In most major cities or urban areas, real estate is expensive and the cost is unbearable for someone without a healthy source of income and a large down payment. Cooperatives are an option that many of us have as an alternative. But, Cooperatives or “Coops” are very different from owning or purchasing a condominium or a house.
Differences Between Coops and Everything Else
When you buy a condominium or a house, you own the property in title and deed. That means that no one can tell you what to do with your property as long as it abides by the laws of the municipality, county and state. Owning a Coop means that you own shares in a company; you do not own real estate. The company owns the property and you’re a shareholder that holds the right to live in the property based on your shares in the company. If you speak to an attorney, you’ll learn very quickly that you have very limited or no rights, the Coop or Company holds the majority of the power and the Coop Board will dictate most of the policies that you’ll be forced to follow.
Deciding to Buy a Coop
Deciding to buy a Coop is very different than buying a condo or a house because not only do you need decide whether this property is right for you. You’ll also need to be a quasi-financial expert. Assuming you love the Coop property, then you’ll need to review the financials and the Coop policies to decide whether it’s a safe investment to buy the shares in the Coop. If the Coop is poorly managed, then it’s possible that the Coop could go bankrupt and you’d lose your home.
Rules of Thumb to Understand Coop Financials
- Every Coop should give you at least 2 years of financial statements to review, so that you may compare the financials year to year. I usually recommend at least 3 years; this information is readily available in the Coop management records but it up to them to decide how much information to furnish. Financial statements include the income statement, balance sheet, statement of cash flows and statement of equity.
- See what increased or decreased. If expenses are increasing and the maintenance costs aren’t increasing, then we probably have problems with the financials. This means that the current Coop Board is likely eating into their reserves or piggy bank to avoid increasing the monthly maintenances costs that shareholders pay to maintain the Coop. Less commonly, it is possible that the Coop Board increased the monthly maintenance too much and there’s no need to increase the fees.
- Reserves or piggy banks. A Coop should always have a reserve or piggy bank saved for a rainy day. Anyone that owns property should always have something saved for fixing a leaky roof, broken boiler or HVAC. Something will break down; we just never know when it’ll happen. If a Coop does not have the appropriate amount of reserves saved, then that means that if something breaks the Coop will have to immediately assess for the repairs. Whoever lives there will have to pay their share of the repairs. But, whoever lived there before would’ve gotten away with paying their share of repairs even though they benefited from using the property. The amount of reserves required or safe is going to depend on the building or property. A newer building is going to need less in reserves because everything is new. You’ll only need a 2-3 months of reserves to cover operating costs for management, superintendents and etc. An older building that hasn’t been maintained is going to need a large reserve for major repairs.
- Did the Coop have a “profit?” A Coop that runs on a profit means that there is money left over to save in reserve after covering the expenses necessary in a year. Keep in mind that a Coop may show a “paper loss” due to depreciation. Depreciation is the estimated cost or value that is used in a year related a property. As we use a building or property, it will wear and tear. Depreciation is the estimated cost associated with that wear and tear. On paper, depreciation is an expense that the financials will show. It is possible to have a net operating loss due to depreciation, but still be financially secure. Having a profit after depreciation means that you’re setting money aside to cover your repairs – hopefully.
- Is the mortgage principal being paid? It is possible to have a Coop only pay the interest on a mortgage forever and be a viable option for purchase, if it is properly managed. If a Coop is only paying interest on the mortgage, then you’ll need to be aware that the Coop does not plan on paying down its principal and owning the property outright or debt-free. You’ll be required to consistently refinance the mortgage depending on the life of the loan.
- Audited Financial Statements. Financial statements are usually audited by a Certified Public Accountant. If they’re not audited, then it means that no one has checked the numbers and the Coop did whatever they felt like was right whether it’s right or wrong based on normal accounting practices. I’d be wary to purchase a Coop with un-audited financial statements. Someone smaller Coops may have un-audited financials due to the size of the Coop, but you’ll likely have to perform a “quasi-audit” yourself to know that what they’ve shown is true.
- Footnotes, you’ll find a lot of information in the footnotes. They usually explain the assumptions that the Coop took to prepare the financials. Also, they’ll explain why a significant change occurred for a number to increase or decrease. For example, if repairs jumped 200% it could be explained in the footnote that a blizzard caused the boiler to need replacement.
