So You Think You’re Not the Developer of That Condo Hotel – Think Again!
Successor Condominium Hotel Developer Considerations Under the Florida Condominium Act
Over the past year, the Florida real estate market – along with many other markets – has seen a significant increase in the number of lenders foreclosing on construction loans secured by distressed condominium hotel projects, as well as an increase in bulk purchases of units within these projects. These scenarios raise the important question of whether the lender or the new owner of the units within a condominium hotel project (which may or may not continue as a condo hotel) is considered a successor developer under Chapter 718, Florida Statutes (the Florida Condominium Act or the “Act”) and/or Chapter 61B, Florida Administrative Code (the “Regs”). Not only is the law unclear in many instances, it also varies depending on whether this question is considered in terms of filing requirements, warranty liabilities or the obligation to relinquish control of the condominium association to the unit owners. It is also important for lenders and bulk purchasers to understand the liability they may incur with respect to condominium assessments. This article will look at each of these scenarios to evaluate whether the proud new owner of the condo hotel units will be faced with some unintended consequences. The issues in this regard are the same for condo hotels and residential condominiums. A branded condo hotel or branded residential project will also have additional potential problems relating to the loss of the brand, which in turn will create some very unhappy unit purchasers. Those issues are beyond the scope of this article.
An overview of selected statute sections is necessary in order to determine whether an entity acquiring title to condo hotel units becomes a successor developer.
Section 718.103(16) of the Act – Developer defined
Developer is defined as “a person who creates a condominium or offers condominium parcels for sale or lease in the ordinary course of business, but does not include an owner or lessee of a condominium or cooperative unit who has acquired the unit for his or her own occupancy … .” (emphasis added).
Rule 61B-15.007 of the Regs – Successor Developer defined for filing purposes only
A successor developer for filing purposes is “any person, other than the creating developer or concurrent developer, who offers condominium parcels for sale or lease in the ordinary course of business.”
Rule 61B-15.007 of the Regs – Ordinary Course of Business defined for filing purposes only
Offering condominium parcels in the ordinary course of business means that a person “offers more than 7 parcels, or for condominiums comprised of less than 70 parcels, where that person offers more than 5 parcels in the condominium within a period of 1 year; or … participates in a common promotional plan which offers more than 7 parcels within a period of 1 year. A person is not, however, deemed to have participated in a plan merely by virtue of providing financial contributions or professional or brokerage services.”
Rule 61B-15.007(3) of the Regs – Exception to Successor Developer rule for filing purposes only
The exception to being a successor developer for filing purposes provides that one is not offering units in the ordinary course of business for filing purposes, and therefore not a successor developer for filing purposes, “where all units are offered and conveyed to a single purchaser in a single transaction.” The rule gives the following example: “An example of such a transaction would be a financial lending institution receiving title to a number of condominium units through foreclosure or deed in lieu of foreclosure and then conveying all of such units to another person. In such circumstances, the lending institution would not be deemed to be a developer for filing purposes. However, such entity shall, upon the conveyance to a single purchaser, notify the division in writing of the identity and business address of the purchaser, the name of the condominium involved, the date of the conveyance and the number of units conveyed.”
Rule 61B-15.0011 of the Regs – Offer defined for filing purposes only
Offer is defined as any “advertisement, inducement, solicitation, or attempt to encourage any person to acquire an interest in a condominium unit, either proposed or existing, if undertaken for gain or profit.”
Rule 61B-23.003(7)(c) of the Regs – Assignment of Developer Rights for purposes of this rule only
An assignment of developer rights refers to a “written agreement whereby the current developer expressly transfers to the grantee or transferee all developer rights and existing obligations under the declaration of condominium, including any exhibits thereto; under [the Act], including the provisions of Section 718.203 [warranty obligations]; and under these rules.”
Are You a Developer for Filing Purposes?
Initially, we address whether a person or entity acquiring title to condominium hotel units is a developer for purposes of filing under the Act. If the person or entity is a developer for purposes of filing under the Act, a series of documents must be submitted to the Division of Florida Condominiums, Timeshares and Mobile Homes (the “Division”) prior to the developer accepting contracts for the sale of condominium hotel units within the project, and these documents must be approved by the Division prior to transferring title to the units from the developer.
The definition of developer in the Act is quite broad and appears to include any person or entity who offers condominium hotel units for sale or lease in the ordinary course of business. Nevertheless, in 1985 (in response to First Federal Savings and Loan Association of Seminole County, etc. v. Department of Business Regulation, Division of Florida Land Sales and Condominiums, 472 So.2d 494 (Fla.App. 5 Dist. 1985)) which was decided earlier in 1985), Rule 61B-15.007 of the Regs was passed, which provides that for purposes of filing, there is a tighter definition of developer.
Rule 61B-15.007 of the Regs provides that there are three types of developers for filing purposes:
1) a creating developer
2) a successor or subsequent developer
3) a concurrent developer
Whether a person or entity is a “successor developer” for filing purposes has created much discussion over the past year or so. Under the Regs, a person or entity is a developer for filing purposes if the person or entity is offering condominium hotel units for sale or lease in the ordinary course of business (meaning most commonly, offering more than seven parcels within a period of one year), unless the person or entity falls within the exception set forth in Rule 61B-15.007(3) of the Regs (commonly referred to as the bulk purchaser exemption).
