Berding | Weil Community Association ALERT Newsletter
Legal News and Comments for Community Association Boards and Managers Issue #87 • February 2012
The Peril of Hidden Damage in a Community Association - Part II
How Do You Fix It, What Happens If You Can't?
by Tyler P. Berding, Esq.
What if the Cost of Repair exceeds all Expectations?
That can happen and when it does it creates a dilemma for the board of directors. The problem that was the original reason for a major repair may not be the end of the story, depending upon how much was known about the extent of that damage before the job began. Its one thing to discover some dry rot in one isolated area during a routine repair, but quite another if that dry rot is part of systemic deterioration of the building.
If your major repair project is begun with an insufficient understanding of the extent of hidden damage, your entire funding scheme may be overwhelmed and owner equity could go with it. It is critical in an older building, therefore, to determine the scope of work and the cost of repair as accurately as possible before the project begins. But what happens when all else fails and the damage exceeds all reasonable expectations and funding?
Consider a Different Option
Let's say that you have done your due diligence, you hired an architect to investigate and prepare a scope of repair for the replacement of the siding on your building; you had the building inspected using some random intrusive testing and while you detected some hidden damage, it wasn't extensive where you saw it; your contractor expressed confidence that he could repair the building for the costs projected in his bid. You start the project. Six months into the project the contractor reports bad news. The damage to the framing under the siding is much more extensive than the tests had revealed. His contract says that extra work is to be done on a “time and materials” basis—essentially priced over and above the base price of his contract. The costs begin to rise appreciably. Soon the cost of the job is almost twice as high as the original estimates. You've tapped your line of credit and all of your available reserves and the owners will likely not approve the special assessment that will be necessary to pay for all of this new work. Now it is probably too late for many options.
Many older buildings with hidden damage will turn out to be extraordinarily expensive to repair. Knowing that before the project begins may give the owners second thoughts about the utility of starting the repair. Once a construction project is well along a substantial portion of the available funding will be irrevocably committed, leaving the board of directors with few options but to complete it. At that point the ability to change direction, and with it, financial control may be lost. Why is financial control important? Because once substantial funding is already paid or committed it will be too late to go back and reconsider whether doing the work was a good idea in the first place—it becomes too big to fail. Consider that scenario against this one—in some instances, repairing the damage may not make economic sense.
Take a condominium building with 50 units. The average unit's market value before the need for repairs was discovered is $200,000.00 partly because of the depressed economy but also because the building appears run down and in need of repairs and paint. But the average owner equity, given the decrease in real estate values generally, is only about 10% of that with mortgage loans representing the rest. Total owner equity in that building would then be $20,000 per unit x 50 units, or only $1,000,000. Now, if the cost to repair that building is only $200,000.00 because the hidden decay is very limited, a repair makes sense. The building will get fixed, painted, look great, and property values will rise. But what if the hidden damage is so extensive that the projected cost of repair is $2,000,000? And further, what if the association has only $100,000 in reserves? Does it make good economic sense to do those repairs? To raise $2,000,000, the association would have to either borrow it or assess its members, or both. That's a very tough decision for the board to make.
We have seen examples where the cost of repair rose significantly well after the project was underway and the funding was already maxed out. If a $2,000,000 repair for the building in this example stretched the association's resources to the absolute limit, what would happen if the cost ended up being double that because previously undetected damage turned out to be extensive? It may mean that the project can't be completed, but it may also mean that it should never have begun. A $4,000,000 repair to a building in which the owners collectively have only $1,000,000 in equity makes no economic sense—at least not to the owners. To them, that building is a total loss—a concept that I know few boards have ever considered.

Copyright ©2011 BERDING | WEIL
All Rights Reserved.
BERDING | WEIL LLP - 3240 Stone Valley Road West | Alamo, CA | 94507-1558 | P: 925.838.2090 | F: 925.820.5592 | Contact Us
Disclaimer | Privacy Policy | Site Map | Search
2175 N. California Blvd., Suite 500 | Walnut Creek, CA | 94596 | P: 925.838.2090 | F: 925.820.5592 | Contact Us
©2017 BERDING | WEIL LLP. All Rights Reserved | Website Development by CENTERGRAPHICS