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What Is A Co-Op? Everything You Need To Know

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Published on February 19, 2020
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These days, uncommon homes are becoming more common. From RVs and houseboats to treehouses and tiny homes, people across the country are moving into properties that fall out of the “traditional” real estate market. But you don’t have to go to extremes to live outside of the conventional home. A co-op can be a great alternative and a less-expensive option for those looking to live a more condo-like life – enjoying the perks of homeownership without taking on such responsibilities as maintenance and repair. If you’re thinking about purchasing a co-op, read on to learn more about what it is, how it works and how to decide if it’s the right type of home for you.

Co-Op, Defined

A co-op (aka a housing cooperative) is a type of housing owned by a corporation made up of the owners within the co-op. The corporation owns the interior, exterior, and all common areas of the building. Instead of buying property as you would in a traditional real estate transaction, you’re buying a share of the corporation that controls the co-op, which entitles you to living space.

Co-ops are typically more common in crowded cities where the cost of living can be high. The Watergate in Washington, D.C. is probably the most famous example of a housing cooperative, but they’re most common in New York City. In fact, co-ops in New York outnumber more traditional condo units by a ratio of almost 3 to 1.

How Do Co-Ops Work?

When you buy into a co-op, instead of getting a piece of property with a standard deed, what you’re actually getting is a share in the project. Co-ops are typically managed without the aim of earning a profit, with every shareholder tenant sharing in the expenses for maintenance and services.

When it comes to the structure of co-ops, there are different ownership responsibilities to be aware of. The collective co-op association is responsible for the management of membership fees to cover building maintenance, property taxes, amenities and any underlying mortgages attached to the property and its units. Given that every tenant is a shareholder, all members of the association get to vote on co-op rules and on how the building will be managed. To help with the administrative work, a co-op board is typically elected from those in the association wishing to volunteer. Management companies are also often hired to aid the co-op with day-to-day decision-making.

What’s The Difference Between A Co-Op And A Condo?

Another common method of homeownership with a lot of common areas and a collective association is the condo. Before we go further, let’s discuss what they have in common and what sets them apart.

Similarities

Condos and co-ops are similar in a couple of ways. Both may have common areas, amenities and services provided by their respective associations that greatly add to the value of the property or co-op shares. Because of this, your lender will want to evaluate the viability of the association in order to make sure it can continue to meet its financial obligations and provide services in the long term. Many of the documents used to review the viability of a co-op association are similar to condo review documents. The process includes, but isn’t limited to:

  • Budget review
  • Insurance review
  • A review for compliance with ownership restrictions including that a single entity may only own a limited number of units, and 50% of the units must be occupied as a primary residence
  • Review of the blanket mortgage for the co-op if there is one
  • Bylaws

Differences

There are also a few noteworthy differences between condos and co-ops. In a condo, you have a deed, and you can actually own the physical property that is the condo. In a co-op, you don’t own the land or the property, but you own a share in the corporation that owns the co-op.

Another difference is in the approval process. The co-op board has to approve your joining of the co-op. The process may include both interviews and a review of your financial documentation. When buying a condo, individual applicants aren’t interviewed by the association.

Financial Distinctions

The financial payoff for a condo is equivalent to the potential for owning a house because you own the condo itself. With a co-op, the potential financial payoff depends on the way the co-op is structured.

In a market-rate co-op, members are allowed to sell their shares for whatever the market will bear when they decide to sell. These are generally the types of co-ops you can get a mortgage on because a lender knows they can base the value of the loan on the value of your share.

In a limited equity co-op, members are limited in how much they can earn from the sale of their shares. There are also group or zero equity co-ops in which no equity is earned at all. You can’t get a loan for these last two, and they are typically only used to provide affordable housing options at below-market rates. It’s important to know the way the co-op is structured so that you understand what you’re investing in.

The Pros And Cons Of Co-Op Living

There are a number of benefits and drawbacks to be aware of when it comes to living in a co-op. Make sure you consider these before you decide to live in one.