Therefore, a lender or any other entity who simply offers and conveys all units which it owns to a single purchaser in a single transaction is not a developer for filing purposes. The answer may become a bit more convoluted if the lender or other entity, while offering all units to a single purchaser, implements or continues a leasing program, as opposed to a rental management program for unit owners. It would be a reasonable position to take that the lender or other entity is not a successor developer for filing purposes if all that is being offered are short-term leases which are not subject to the actual filing requirements of Section 718.502 of the Act (entitled “Filing Prior to Sale or Lease,” which filing requirements apply to offers of condominium hotel units for sale or for lease for more than five years). This conclusion is not clearly addressed in the Regs and may be disputed by the Division or members of a condominium association.
Finally, it is important to note that on its face, Rule 61B.15.007 of the Regs only applies when determining whether an entity or person is a developer for filing purposes, but not whether such entity or person is considered a developer for other purposes under the Act. Rule 61B.15.007 of the Regs should therefore not be relied upon for purposes of evaluating whether warranty liability arises or turnover of the condominium association is triggered by a sale. For those answers, we turn to other provisions in the Act and the Regs.
Are You a Developer for Purposes Other Than Filing?
Just because a person or entity is or is not a developer for filing purposes does not automatically mean that the person or entity is or is not a developer for all other purposes under the Act, such as turnover requirements under Section 718.301 of the Act and warranty liability under Sections 718.203 or 718.618 of the Act. To answer the question of whether a person or entity is a developer under the Act for purposes other than filing, we must return to the definition of developer under Section 718.103(16) of the Act.
The definition under the Act casts a wide net and includes any person or entity who is offering units for sale or lease in the ordinary course of business. For non-filing purposes, one is not obligated to turn to Rule 61B-15.007 of the Regs to determine what constitutes “ordinary course of business,” since that regulation applies to filing requirements only. However, the Court in Riedlinger v. Rousset, 910 So.2d 302 (Fla.App. 2 Dist. 2005) did just this when it determined that Riedlinger was not a developer for purposes of placing certain disclosures in the contract. Since “ordinary course of business” is not defined elsewhere in the Act or the Regs, it is understandable that a judge would look to Rule 61B-15.007 of the Regs for guidance as to what “ordinary course of business” means with respect to condominium offerings. However another reasonable position would be to look instead to Florida case law or Black’s Law Dictionary, which defines “course of business” as “[t]he normal routine in managing a trade or business.” Black’s Law Dictionary 356 (7th ed. 1999). Similarly, one would also need to review the definition of “offer” as it is defined in Black’s Law Dictionary or Florida case law (although again a judge may look to Rule 61B-15.0011 of the Regs, which defines “offer” for filing purposes).
A lender would presumably be able to avoid being a developer if the lender is able to establish that its actions are not for gain or profit or that it is not acting within the ordinary course of its business. However, it seems that a plausible argument can be made that a lender who is selling condo hotel units to a bulk buyer for profit is a developer for all purposes under the Act, except filing purposes because of the bulk purchaser exemption set forth in Rule 61B-15.007(3) of the Regs.
Warranty Obligations Under the Act
The biggest issue that is not on everyone’s minds, but should be, is: “Am I going to be responsible for warranty liabilities?” Under Sections 718.203 and 718.618 of the Act, a developer (as defined in Section 718.103(16) of the Act) is deemed to have granted implied warranties of fitness and merchantability on a broad spectrum of components within the condominium, including condo hotel units, structural, mechanical and electrical components, roofs, common elements and improvements located thereon. Warranty liability (not only with respect to improvements to be constructed by the new developer but also for improvements constructed by the previous developer), can potentially result in significant economic liability for a developer. When negotiating the terms of a bulk purchase or an agreement in lieu of foreclosure, it is recommended that the new owner obtain a written acknowledgement from the previous developer stating that the previous developer remains responsible, from a warranty standpoint, for improvements constructed by the previous developer. An indemnity from the previous developer should also be obtained. It is worth noting however, that both the acknowledgement of liability and the indemnity are not binding on a third party or individual condo hotel unit purchasers, and are only as meaningful as the net worth of the party providing the acknowledgement and/or indemnity.
Turnover of the Condominium Association
Section 718.301 of the Act provides that “unit owners other than the developer are entitled to elect not less than a majority of the members of the board …” when any of the following circumstances arise:
(a) Three years after 50 percent of the units that will be operated ultimately by the association have been conveyed to purchasers;
(b) Three months after 90 percent of the units that will be operated ultimately by the association have been conveyed to purchasers;
(c) When all the units that will be operated ultimately by the association have been completed, some of them have been conveyed to purchasers, and none of the others are being offered for sale by the developer in the ordinary course of business; [Note that in this scenario, turnover will be triggered if a developer ceases its sales effort]
(d) When some of the units have been conveyed to purchasers and none of the others are being constructed or offered for sale by the developer in the ordinary course of business; [Note that in this scenario, turnover will be triggered if a developer ceases its sales effort]
(e) Seven years after recordation of the declaration of condominium ...; or, in the case of an association operating a phased condominium created pursuant to 718.403 of the Act, 7 years after recordation of the declaration creating the initial phase.
