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What is a co-op?

Building exterior on Duane Street in New York City
Ryan DeBerardinis/Shutterstock
Building exterior on Duane Street in New York City
Ryan DeBerardinis/Shutterstock

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What if you could own shares in a residence, just as you can own shares on the stock market, but also be allowed to live in that residence? This arrangement is possible when you buy into a co-op, officially known as a housing cooperative. If you’re in the market for a condo purchase or apartment rental, you might also be considering purchasing shares in a co-op.

Co-ops offer some advantages over condos, but they also have their drawbacks. Here’s everything you need to know about how co-ops work and how they compare to other housing options.

What is a co-op?

When you buy a single-family home, condominium or other type of residential property, you technically own that residence and are granted a deed allocated to a particular section, block and lot number.

Co-ops work differently. When you buy a unit in a housing cooperative, you are actually purchasing a fixed number of shares in a housing corporation that owns the building where the unit is located. That makes you a shareholder of that corporation. Because you’re purchasing shares, you won’t get a deed or title to the real property itself. Instead, you get a stock certificate, attesting to your ownership of shares; those shares are considered personal property.

One of the benefits of being a co-op shareholder is the right to live within a specific unit and use common areas of the building (which might include amenities like a gym, pool or playground), subject to the terms of an occupancy agreement or proprietary lease. The co-op corporation owns the building and serves as its landlord, while you serve as a shareholder tenant.

History of co-ops

Housing cooperatives have a long history in the U.S., with the earliest ones dating back to the late 19th century. Most are situated in major metro markets like New York City, Chicago, Philadelphia, Washington D.C. and Seattle, according to the National Association of Housing Cooperatives. In the late 1970s and 1980s, some cities — New York in particular — experienced a co-op boom, with many existing rental apartment buildings converting to cooperative arrangements. “Going co-op” was seen as a way for New Yorkers to own property and turn a home into an asset, reflecting the sharp appreciation of residential real estate that was occurring around the U.S. at the time.

What do co-ops look like?

In big cities, where these arrangements tend to be most common, co-ops are typically in large buildings with multiple units. So, most co-op homes in America resemble apartments.

Co-ops don’t have to look this way, though: A co-op arrangement can be applied to just about any form of housing. Other common types of co-ops include:

How does a co-op work?

When you purchase in a co-op, you are not buying real property. You are buying shares in a cooperative corporation, which gives you the right to occupy one of those units. The co-op is managed by a board operated by members who can vote on rules and policies and changes to them.

“In most co-ops, the board has a right to approve a potential purchaser, unlike a condominium, where the board typically only has a right of first refusal to purchase the unit,” explains Scott Smiler, an attorney with Gallet Dreyer & Berkey in New York City. “The board is tasked with determining the amount of income the co-op needs to collect from its shareholders in order to adequately fund operations and reserves.”

This income is collected in the form of monthly maintenance fees that each shareholder must pay; these fees pay for things like utility bills, property taxes and assessments. Co-op fees are often higher than those charged by condo associations because co-ops pool all monthly expenses into one bill.

“An entire co-op building is one tax lot, so instead of receiving an individual tax bill for a shareholder’s unit, the entire building receives one tax bill and each shareholder will pay a portion of that, based on their shares,” says Alexandra Columbo, an attorney with New York City-based Capell Barnett Matalon & Schoenfeld.

The condition and financial strength of a co-op is critical. Each co-op has a reserve fund used to pay for the costs of repairs and replacements of the building’s major components, “which might include a new roof, new elevator system, new windows or a new heating system,” Columbo adds. “This reserve fund has available funds for unexpected expenses as well.”

If there is not enough money in the reserve fund, the housing cooperative will implement an assessment, meaning that the shareholder’s monthly maintenance bill can increase, or the shareholder could be responsible for paying one large lump sum.

Pay attention to how a co-op’s reserve fund is established and replenished. In New York City, for example, co-op transactions are subject to what’s known as a flip tax — essentially a transfer fee. If a reserve is funded primarily by this fee, it could be indicative of a board that isn’t willing to spend on upkeep, which could mean maintenance issues overall.

Types of co-ops

There are three main types of co-ops:

  1. Market rate co-op, which permits members to purchase and sell shares at rates the market will allow
  2. Leasing co-op, in which the cooperative corporation rents the building from an outside investor instead of owning it, and therefore accrues no equity in the property
  3. Limited-equity housing cooperative (LEC), which establishes limits on the price at which shares in the co-op can be purchased or sold by its shareholders

Whatever type it is, the condition and financial strength of a co-op is critical. Each co-op has a reserve fund used to pay for the costs of repairs and replacements of the building’s major components, “which might include a new roof, new elevator system, new windows or a new heating system,” Columbo adds. “This reserve fund has available funds for unexpected expenses as well.”

