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Publication Date: Summer 2000
Every autumn, the Council of
New York Cooperatives & Condominiums holds its information-packed
day-long Housing Conference at Hunter College, where scores
of workshops and seminars present unparalleled opportunities
for board members in cooperatives and condominiums to learn
and to share information on every aspect of operating their
buildings. This year's Conference will be held on Sunday,
November 12th. The conference brochure is inserted opposite
page 10 of this Newsletter. The following article, providing
an overview of the why's and wherefore's of subletting, is
based on information presented at a workshop at the 19th Annual
Housing Conference by Morton H Rosen, a partner in the law
firm of Rosen & Livingston. Mr. Rosen will recreate this session
at the 20th Annual Conference.
SUBLET
ISSUES
Few issues raise more questions and contention than subletting.
What is a sublet? Who can sublet and for how long? What fees
can the co-op assess? And should a cooperative -- which some
might argue is a place where shareholders should live together
to make a better home for all -- allow subletting at all?
Attorney Morton Rosen took on these
and other questions in his workshop entitled Sublet Issues.
While sublet policies come in many forms, he asserted, the
best policies are those that are mindful of case law, shareholder
needs, and "the complicated and creative nature of your fellow
human beings."
TO ALLOW OR NOT ALLOW SUBLETS
There are any number of arguments against allowing sublets
to run rampant in your cooperative. Among them, said Mr. Rosen,
are:
- Security/familiarity of neighbors.
While rentals and some condominiums (where owners are free
to sublet their units) can feel more like a hotel than a
home when neighbors change often, people tend to gravitate
to cooperatives for their homey stability.
- Quality of Life. Shareholders have
an equity stake in their building and, presumably, take
better care of it than subtenants who don't have the same
proprietary interest in the building.
- Difficulty with financing. Cooperatives
with too high a percentage of sublets may not be able to
borrow money or refinance their underlying mortgages except
at rates substantially higher than market. Purchasers may
not be able to secure share loans, or, if they are able
to, it can be at premium rates. Fannie Mae, Freddie Mac
and the FHA require high tenant owner occupancy, said Mr.
Rosen.
This does not mean buildings should
ban sublets in exchange for borrowing power. In the past,
if owner-occupancy was under 30%, there was little chance
of securing a loan. Today, however, lenders take a broader
look at a number of specifics: who the owners are, if they
are pledged to other lenders, and if the first mortgage is
sufficient to cover the maintenance and operating costs of
the building. Of course, he added, a building with 50% owner
occupancy or better can generally get pre-approved for share
loans.
On the flip side of the subletting issue
is the human factor. People, from time to time, simply find
themselves with little other choice than to sublet their apartments.
In other than the current real estate markets, explained Mr.
Rosen, sublets were "a necessary safety valve for shareholders."
In the late 1980s and early 1990s, most apartments were difficult
to sell at their conversion prices. This turned into a nightmare
for many shareholders who had to leave their apartments because
of a job transfer, problems with their health, or simply because
their families had outgrown the apartment. As a result, many
cooperatives loosened their policies to assist these shareholders
and spare them having to default on their share loans. And
while the current market is strong, a downturn will happen
again, warned Mr. Rosen.
To keep subletting from overtaking
the building, most cooperatives that allow subletting limit
the term of the sublet. For example, they may only allow shareholders
to sublet a unit for two years in any five year period. This
is often enough to bail out a shareholders who may have been
uprooted suddenly, but not long enough to make sense for a
shareholder who wants to turn his apartment into an income-producing
rental. Some other examples of sublet policies are:
Set an absolute prohibition of subletting
(if the governing documents so permit).
Adopt numerical ceiling on the number
of sublets permitted in the building at any one time. When
the number of sublets reaches the ceiling, all sublet applications
are rejected until such time as the number of subtenancies
falls below the ceiling. This will ultimately occur because
sublets which expire will not be renewed. Once the ceiling
requirement is met, adopt a first in/first out policy with
the granting of further sublet applications (e.g., if a renewal
is requested by a person who has been subletting for many
years at the same time as a request from a person who has
not yet sublet, the veteran subletter will not be permitted
to renew while the new subletter will be granted the right).