Note that in the condo hotel context, the operation of a rental management program by the developer does not delay turnover of the condominium association.
Rule 61B-23.003(7) of the Regs, entitled “Transition from Developer Control” is intended to provide further guidance with respect to how sales to bulk purchasers impact the timing of turnover. It is an extremely complicated sub-section, which at times may create more confusion than clarification. Sub-section (7) provides that for purposes of computing the percentage of units conveyed to purchasers under subsection (a) and (b) above to determine whether turnover has been triggered, units sold or transferred in a bulk transfer (defined for purposes of this rule as two or more units transferred to the same person) count towards the number of units conveyed unless the transfer is accompanied by an assignment of developer rights (as defined in Rule 61B-23.003(7)(c) of the Regs).
Therefore, turnover can potentially be delayed by virtue of an assignment of developer rights, although an assignment of developer rights may not be desirable to the buying person or entity because (i) that person or entity is then a developer for all purposes under the Act and the Regs irrespective of whether they would otherwise fall within the definition of developer and (ii) that person or entity is not entitled to vote after turnover to reacquire control of the board.
If there is not an assignment of developer rights, then the bulk transfer units will count towards calculating the percentage of units sold for purposes of turnover of control of the condominium association. In instances where the sale results in 50 percent or 90 percent of the units, as applicable, being transferred, then Rule 61B-23.003(7)(e) of the Regs states that if you are not a developer for filing purposes, you will be entitled to vote for a majority of the board. Instead, if you are a developer for filing purposes and do not receive an assignment of developer rights, then pursuant to Rule 61B-23.003(7)(f) of the Regs, you will only be entitled to vote for a majority of the board for so long as you are offering units for sale in the ordinary course of business.
Are You Obligated to Pay Assessments?
Oftentimes, the original developer elects to guarantee the assessments due and payable by individual condo hotel unit owners within a condo hotel regime for a certain period of time (“guarantee period”). The Act allows developers to not pay assessments on units owned by the developer during the guarantee period, so long as the developer deficit funds during the guarantee period (i.e., pays any shortfall between assessments collected from other unit owners and the actual expenses incurred by the condominium association). When a lender or bulk purchaser takes title to the original developer’s units, the lender or bulk purchaser is only entitled to continue deficit funding (as opposed to paying assessments on units acquired by the lender or bulk purchaser), if the lender or bulk purchaser becomes a successor developer. Depending on the number of units acquired by the lender or bulk purchaser, it would not be uncommon for the cost of paying assessments on the acquired units to exceed the cost of deficit funding. This may be an insignificant issue in many condo hotel regimes because typically the condominium association budget is a bare bones budget with very few expenses, as a result of the primary expenses associated with the project (such as insurance, building maintenance, operation and repair expenses, landscaping, services, etc.) being included in a “shared facilities” budget that is controlled by the commercial hotel unit rather than by the condominium association.
In addition to regular condominium association assessments, the lender or bulk purchaser may also be obligated to pay a working capital contribution to the condominium association depending on the requirements of the particular condominium documents and on whether the lender or bulk purchaser is deemed to be a developer.
Lastly, with respect to lenders only, a lender who forecloses on one or more condo hotel units should also be aware that if there are unpaid assessments which became due on a unit prior to the lender’s acquisition of title to the condo hotel unit, the lender will be responsible for the lesser of the unit’s unpaid regular assessments which accrued or came due during the six months immediately preceding the acquisition of title, or 1 percent of the original mortgage debt. See Section 718.116(1)(b) of the Act. The provisions of this section of the Act only apply if the first mortgagee joins the condominium association as a defendant in the foreclosure action. All buyers other than lenders, including bulk purchasers, will take title subject to all outstanding condominium association assessments.
Since Section 718.103(16) of the Act governs whether one is a developer under the Act (for purposes other than filing, which is governed by Rule 61B-15.007 of the Regs), the conclusion as to whether a person or entity is a developer for purposes other than filing must be uniformly applied throughout the Act, meaning there appears to be no basis for a person or entity to be a developer for purposes of avoiding turnover but not to be a developer for purposes of warranty liability. This does not mean that a person or entity could be considered a developer under the Act but not a developer under the Regs or vice versa. There is no doubt that there are unanswered questions in the Act and the Regs that should be addressed by the legislature, or if not, will likely one day be addressed by the Florida courts, as developers and lenders continue to face successor developer filing, turnover and warranty issues on distressed and failed condominium hotel projects.
While beyond the scope of this article, in branded condo hotel projects, the brand, whether only acting as the licensor or acting as the hotel manager, will have the right to be involved and approve virtually all the areas discussed in this article.