Bankruptcy Is a Game Changer for Homeowner Associations
Financial distress often leads to unpaid homeowner association dues, which in turn places tremendous stress on the paying members of the homeowner association (HOA). Without a reliable stream of income, HOAs are unable to manage and maintain common areas and amenities in the community they serve. This problem is particularly acute in Florida where beachfront high rises and master-planned communities dot the state’s landscape.
A bankruptcy filing by a delinquent homeowner further strains the HOA model and puts the operations of an HOA at risk. While legislative efforts have attempted to reduce HOAs’ risks of loss, bankruptcy throws a Major League curve ball at the HOA’s efforts to enforce its expected rights. Multiple homeowner bankruptcies and defaults in a single community jeopardize loans and funding options further. For example, Fannie Mae will not guarantee loans or refinance in condominium complexes when more than 15 percent of the homeowners are 30 days or more past due on association fees.
It is essential that HOAs and their advisors understand and plan for the possible impairment of rights when homeowners file bankruptcy, which is not that different from formulating a winning baseball strategy. First, an HOA must assess the field. An HOA’s liens, priorities and enforcement rights are governed by the Florida Statutes, which give an HOA a major home field advantage. Next, an HOA must formulate a winning lineup that includes reviewing and recording a declaration of covenants, conditions, and restrictions, closely monitoring defaults, and timely filing liens for unpaid assessments timely. Finally, like a seasoned hitter, associations must recognize and negotiate curve balls that will be thrown once a homeowner files bankruptcy and the bankruptcy court cries “play ball.” Bankruptcy comes with its own playing field and has ground rules more complicated than the catwalks at Tropicana Field. An association that takes its eyes off the ball risks striking out without receiving what it is owed.
An Association’s Lien Priority: Who’s on First?1
Together, a declaration of covenants, conditions, and restrictions, or “declaration” for short, and F.S. Chs. 718 and 720, constitute the “playbook” that guides the association-homeowner relationship in Florida. The declaration typically grants an association a continuing lien for unpaid dues that has priority as of the date the lien is recorded in the public records. Some state statutes allow for a “super-priority” provision that gives an association a lien for unpaid dues that relates back to the date of the recording, rather than the date such lien is recorded. For example, F.S. §720.3085(1) provides:
When authorized by the governing documents, the association has a lien on each parcel to secure the payment of assessments and other amounts provided for by this section. Except as otherwise set forth in this section, the lien is effective from and shall relate back to the date on which the original declaration of the community was recorded. However, as to first mortgages of record, the lien is effective from and after recording of a claim of lien in the public records of the county in which the parcel is located. This subsection does not bestow upon any lien, mortgage, or certified judgment of record on July 1, 2008, including the lien for unpaid assessments created in this section, a priority that, by law, the lien, mortgage, or judgment did not have before July 1, 2008.
In plain terms, this means an association’s lien can trump other security interests even if they were recorded first. For obvious reasons, this super-priority status is a concern for first mortgage lenders who rely on their superior position when making loans to homeowners. According to F.S. §720.3085(1), an association’s lien for unpaid dues is superior to a first mortgage lender only if an association carefully follows the rules.
First, an association must record its declaration in the public records and the declaration must specifically grant the association a lien for unpaid assessments that relates back to the date of the recording. Second, an association must provide the requisite 45-day notice to the homeowner of a delinquency, and after the notice period expires, the association must record a claim of lien in the public records.2 Third, the first lender’s security interest must have been recorded after July 1, 2008.3
A mortgage lender must carefully review a recorded declaration because not all declarations are created equally. Some declarations do not include a relation-back provision because they tend to reduce liquidity by threatening a mortgage lender’s primary interest in collateral. For this reason, some construction lenders require developers to include subordination provisions in declarations to prevent an association from priming their interests, and these subordination provisions usually carry through permanent financing to maintain an even playing field, stabilize liquidity, and incentivize lending.4 In this scenario an association’s lien for delinquent assessments would relate back to the declaration recording date and would take priority over all other interests except for the first mortgage lender.
