Can a New Buyer Rent Out Summit at Copper Square?

On December 1, 2010 the Phoenix Business Journal reported that the 75 unsold condos at Summit at Copper Square were “within days of being sold.”  Word is that the deal has fallen through.

In the article two of my competitors mentioned that the best option for the unsold units was to rent them.  This led me to wonder if renting them was even an option.

My mom use to say, “if you don’t know the answer to something… look it up” so I started digging in to answer the question.  Little did I know just how challenging this would be.

First I went to the “Condominium Declaration for The Summit at Copper Square, a Condominium”, otherwise known as the Condo Dec.  Per Answers.com, “The recorded instrument that is sometimes called a Declaration of Condominium is the legal document that actually creates a condominium development under relevant state law.”  It further states that, “In some states the Declaration (decs) includes the Covenants, Conditions, Restrictions and Rules (CC&Rs), the By-laws and other amendments forming the basis for the association’s governing documents. The association’s board of directors uses these governing documents to conduct the business of the association, including collecting assessments from owners and paying bills for services to assets owned in common.”

Ok, so you can see that the Condo Dec not only legally establishes a condominium development but also outlines the rules and rights under which the owners of individual condos live.  This is where the Home Owner Association (HOA) rights and rules are spelled out.

Section 4.16 of the Condo Dec for Summit at Copper Square is entitled “Leasing Restrictions.”  It clearly states, “No more than twenty percent (20%) of the Units may be leased at any one time.  No Unit shall be leased by a Unit Owner, or occupied by an Occupant, for hotel or transient purposes or for an initial term of less than one (1) year.  No portion of a Unit which is less than the entire Unit shall be leased.”  Ok, so per the HOA rules which govern the condominiums, no more than 20% of the units can be rented out at any one time and no nightly or short term leases for less than a one year period are allowed.

BUT, if you keep reading to the very last line of the section you’ll see, “The provisions of this Section shall not (emphasis added) apply to the leasing of a Unit by the Declarant (emphasis added) or the Association.”  Ah, maybe the owner of the 75 condos does have the right to rent them out, assuming that that entity would be the “Declarant” or the “Association”.

So who or what is a Declarant?

The answer to that is on the first page of the Condo Dec.  There it reads, “This Condominium Declaration for The Summit at Copper Square, a condominium, is made as of this 28th day of June, 2005, by The Summit at Copper Square, L.L.C., an Illinois limited liability company (the “Declarant”).”

So, the original developer set up a legal entity called The Summit at Copper Square, LLC as the Declarant and it had the right to rent out more than 20% of the condos and to do so nightly (like a hotel) or for other periods shorter than a year.  Since the developer is now gone and Stearns Bank took the condos over in foreclosure does this mean that Stearns Bank can rent out over 20% of the condos etc?

I found a great document on the web by Carol Jane Brown which helped me a lot.  What I got from the document is that if a lender is simply foreclosing on a condo building then the lender is typically not liable for things that the developer did or did not do unless that lender begins acting like a developer (building units etc…) and exercising declarant rights that were originally reserved for the developer or its affiliates.  Brown wrote, “[a] lender that succeeds to all (emphasis added) special declarant rights is exposed to a broad range of potential liability. Essentially, the lender becomes liable to unit owners for everything except the developer’s misrepresentations, breaches of warranty, breaches of fiduciary duty, and obligations resulting from the developer’s acts after the transfer” (p. 18).  Therefor a prudent lender will not succeed to all special declarant rights but instead will succeed only certain special declarant rights, and thereby limit its liability.  Brown said, “[i]f the complex is complete [a la Summit at Copper Square], the second alternative would be more attractive to the foreclosing lender. This alternative allows the lender to maintain models, sales offices, and signs on the common elements, and to advertise and sell individual units. The lender’s only potential liability would be for failure to issue a public offering statement. Because a lender can avoid liability by simply filing the required papers, the lender can eliminate virtually all liability. Thus, if the lender can sell the condominium units without additional construction, the lender should choose the second option” (p. 19).