If there is not enough money in the reserve fund, the housing cooperative will implement an assessment — basically, an additional charge. It can be levied in a couple of ways: either via an increase in the shareholder’s monthly maintenance bill, or as one large lump sum.

It’s important for homebuyers considering a co-op to pay attention to how a co-op’s reserve fund is established and replenished. In New York City, for example, co-op transactions are subject to what’s known as a flip tax — essentially a transfer fee. If a reserve is funded primarily by this fee, it could be indicative of a board that isn’t willing to spend on upkeep, which could mean maintenance issues overall.

Condos vs. co-ops

Co-ops and condos sound and often look a lot alike. And in fact, they have one main thing in common: Occupants reside in separate units within a building or structure that has shared common areas. But there are substantial differences between co-ops and condos.

With a condo, you receive title to a parcel of real property (the physical house or apartment) in exchange for your purchase price. With a co-op, you buy a fixed number of shares of the corporation that owns or rents the building where the units are located. Instead of getting a deed, you get a proprietary lease or occupancy agreement, along with a certificate of shares.

As a result, condos tend to have a higher asking price, because you are taking full ownership of the unit, but lower monthly expenses. A co-op will typically have a lower asking price but have higher monthly costs for maintenance and other recurring expenses. “Condos typically cost significantly more than co-ops but allow for a large variety of financing options, which enables many buyers that wouldn’t be candidates for co-ops,” Columbo says. Condos also cost more because they’re easier to sell.

Buying a condo is more like buying a house, whereas buying a co-op is like investing in a company. There is a much simpler approval process when it comes to purchasing a condo and they often have less stringent policies when it comes to pets, children and subleasing. “The approval process for co-ops can be daunting and rigorous, with a substantial amount of paperwork and disclosing a lot of personal information that the board may request,” Columbo explains. You’ll be interviewed by the board, as well.

“The value of co-ops doesn’t always appreciate at the same rate as condos,” Columbo adds. “This has to do with the stringent approval process and a high down payment requirement, which often rules out many potential buyers.”

What is a condop?

Condops are mixed-use buildings that contain both condos and co-ops. These buildings often have retail units on the first floor and residential arrangements above, with most of the residential units managed by the co-op.

Condops are rare, but they do exist. For example, there are some units in New York City that fall under this label, made possible by a tax law that no longer exists.

Pros and cons of a co-op

Pros

Co-ops come with advantages and disadvantages, especially compared to buying a condo. First, the pros:

  • It’s usually less expensive to purchase shares in a co-op than it is to buy a condominium. “Condos are usually 25 to 30 percent more expensive,” says Columbo.
  • You’ll probably pay lower closing costs for a co-op than a condo.
  • It can be easier to find housing via a co-op than a condo in some metropolitan areas like New York City.
  • Because co-ops often impose strict rules and policies, you can likely count on a safer and quieter building, along with respectful and responsible neighbors.
  • A portion of the monthly maintenance — up to 60 percent in some cases — is tax deductible. The amount that is deductible is dictated by the portion that is applied to real estate taxes and mortgage interest.

Cons

Of course, there are several potential downsides to buying in a co-op, including:

  • You’ll need a higher down payment, often between 10 percent and 20 percent, because as a shareholder, you’re liable for the corporation’s debt and expenses. Condo buyers with good credit, by contrast, can sometimes capitalize on mortgages that require as little as 3 percent down. “Many times, depending on the co-op, we have even seen them requiring between 20 and 50 percent deposits or even all-cash purchases with no financing,” Columbo says.
  • The vetting process by the co-op board can be rigorous, with background checks and referrals commonly required.
  • It can be more difficult and take longer to sell your shares in a co-op than it can be to sell a condo. “A co-op shareholder can sell his or her shares, but the co-op board can deny the potential buyer for any reason that isn’t protected under local and federal anti-discrimination laws,” cautions Columbo. “The board does not have to disclose why they denied a prospective buyer unless there is a claim for discrimination. This lack of transparency can be tricky for sellers. That’s because even the most financially qualified candidates may be rejected. If the potential buyer is denied by the corporation, the seller will then have to relist the unit on the market, which can mean wasting time and money.”
  • Financing options are more limited when you want to purchase co-op shares. Some traditional lenders won’t offer mortgages for co-op purchases, given the extra complication of a buyer needing the board’s approval.
  • You usually aren’t allowed to rent out or sublet your co-op, and if you are, you can only do it with the approval of the board and for a limited period of time, and only for a certain number of times.

