Feb. 8, 2010 — Thinking of refinancing your co-op's underlying mortgage to take advantage of lower interest rates? This may be a good idea — but only if you can avoid The Deadly Dozen Mistakes that create horror stories for co-op boards. Over the last 20 years, as a mortgage broker, I've conducted or participated in a myriad of seminars about underlying mortgages and other co-op finance topics, and I while no one can guarantee that avoiding these mistakes will get you the best deal, it will keep the horror at bay.
1) Interest-Rate Myopia
Many co-op board members are obsessed with getting the absolute lowest interest rate. They focus on "spreads" — the margin added to an index to set the interest rate for a new loan — and dedicate enormous energy haggling over one or two "basis points" (100 basis points = 1 percent). The interest rate on your new loan is one of the least important factors in determining whether you got a good deal.
2) Payment Pinching
This is the attempt to keep monthly payments as low as possible by ignoring amortization, the regular repayment of part of the loan principal in each monthly payment. True, interest-only loans do have lower monthly payments. However, they also leave the borrower with the same amount of debt at the end of the loan term. Plus, when these borrowers refinance, they almost always have to take out an even bigger loan just to cover the closing costs. Payment pinching pushes most co-ops deeper and deeper into debt, which can restrict their ability to refinance on attractive terms.
3) Borrowing Too Much / Not Enough
Some boards think they should borrow as much as possible because rates are low. They think a big, fat reserve fund is unreservedly a good thing. That's not necessarily so. The amount of interest you can earn on excess funds always will be less than the amount of interest you'll pay to borrow them. If you truly think you'll need these funds, then this difference in interest rates is cheap "insurance." However, money in excess of your true needs just adds needless interest expense to your budget. And excess money in your reserve fund presents temptation to spend it — either on operating costs, to avoid increasing maintenance, or on things that your building doesn't need.
At the other extreme are boards that borrow only enough to solve the most obvious and pressing problems. They fail to assess their building's likely needs during the next five or however many years until their new loan matures. Sometime during the life of their new loan, most of these boards will confront an unpleasant choice between a special assessment or refinancing once again (and paying an expensive penalty to do so).
4) Not Obtaining Secondary Financing
Many attorneys and accountants recommend that co-ops get a credit line as part of any refinancing. While I don't agree that's a must-have, I do recommend, for emergencies and flexibility, that co-ops get the right to access some form of secondary financing as of right (i.e., without lender approval). Failing to have that can leave a building in difficult financial straits down the road.
5) Window Shopping
Some co-op boards think they should test the market every few years to see what's available — and get a reputation in the lending community as a "shopper" who isn't serious…
6) Too Much Refinancing
…while other co-op boards think nothing of refinancing every time interest rates drop — squandering thousands of dollars on prepayment penalties. Barring special situations, there is no need to be searching for a new loan until the last six to nine months of your existing loan's term.
7) Waiting Till the Last Minute
Some boards don't start looking for a new loan until three or four months before their existing loan matures. Such a short time frame severely limits your ability to compare offers from various lenders, negotiate changes, process an application, deliver a clean title report, give notice to the existing lender and close the new loan before the existing loan matures. Missing that deadline can mean hefty fees and higher interest charges.
8) Everybody's an Expert
It often seems as if everyone either is an amateur financial expert or knows someone who thinks they are. These well-meaning souls want to "help" get the best deal for their building, and proceed to call bankers and mortgage brokers in hopes of uncovering a secret stash of cheap money. The result? A market polluted by misinformation and unauthorized representation. The solution is to let everyone help, but to restrict contact with the outside world to one qualified individual. If you retain the services of a mortgage broker, a similar rule applies: Interview as many as you like, but hire only one.
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