Associations with subordinated liens are not called out at the plate — they are still entitled to foreclose their interests subject to a lender’s mortgage.5 At foreclosure, an association may purchase the parcel and hold, lease, mortgage, or convey as it wishes.6 To prevent homeowners from selling their homes to avoid paying assessments, Florida law provides that a subsequent owner remains jointly and severally liable with a previous owner for all unpaid assessments that came due up before the transfer of title.7 This provision creates a de facto due-on-sale clause by placing the burden on a buyer to recognize the delinquency and recover the unpaid fees from the seller, usually through a reduction in the sales price.
An association should not rely on this joint liability provision to fully protect itself when a homeowner has a poor batting average in paying dues. According to Florida law, an association’s right to recover unpaid dues from a lender that acquires title to property through foreclosure is limited to the lesser of 1) the unit’s unpaid common expenses assessments that accrued or came due during the 12 months immediately preceding the acquisition; or 2) 1 percent of the original mortgage debt.8 This provision strikes an important balance between protecting an association from escalating unpaid assessments and limiting a lender’s potential liability for its borrower’s misdeeds, thereby improving predictability in the marketplace. Not surprisingly, an association is motivated to take quick action against delinquent homeowners or risk losing months of assessments when a lender forecloses.
An Association’s Home-Field Advantage
When it comes to recovering unpaid fees, Florida laws give an association the home-field advantage. In addition to obtaining a lien, possibly with priority, on a homeowner’s real property, an association is entitled to recover reasonable attorneys’ fees incurred to enforce its rights.9 Unpaid assessments also bear interest at the rate provided in the declaration or the association bylaws, and if those are silent, at 18 percent per year.10 An association is also entitled to charge an administrative late fee not to exceed the greater of $25 or 5 percent of the amount of each past-due assessment in accordance with the declaration or bylaws.11
Therefore, provided the declaration and bylaws adequately provide for these fees, an association has a real collection advantage. An association has a lien on a homeowner’s real property and for unpaid assessments and for most of the costs of collecting them. Failing to timely pay dues can leave a homeowner out in left field facing debt that easily doubles the original amount of the unpaid fees.
Associations must beware, though. A homeowner’s bankruptcy is a game-changer that rewrites the rules and tips the advantage into the homeowner’s favor by reducing the potential for a full recovery and requiring an association to wait in line with all of the homeowner’s other creditors.
Bankruptcy is a Game Changer
• Rain Delay: Acts Prohibited by the Automatic Stay — Homeowners facing a downpour of debt are generally unable to continue paying creditors, including associations, what they are owed. The bankruptcy code’s automatic stay provision12 delays collection activities long enough to allow homeowners to get their financial affairs in order. During this delay, all creditors, including condo and homeowner associations, are prevented from pursuing a homeowner for delinquent fees. They likewise cannot commence judicial or administrative proceedings, attempt to enforce a judgment, exercise control over property, create, enforce, or perfect a lien, or even assess a homeowner for fees arising before the commencement of the bankruptcy.13
The automatic stay is strictly enforced to require a full stop on an association’s collection activities and even prohibits sending an invoice for unpaid dues or calling the debtor for payment. The automatic stay also prevents not-so-obvious actions of enforcement or collection. For example, while a condo association may have the right to suspend a unit owner’s use of recreational facilities when the owner is more than 90 days delinquent,14 associations may not suspend the rights of a unit owner in bankruptcy. In a case in the Southern District of Florida, a condo association suspended an owner’s internet service and deactivated his access to recreational amenities pursuant to the Florida Condominium Act.15 The bankruptcy court found the suspension of these privileges violated the automatic stay because it was “in effect an act of coercion to compel the debtors to pay the past due association assessments.”16
Restricting HOA voting rights also violates the automatic stay, even if the association’s bylaws provide for the restriction. In Gordon Props., LLC v. First Owners Ass’n of Forty Six Hundred, 460 B.R. 681 (Bankr. E.D. Va. 2011),the court found that the association’s cancellation of its annual meeting to prevent the delinquent and bankrupt homeowner from voting violated the automatic stay because the postponement indirectly pressured the homeowner to pay the pre-petition delinquency.17
Accordingly, an association should be cognizant of the automatic stay and should consult with bankruptcy counsel before taking any action against a homeowner who seeks refuge from the rain. The automatic stay does not prohibit an association from participating in an owner’s bankruptcy, but it does slow the play to allow all creditors an equal recovery, and, in doing so, a creditor’s rights may be impaired, or even eliminated, in the quest for fairness. Knowing how the rules change and their effect on an association are essential to formulating a game-winning strategy.