Risks of a co-op

There can also be risks that come with purchasing shares in a co-op. It’s important to consider several factors, including:

  • Are the building’s finances properly managed?
  • Does the building have sufficient financial reserves?
  • Are the building’s major systems, like the roof, boilers, elevators and façade, nearing the end of their useful life?
  • Is the building involved in litigation?
  • Are other shareholders in the building nuisances?
  • What is your unit’s share in the building’s underlying mortgage, and when is it due? Is there a balloon payment? Would the financials allow for refinancing when the mortgage comes due?
  • Does the co-op own the land or does it have a land lease? If it’s the latter, when does the lease expire and/or what are the renewal terms?

If the answers to these questions aren’t preferable, you might want to look elsewhere or consider another form of housing.

Another risk: You could waste time and money engaging an attorney to negotiate the contract of sale with the seller, only to submit the board package and ultimately be rejected without any explanation.

As noted, there’s also the risk of being unable to sell as quickly as you’d like, “especially if high down payments or cash financing are required by the housing cooperative,” says Columbo. “Not all prospective buyers in the market are flush with cash but may be able to secure financing through an institutional lender. Hence, this pool of buyers may end up going to the condominium market instead.”

How much does a co-op cost?

The cost of buying into a co-op can run 25 percent to 30 percent less than you’d pay for a condo, according to Columbo.

“Compared to condominium units, co-op units tend to trade slightly lower in sales price due to the co-op board’s right to approve all sales,” Smiler notes. “Some people like a co-op’s exclusivity and added layer of vetting, but this also limits the pool of potential buyers, thus reducing the sales price.”

Co-op financing

You can pursue financing to purchase co-op shares using a mortgage lender or bank, and the process is somewhat similar to financing a condo. A co-op loan isn’t as easy to come by as other types of mortgages, but some lenders do specialize in them. They tend to cost more than a condo loan, as well.

“The lender will underwrite both you the borrower as well as the co-op,” explains Smiler. “The lender will want to review the co-op’s financials, recent sales in the building, the price per share, the amount of maintenance per share and the ratio of owner-occupied units. If the ratio tilts in the favor of more non-owner-occupied units than owner-occupied units, the lender will be more reluctant to lend money.”

Is buying a co-op a good investment?

Purchasing shares in a co-op can be a good investment,  although you’ll want to do your homework. This includes reviewing annual filings from at least the past three years and board minutes from at least the past five. The board minutes, in particular, will reveal any problems with the building, and potentially even with your unit, or litigation you’d be exposed to.

“If you want a secure environment with long-term neighbors, no short-term visitors, no loud music and many times no dogs or cats, purchasing a co-op might be for you,” says Columbo. “Co-ops are usually tight-knit communities of shareholders who take pride in the stringent rules and encourage their neighbors to abide by these rules and regulations.”

Bear in mind that you should probably plan to live in the co-op, or visit it often if it’s a second home. Co-op boards tend to approve applicants who are planning to be residents. And most co-ops don’t allow subleasing. So it’s not wise to think of your co-op purely as an investment property. 

Find other housing types:

House type Who it’s right for:
Apartment Apartments are suited for anyone looking to stay in a prime location for a cheaper price near shopping, restaurant and entertainment centers, often at a more affordable cost than buying a condo or single-family home.
Condominium Condos appeal to those looking for a lower-maintenance living, home with a sense of security, opportunities to be social with neighbors, among other factors.
Townhouse Townhouses are a particularly good option or first-time homebuyers or other budget-minded home buyers who want more space than typically afforded in a condo.
Modular home Modular homes are enticing to empty-nesters looking to downsize, couples looking for backyard units like tiny homes or families looking to upgrade their dated properties in nice but expensive neighborhoods.
Single-family home Single-family homes are best for families who prefer a huge yard and plenty of room to spread out. Others still prefer a low-maintenance condo or townhome that includes benefits like landscaping, snow removal and exterior maintenance.
Multi-family home Multi-family homes are best for those who are interested in getting into real estate investing and are comfortable with the added responsibility and time commitment that comes with being a landlord.
Bungalow home At between 1,000 and 2,000 square feet, bungalows are a great option for young families looking for a starter home or retirees hoping to downsize in a home without stairs, or single homeowners who want the single-family home lifestyle without managing a huge property.
Patio home Typically capped at one-and-a-half stories and part of a larger association, patio homes are best for homeowners who don’t want to deal with stairs or maintenance.
Ranch home Ranch homes are ideal for anyone who prefers single-story living. Singles, couples and families with children can find something to love about a ranch home.
Cottage Cottages, the original “tiny homes,” are small homes located outside of metropolitan areas that typically have an “old world” look and cozy feel.
Split-level house Popular in the housing boom of the mid-1900s, split-level homes utilize a staggered design that connects floors with short sets of stairs.
Written by
Erik J. Martin
Contributing writer
Erik J. Martin is a Chicago area-based freelance writer/editor whose articles have been featured in AARP The Magazine, Reader's Digest, The Costco Connection, The Motley Fool and other publications. He often writes on topics related to real estate, business, technology, health care, insurance and entertainment.
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