Do those often reveal problems?
I always recommend that my boards engage an independent engineer to take a look at the building, both for defects and to make sure that it has everything as promised in the offering plan. We have found a lot of issues doing this. I had a building in Hell’s Kitchen where the sidewalk was installed without a membrane underneath, and there was a lot of water penetration into the basement. The cost of fixing this was over $1 million, because the sidewalk was going to have to be ripped up and replaced.
That’s just one example. We find things like no firestopping in the walls, dummy drains that go nowhere. So it’s very important to bring in an engineer right away, because there is a statute of limitations for the board to go back to the sponsor, which is generally six years after the first closing. At the Hell’s Kitchen condo, we did get back to the sponsor in time. We’re still negotiating, so we have not had to take legal action yet. In the meantime, we were able to inject a gel into the sidewalk that stopped the leaks for the time being, but it’s not permanent, and some water is still coming in.
When Schedule B shortfalls occur and you bring these to your board, is there an understanding of what happened?
A lot of the time the boards look at the new managing agent as the bad guy. We had one condo where a lot of things were left out of the Schedule B, from service contracts to marble and metal polishing. The sponsor had hired staff at minimum wage, so they weren’t doing the best job, and we needed new staff, which cost more money. We actually had to raise the common charges by 22%. In addition, we had to do an assessment, which is never a pleasant conversation to have with your unit-owners.
How tough is it to communicate the shortfalls of the Schedule B budgeting to the unit-owners?
Our strategy is to tell the truth. I show people the Schedule B and the new, accurate budget—not the whole thing, but a summary—and explain it the best I can. Most of the people do understand. And the money needs to come from somewhere, and unfortunately it’s the unit-owners. So if you’re buying an apartment in a new construction, be leery. Look at the Schedule B, and compare it to similar buildings if you can. If the common charges are lower, ask the sponsor: “How realistic is this? Why are they lower?” These are the questions that I always ask. And be prepared to find pitfalls and problems that are going to increase costs.