Benefits

Many benefits of living in a co-op are the same as the those for owning a home or any other piece of real estate. With that in mind, this section will go over things that are unique to co-op living.

For starters, it may help you find cheaper housing in busy metropolitan areas. Because they’re structured as nonprofit corporations, co-ops run at cost. With no profit motive, it’s cheaper to live there in many cases than with other housing options.

As an example, let’s take a look at the price difference between the average condos and co-ops in the admittedly expensive Manhattan real estate market. For the last quarter in 2019, the average price per square foot was $1,147 for co-ops compared to $2,067 for condos. That’s about a 55% price difference, according to the Elliman Report.

Real estate prices obviously depend on the number of rooms in the unit as well as the exact area you live in, so the numbers will vary from borough to borough and neighborhood to neighborhood, but this will give you a good baseline of comparison.

There are tax benefits with co-ops as well. You can deduct interest on your loan for your share of the property. You can also deduct your share of the interest on the blanket mortgage the co-op has for the building. However, there are limits on this deduction. For any real estate purchased after December 15, 2017, mortgage interest can be deducted on property values up to $750,000 for joint filers, and $375,000 if you are married and filing separately. If you purchased your home prior to that date, you’re grandfathered in under the old limits of $1 million in terms of property value.

You may also be able to deduct maintenance fees as long as they are for maintenance and not property improvement. The IRS has guidelines, but they get a bit complicated, so we always recommend speaking to a tax adviser or the IRS if you have any questions. The IRS can be reached at (800) 829-1040.

Finally, you can deduct your share of state, local and property taxes up to a combined total of $10,000 (or $5,000 if married filing separately).

Drawbacks

To begin with, you have to follow the co-op association’s rules. This somewhat limits your autonomy with regard to what you can do with your co-op and the procedures you have to follow. Make sure you’re clear on what those rules are going in.

You’ll have to contribute to monthly maintenance fees equally shared among all the co-op apartment tenants. The cost of this fee can vary quite a bit depending on building size and what’s included within the maintenance fee, but it may include your share of the following:

  • Any underlying mortgage on the building
  • Your share of state and local real estate taxes
  • Upkeep for the building (anything from the heating system to the roof)
  • Building amenities and the union status of the staff also has an impact

How To Buy A Co-Op Share

In order to buy shares of a co-op, there are three distinct pieces of the process that take place simultaneously. First, there’s the issue of getting approved for a loan. This review has the same criteria as a traditional mortgage. A lender will look at income, the purpose of the property and its value, as well as your assets and credit.

The second piece of the process is the lender’s review of the co-op association to determine its stability. Although not exactly the same, the review process has a lot in common with a lender’s review of a condo. One important difference, though, is that all co-op construction must be 100% complete to get a loan for your shares through Quicken Loans. Other than that, the review for budget, insurance policies, and bylaws is very similar.

The final piece is particularly unique to co-op transactions: you often have to apply for approval before the co-op board, which may include an interview as well as a financial background check.

However, co-op members can only reject your application for certain reasons because they have to comply with the Fair Housing Act. This means they can’t turn you away on the basis of race, religion, disability, etc. In general, the association will ask about two things:

  • They’ll want to know that you agree to comply with the rules of the association.
  • They may review your finances and credit in order to determine if you can uphold your share of the expenses.

One thing to be careful about here is that you often cannot get financing for co-op associations where the association has restrictions on who you can sell to. Quicken Loans®, for instance, doesn’t finance transactions with transfer restrictions.

If you’re looking for a realistic way to live in a bustling metropolitan area or want to enjoy homeownership without all of the additional responsibilities, a co-op may be a good option for you. But remember, you have to play by the association’s rules. Take the time to weigh the pros and cons and make sure you’re able to get the financing you need. At this time, Quicken Loans only finances co-ops in New York in areas where co-ops are common, so if you’re ready to purchase a co-op in New York, apply online to get started today.

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