Turns out the State of Arizona further specifies which “special declarant rights” can transfer to a foreclosing lender without the lender assuming any of the liabilities mentioned by Brown.

Per ARS 33-1202 paragraph 21, “Special declarant rights” means any right or combination of rights reserved by or granted to a declarant in the declaration to do any of the following:

(a) Construct improvements provided for in the declaration.

(b) Exercise any development right.

(c) Maintain sales offices, management offices, signs advertising the condominium, and models.

(d) Use easements through the common elements for the purpose of making improvements within the condominium or within real estate which may be added to the condominium.

(e) Appoint or remove any officer of the association or any board member during any period of declarant control.”

Per ARS 33-1202 paragraph 14, “Development rights” means any right or combination of rights reserved by or granted to a declarant in the declaration to do any of the following:

(a) Add real estate to a condominium.

(b) Create easements, units, common elements or limited common elements within a condominium.

(c) Subdivide units, convert units into common elements or convert common elements into units.

(d) Withdraw real estate from a condominium.

(e) Make the condominium part of a larger condominium or planned community.

(f) Amend the declaration during any period of declarant control, pursuant to section 33-1243, subsection E, to comply with applicable law or to correct any error or inconsistency in the declaration, if the amendment does not adversely affect the rights of any unit owner.

(g) Amend the declaration during any period of declarant control, pursuant to section 33-1243, subsection E, to comply with the rules or guidelines, in effect from time to time, of any governmental or quasi-governmental entity or federal corporation guaranteeing or insuring mortgage loans or governing transactions involving mortgage instruments.”

ARS 33-1244 addresses the transfer of special declarant rights.  In it it states that a lender like Stearns Bank will succeed to all the special declarant rights [defined in ARS 33-1202] and that successor “is subject to liability only for his own acts in the exercise of those special declarant rights.”  However, nowhere in ARS 33-1202 do I see anything about renting out more than 20% of the condominiums.  If I am correct in this, then Stearns Bank by assuming a special declarant right to lease out more than 20% of the condominiums may forfeit it’s protection provided by ARS 33-1244 and subject itself to undesired liabilities.  I really really doubt that they did this.

Let’s assume for a moment that Stearns Bank succeeded the special declarant right to rent out all the condos (again I’m not sure that is the case) the question is whether or not that right would transfer to a new buyer of the condos.

In all my reading I saw nothing that said that the special declarant rights of a foreclosing bank transfer to a subsequent buyer nor would it make sense.  Read Brown’s article.  In it she states that the laws protecting lenders of failed condo buildings were designed to protect those lenders.  The idea was that by offering reasonable protection to condo lenders of failed buildings future condo lending would be preserved.  The laws were not designed to protect bulk buyers of busted condos from the condo lender.  Whoever buys the 75 condos is a buyer of, not a lender to, the condo complex.  For that matter I wonder if the laws even protect Stearns Bank.  After all, Stearns Bank is not the original lender but rather bought the construction note with government help when the original lender went under.  Hmmm.

Finally, if a buyer of the 75 units is not the developer, not the construction lender, not the buyer of the construction loan note then is he or she just a buyer?  And if so, isn’t that buyer subject to the same HOA rules that every other buyer/owner at Summit at Copper Square is subject to?  If the 90 people who already own condos there are not allowed to rent out more than 18 condos then why would the buyer of 75 condos be allowed to rent them all out?  And let’s not forget, if an investor does buy all 75 condos and rents them all out, then it will be impossible for the current owners to sell their condos as no bank will loan money on a building with so many rentals.  I would expect the current owners to fight this for sure.

Gang, I spent way more time researching this issue than I ever imagined I would.  And shoot I have more questions now than when I started this quest.  What’s worse is I’m not an attorney and despite my best efforts I don’t know if anything I wrote makes sense or is correct.  I do however wholeheartedly believe that there is one convoluted situation at Summit at Copper Square.  Please, if any of you have a different view on all this, chime in.  I’m anxious to read your input and I’m really anxious to see how things work out at Summit at Copper Square.