• Stranded on Second: An Association’s Limited Right to Recover Interest — Even though Florida law gives an association a home-field advantage and permits the recovery of interest and fees on unpaid dues (when a declaration allows), in bankruptcy, only a fully secured creditor is entitled to recover these amounts. Bankruptcy calls a time out on the accrual of fees and interest, and only those creditors with sufficient collateral to cover these amounts are entitled to them.18
Recording a claim of lien prior to bankruptcy, and thereby claiming secured status, is crucial to an association’s complete recovery. Attempting to record a claim of lien after a debtor files bankruptcy, regardless of what the declaration allows, is a violation of the automatic stay and may subject the HOA to sanctions.19 Accordingly, an association with unpaid assessments that has not filed a claim of lien before a homeowner’s bankruptcy is likely to find itself stranded on second. The association will only make it home with interest and fees in tow if the value of the debtor’s property exceeds the amount of all of the homeowners’ debt combined, a rare situation indeed.
This scenario unfolded in In re Jimenez, 472 B.R. 106, 110 (Bankr. M.D. Fla. 2012), in which the Alafaya Homeowner’s Association contractually subordinated its lien to the first mortgagee’s lien and did not record a claim of lien before the debtor filed bankruptcy. The bankruptcy court found that Alafaya did not have a secured claim and was not entitled to fees and costs because the first mortgage exceeded the value of the collateral property.20 Alafaya was classified as an unsecured creditor and could not use §720.3085 to elevate its position after the bankruptcy filing.21 In a contrasting case in the same court, another association enjoyed a better outcome because it recorded its judgment lien prior to the debtor’s bankruptcy.22 The association in this case was entitled to fees and interest in addition to its dues because the value of the association’s collateral exceeded the amount of its claim.
• Foul Ball: Unsecuring an Association’s Security Interest — It has become clear that associations face the alarming reality that a homeowner in bankruptcy gains significant leverage over an association. Until recently both Ch. 7 and Ch. 13 debtors were entitled to strip off wholly underwater HOA liens entirely if there was no collateral value left to support them.23 The strip-downs in Ch. 13 bankruptcies are guided by In re Scantling,465 B.R. 671, 673 (Bankr. M.D. Fla. 2012), a case clarifying the right to strip emanates from §1322(b)(2), which provides for the modification of liens in a Ch. 13 case.24 In In re Buckner, 2013 Bankr. LEXIS 279 at *10 (Bankr. M.D. Fla. Jan. 17, 2013), for example, the first mortgage loan drastically exceeded the association’s lien for unpaid fees, which was subordinated to the first mortgage by the declaration. The bankruptcy court allowed the Ch. 13 debtor to strip off the association’s lien and treated the association as a wholly unsecured creditor under §506.25
While there is no corresponding provision for Ch. 7 cases, until recently, courts in Florida have allowed a Ch. 7 debtor to strip off a wholly underwater lien.26 In 2015, however, the Supreme Court balked in Bank of Am. N.A. v. Caulket, 135 S. Ct. 1995 (2015).27 In that decision, nine of the country’s top umpires unanimously ruled that §506(d) does not allow a Ch. 7 debtor to strip a junior lien on a debtor’s property when the senior mortgage exceeds the property’s current market value. Associations across the country should stand up and cheer in support, but should be evermore aware of the kind of bankruptcy a homeowner files.
