Dear Real Estate Adviser,
Our condo association is in a lawsuit with a large builder for significant construction defects found on premises. There are roof problems, balconies graded the wrong way, copper pipes that have sprung leaks and failing wall supports in the pool, among other problems. Individual owners are now being told by lenders they can’t refinance. Help! What can we do?
— Mr. T.

Dear Mr. T.,
Ouch. You are mired in a condo Catch-22 through no fault of your own and are rightfully seeing red.

Unfortunately, most conventional lenders won’t touch a condo loan if the development is under any kind of litigation, save for very minor lawsuits. That sentiment became even more pronounced last year after new Fannie Mae lending guidelines were issued. They state: “Any project (condo, co-op or planned unit development) for which the homeowners association or co-op corporation is named as a party to pending litigation, or for which the project sponsor or developer is named as a party to pending litigation that relates to safety, structural soundness, habitability or functional use of the project, remains ineligible [for Fannie Mae-backed financing].” So alas, there you have it.

I can see where the lender logic might be a little tough to swallow. It does seem reasonable that litigation such as slip-and-fall lawsuits and other actions against a condo development and its board would be greater fears for lenders because resultant actions to cover losses could lead to higher assessments and pass along insurance costs to owners. This would greatly change occupancy costs for borrowers and imperil existing loans. But why, you might wonder, would a lender be concerned by your condo complex’s case against the builder? Well, the uncertainty of not knowing which party will ultimately have to pay for the needed repairs would be stopping points for lenders as well, not to mention the structural, safety and habitability concerns and liability fears.

There are private mortgage companies with more latitude to refinance homes involved in litigation, but they too will want to know the issues in the lawsuit. Your condo association and (or) its legal team should have a point person who can communicate the nature of the present legal action to lenders and other interested third parties. As an association member, you have a right to demand that.

Meanwhile, who knows how long the case will drag on and tie everybody’s hands?

The parties may be battling it out over accusations such as breach of contract, breach of warranty and violation of consumer fraud laws. In the meantime, you may not be able to sell your unit except to a cash buyer, much less refinance. Bummer! Moreover, your association may have to spend a bundle on expert fees, legal fees and other costs that may not be fully recoverable in the end — except by special assessment of residents.

This is a good time to point out all potential buyers of condos need to perform a little homework that’s slightly different than the due diligence they would do on a single-family home. They should ask their agents to contact the condo management company and question whether the association is involved in any type of current or pending litigation that might raise that Fannie Mae red flag. Do this prior to inspection or before any other actions that will cost you money. Also, insist the sellers state in the sales contract there’s no pending litigation involving the condo or association.

As for lenders, try searching and other financial sites for lists of private lenders who may be able to help you. Also, try to contact a few community banks in your area. They may have less-inhibited policies on refinancing in a litigation-involved condo development. Failing that, here’s hoping the lawsuit gets settled quickly.

Good luck.

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