- Require that tenant shareholders
reside in the building for a prescribed number of years
before being permitted to sublet.
- Impose a limit on how long any one
tenant shareholder can sublet a unit within a specific time
period (e.g., no more than one year in any consecutive three
year period).
- Hardship criteria. This is adopted
to prevent non-essential subletting (investment subletting).
What constitutes a hardship is up to the board to decide.
SETTING A SUBLET FEE
If your building allows subletting, it can help defray costs
and deter wholesale renting by levying a sublet fee, if the
board is granted authority to impose such a fee by the proprietary
lease and bylaws of the cooperative. However, Mr. Rosen cautioned
that the following typical bylaw provision does not permit
the cooperative to impose a sublet fee beyond the cooperative's
actual expenses of approving the sublet:
- Section 5. Fees on Assignment. The
Board of Directors shall have the Authority before an assignment
or sublet of a proprietary lease or reallocation of shares
takes effect to fix a reasonable fee to cover actual expenses
and attorneys' fees of the corporation and other relevant
costs.
The amount of the sublet fees a building
may charge, however, has been the subject of much legal wrangling.
Consider the following examples:
- The Bailey Case. Mr. Bailey wasn't
able to afford his apartment on the Grand Concourse in the
Bronx. He asked the board for permission to sublet. The
board said he had to pay a third of his maintenance up front
for the period of the sublease, which was two years. Since
Mr. Bailey couldn't make this payment, he was turned down.
Unable to pay his maintenance or bank loan, he went into
foreclosure. Bronx Legal Aid sued on his behalf, and the
court found that the board had charged far more than the
governing documents allowed. Ultimately, the cooperative
paid a considerable amount of money.
- The Hotel des Artistes Case. The
cooperative, whose board believed that it had too high a
percentage of subtenants, decided to charge a sublet fee
even though there was no wording in the proprietary lease
or bylaws to authorize such a fee. The cooperative began
a 33% maintenance surcharge on sublets. Subletting shareholders
took issue and hired an attorney. The court found that the
board had no right to charge the fee, asserting that it
had acted beyond its corporate authority, and the cooperative
was compelled to refund all sublet fees.
A cooperative can change its bylaws
to permit sublet fees by a majority vote of the board (unless
your particular documents specify differently). Courts have
upheld fees as high as 60% of the maintenance, though many
experts think this figure is too burdensome on subletting
shareholders, said Mr. Rosen, noting that there's more to
the issue than the amount of the fee. "What's most important
is the need to be clear and consistent in the lease and bylaws
when charging a fee. When there are anomalies which give extreme
powers to the cooperative and which are exercised unreasonably,
problems do arise."
CONSIDERING SUBLET REQUESTS
As with prospective purchasers, the board has the right to
deny sublet applicants without having to give a reason. The
only time a board will have to defend its decision is if it
is challenged in court or by the Human Rights Commission.
This usually occurs when there is a claim of discrimination.
Most boards will look at the applicant's
financials, judging whether he has the ability to pay the
sublet rent to the shareholder who will continue to be responsible
for maintenance payments to the cooperative. As part of the
due diligence process, the board should have the managing
agent contact the applicant's present landlord or the landlord's
building manger to see what kind of tenant he is. Boards may
also opt for a Renters Reference report, which includes speaking
to past neighbors, as well as the standard credit check. Written
authority from the sublet applicant is required for these
background checks.
Overall, the secret to creating and
administering a sound and fair sublet policy is to remember
that it "does not need to be written in stone," said Mr. Rosen.
"The Board should be flexible enough to meet the tenants'
needs. Human beings are complicated and creative. There are
only so many rules to control people's conduct. Use common
sense and compassion; recognize that this is your neighbor
and not your enemy."
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