• Way to Hustle, Team: Recovering an Administrative Expense Claim — While bankruptcy may provide for some seemingly harsh rules to incentivize sharing a debtor’s limited resources, other rules enhance an association’s recovery. Pursuant to 11 U.S.C. §503(b), an association may be entitled to an allowed administrative expense claim for “actual, necessary costs and expenses of preserving [a bankrupt homeowner’s] estate.” In simpler terms, an association may be paid first, even without a security interest, to the extent it uses assessments to improve or maintain a debtor’s property. For example, in In re Sports Shinko (Florida) Co., 333 B.R. 483 (Bankr. M.D. Fla. 2005), the court granted a condominium association an administrative expense claim to the extent its post-petition expenses for insurance, lawn care, lighting, pest control, and roof repair preserved the debtor’s property for the benefit of all creditors.28 In contrast, the bankruptcy court denied a priority claim for expenditures — such as the purchase of community supplies and legal fees to compel payment of assessments — because they only benefitted the association and not the property directly.
Because associations generally use assessments to maintain common areas, proving a benefit to a particular debtor’s unit may be difficult, but not impossible. One bankruptcy court announced the rule over the loudspeaker: “In order for a claim on a post-petition expense to be allowed as an administrative priority claim, an estate must actually make beneficial use of any value received in exchange for the incurring of the expense.”29
• Post-Petition Rally Under 11 U.S.C. §523(a)(16) — Another protection in the bankruptcy code for associations is found in 11 U.S.C. §523(a)(16), which prevents a debtor from discharging assessments coming due after the date of a homeowner’s bankruptcy. Homeowners are required to pay for the right to stay in their homes and enjoy common amenities, and after filing bankruptcy, they theoretically have a greater ability to do so.
While §523(a)(16) does not technically apply to Ch. 13 bankruptcy cases to prevent the discharge of post-petition in personam liability,30 the majority position in Florida holds that a Ch. 13 debtor remains obligated to pay post-petition association dues because they arise from a covenant running with the land, not merely a contract between a unit owner and an association.31 A homeowner may be relieved of any in personam liability that arises pre-petition once a discharge is issued, but the homeowner remains responsible for post-petition assessments on the property.32 This result is not surprising, for to hold otherwise would allow a debtor “to continue to live in a unit after completion of a Ch. 13 plan in perpetuity without the obligation to pay the same fees that neighbors must pay.”33
In baseball, as in association management, the best offense is a good defense. Condominium and homeowner associations in Florida should use the many tools available to formulate strategies that enforce homeowners’ obligations to pay for assessments. Understanding the rules of the game and how these rules are modified in bankruptcy is essential to staying out of a pickle.
1 Many of the rules and procedures for condominium associations under Ch. 718 are the same as those outlined herein for homeowner associations under Ch. 720. Compare, e.g., Fla. Stat. §718.121(4) with §720.3085(4) (regarding notice before filing a claim of lien); §720.3085(2)(a) with §718.116(1)(a) (regarding liability for unpaid assessments); and Fla. Stat. §720.3085(1) with §718.116(5)(a) (regarding the relation-back priority provision).
2 An HOA must provide a written notice of its intent to file a claim of lien against his or her property and give the resident 45 days from the date the notice was mailed in which to make payment for all amounts due. Fla. Stat. §720.3085(4).
3 See Coral Lakes Cmty. Ass’n v. Busey Bank, N.A., 30 So. 3d 579, 584 (Fla. 2d DCA 2010) (holding the priority provisions in Fla. Stat. §720.3085(1) and (2) could not be applied retroactively to trump a first mortgage lender’s lien made in 2006).
4 Declarations sometimes clarify which mortgage lenders are entitled to priority by defining “institutional mortgagee” or “primary mortgagee.”
