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Apartments Rising – Condo Caution

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By on Mar 23, 2013 in All Topics, Claims, Newsletters |

One of the growth segments in the construction industry today is apartments. Apartment projects across the country are rising and are expected to continue through 2014. Particularly in hot markets including Washington, D.C, New York, Chicago, Los Angeles, and Atlanta. To meet demand, industry experts expect 235,000 units to be built in 2012, followed by 285,000 in 2013 and 320,000 in 2014.

Rental Vacancy Rate
Driving the need for apartments is the vacancy rate. In 2009, the national rental vacancy rate was at 8%. Today, the vacancy rate is at 4.7%, the lowest level since the end of 2001. That is down from 4.9% from the first quarter of 2012. This is only the third quarter in three decades that the vacancy rate has fallen below 5%. Values of apartment buildings are quickly rising.

Record Level Rents
Because of tighter lending standards and higher down payment requirements for mortgages, renting has become the only option for many. Rents have increased even in markets hit hard by the economic downturn. Cities such as Las Vegas and Phoenix had increases of 1% in the second quarter of 2012. Average rents have increased in 82 markets tracked by Reis Inc., a real estate data firm. Rents are at record levels in 74 of those markets with over $1,000 a month rental average in 27 locations including Miami, Seattle, San Diego, Chicago and Baltimore. New York City had the biggest increase in the second quarter with an average rent of $2,935 a month, up 1.7%.

Condominium Projects & Claims
Based on industry claims data, including a recent SmartRisk survey, condominium projects continue to be one of the most litigious project types. Twenty eight percent (28%) of claims were condo related in the law firm survey. From an industry-wide perspective, multi-family, condo projects constitute for five percent (5%) of design fees but 20% of the total losses. The most frequent claim categories for condo projects involve; foundations, roofs, waterproofing, soundproofing and HVAC.

The risk on condo projects increases even further when they are initially designed and built as rental properties. In most cases, apartments fail to match the construction strength of an originally designed and constructed condominium project. There are many differences between an apartment and condominium. Apartments routinely have thinner walls, smaller separation set out between the floors, and lower quality insulation impacting soundproofing.

Condominium Risk
If you are designing an apartment project that has the possibility of being converted into condominiums, or a builder that has decided to build condos instead of apartments, there are certain precautions you should take. First, you must understand the inherent risks associated with condominium projects. These risks relate to the community environment; the individual unit owners and the homeowner association (HOA). Homeowners who generally move into these communities are first time buyers, or owners down sizing from single-family homes. Many have unrealistic expectations and a lack of understanding of what they are buying, the limitations, and their responsibilities in maintaining the property. These concerns can be managed by including clear duties and responsibilities in the association and homeowner documents that binds homeowners and the HOA. Topics include; property inspection, acceptance of conditions, right to inspect, right to repair, pre-litigation process, certificate of merit, maintenance responsibilities and others.

Contract Language Considerations
To help protect yourself, other project team members as well as the developer, it is recommended that specific language is included in your contract agreement. This approach includes apartment projects that may be converted to condominiums at a later date, or a condominium project planned from the beginning. Consider contract language similar to the following for apartment to condo conversions.

CHANGE IN PROJECT USE – Client shall waive any claims against CONSULTANT, defend CONSULTANT against any claim and indemnify CONSULTANT for any costs, loss, or damage to CONSULTANT resulting from any claims brought by any party against CONSULTANT related to any change in use of the project. Client agrees that this obligation shall survive the termination of this Agreement.

More direct and specific language:
CONDOMINIUM PROJECT OR CONVERSION – The Client acknowledges there are inherent risks in condominium projects. Therefore, the Client agrees if the project is converted from apartments to condominiums (or built as condominiums), the Client shall include in the Project’s “Declaration of Condominium,” the condominium’s by-laws, individual unit purchase agreements, and/or similar documents, inspection requirements by owner prior to purchase, maintenance requirements of individual owner and the Homeowners’ Association (HOA), right to repair, right to inspect, pre-litigation process, certificate of merit and other risk mitigating practices for condominium projects. The Client further agrees to the fullest extent permitted by law, to indemnify and hold harmless the CONSULTANT, its officers, employees and consultants (collectively, “the CONSULTANT) against all damages, liabilities or costs, including reasonable attorney’s fees and defense costs, arising out of any claim for design or construction defects brought by a homeowner or the HOA, for up to ten years after completion of the Project, except to the extent that the CONSULTANT’s negligence or willful misconduct is a proximate cause of the claim.

Conclusion
The decision to provide design services for condominium projects should be made carefully. The implementation of a coordinated and comprehensive risk management plan by both the developer and design professional is essential to reduce risk on these projects. Each party must understand those risks and work together to proactively mitigate exposures.

Developing the contract is a critical step with defining the project and outlining the roles and responsibilities of the parties. The above contract language should be used only as examples. Each firm should develop their own contract language based on their individual needs and circumstances.