5 Fla. Stat. §720.3085(1)(c).
6 Fla. Stat. §720.3085(1)(f).
7 Fla. Stat. §720.3085(2)(b).
8 Fla. Stat. §720.3085(2)(c).
9 Fla. Stat. §720.3085(1)(c).
10 Fla. Stat. §720.3085(3)(a).
11 Fla. Stat. §720.3085(3)(b).
12 11 U.S.C. §362.
13 11 U.S.C. §362(a).
14 See Fla. Stat. §718.303.
15 In re Louis Folup, Case No. 10-38024-RAM (Bankr. S.D. Fla. Oct. 8, 2010).
17 Gordon Props., LLC v. First Owners Ass’n of Forty Six Hundred (In re Gordon Props., LLC), 460 B.R. 681, 685 (Bankr. E.D. Va. 2011).
18 11 U.S.C. §506(b) authorizes a creditor to recover post-petition fees, costs, interest, and other expenses only if the creditor holds an over-secured claim. In re Jimenez, 472 B.R. 106, 110 (Bankr. M.D. Fla. 2012); United States v. Ron Pair Enters., 489 U.S. 235, 248, 109 S. Ct. 1026, 1034 (1989).
19 See In re Maas, 69 B.R. 245, 246 (Bankr. M.D. Fla. 1986) (sanctioning association for refusing to release a post-petition claim of lien).
20 In re Jimenez, 472 B.R. at 108-109.
21 Id. at 106.
22 In re Full of Faith Ministries, 2014 Bankr. LEXIS 610 at *11-12 (Bankr. M.D. Fla. Jan. 27, 2014).
23 Bank of Am., N.A. v. Caulkett (In re Caulkett), 566 F. Appx. 879, 880 (11th Cir. 2014) (allowing a Ch. 7 debtor to strip off an underwater lien) (reversed in Bank of Am., N.A. v. Caulkett, 135 S. Ct. 1995 (2015)); In re Buckner, 2013 Bankr. LEXIS 279 at *10 (Bankr. M.D. Fla. Jan. 17, 2013) (allowing a Ch. 13 debtor to strip a wholly unsecured HOA lien).
24 In re Scantling, 465 B.R. 671, 673 (Bankr. M.D. Fla. 2012).
26 Caulkett, 566 F. Appx. at 880.
27 Caulkett, 135 S. Ct. at 1995.
28 In re Sports Shinko (Florida) Co., 333 B.R. 483 at *9-10 (Bankr. M.D. Fla. 2005).
29 Id. (citing In re Right Time Foods, Inc., 262 B.R. 882, 884 (Bankr. M.D. Fla. 2001)).
30 See In re Montalvo, 2016 Bankr. LEXIS 582 at *9, n.38 (Bankr. M.D. Fla. Feb. 25, 2016) (explaining 11 U.S.C. §523(a)(16) is not specifically listed among the exceptions to a Ch. 13 discharge).
31 See id. at *4 (adopting River Place E. Hous. Corp. v. Rosenfeld, 23 F.3d 833 (4th Cir. 1994)); but see In re Wasp, 137 B.R. 71, 71 (Bankr. M.D. Fla. 1992) (holding post-petition assessments are dischargeable as a pre-petition contract).
32 Montalvo, 2016 Bankr. LEXIS 582 at *14.
33 Id. at *9, n.38.
Megan W. Murray is an associate in the bankruptcy and creditors’ rights, and real estate practice groups of Trenam Law in Tampa. She graduated from the University of Iowa College of Law and served as law clerk to Chief Judge Karen S. Jennemann, Middle District of Florida Bankruptcy Court.
Stephanie C. Lieb is a shareholder with Trenam Law in the bankruptcy and creditors’ rights group’s Tampa office. Prior to joining Trenam Law, she served as a judicial law clerk to Judge Catherine Peek McEwen and Judge Michael G. Williamson, U.S. bankruptcy judges for the Middle District of Florida, Tampa Division. Lieb currently serves as the chair of the Continuing Legal Education Committee for the Business Law Section of The Florida Bar.
This column is submitted on behalf of the Business Law Section, Alan Howard, chair, and Stephanie C. Lieb, editor.