The September issue of Developments Magazine features an article titled Rx For Your Fiscal Health - Annual Checkup on Your Resorts and HOAs. In putting the story together, Geri Bain interviewed Kurt Gruber, Baker Hostetler partner and Hospitality Lawg Editor. Although the article provides insights from a host of industry professionals, we are republishing here Kurt's comments in full.
Question #1: With the recent economic challenges, what has changed in regard to maintenance fee collections? When did you start seeing the change? What does this “new world” look like? Have you seen any problems with real property tax collections (if they are billed separately)?
As one might expect, the downturn in the economy and the resulting financial challenges faced by people at all income levels are having a significant impact on maintenance fee collections. Timeshare managing entities continue to experience this negative impact across the full range of product types and prices, from traditional, basic timeshare projects to high-end, full service fractional resorts.
The increase in collection challenges is not just a result of the economic hardship faced by individual shared ownership owners, but a combination of a number of circumstances that have created a “perfect storm” for managing entities. One of the exacerbating factors is the fallout from those timeshare development companies who now carry a larger maintenance fee and tax obligation as a result of an overabundance of unsold inventory that was constructed to support a sales and marketing effort that is no longer sustainable. Another element is the aging of industry product, with many projects now in their second and third decades and with a growing number of owners who love the product and who previously paid their maintenance fees on time, but who are now looking for an exit strategy and a way to reduce expenses as their lifestyles change. A third consideration is the large number of timeshare interests that are stuck in limbo because the timeshare owner is in default of both the obligation to pay maintenance fees and taxes and the obligation to pay a mortgage payment. Lenders who have no outlet to resell interests taken back in foreclosure are slow to recover inventory for which they will then be liable to pay maintenance fees and taxes going forward until they can arrange a transfer to another party.
This change in maintenance fee collections began in late 2007, picked up steam in mid-2008 as a result of the sharp increases in gas prices, and dramatically accelerated at the end of 2008 when the entire economy began to falter. Since then there has been some improvement, especially as less stable owners have defaulted and moved out of the system; however, this improvement has not occurred at the pace that managing entities want to experience. The “new world” will continue to include steady improvement in collections, and I do not see another dramatic spike in defaults on the horizon so long as the recovery progresses; however, management will continue to need to diligently and aggressively address collection issues.
In my experience, there is not a significant distinction between the payment and collection of maintenance fees and the payment and collection of real property taxes. If the consumer is willing and able to pay the one, then he or she will generally pay the other. This is true in part because owners often do not focus on these fees and taxes individually, and in part because there is not any real benefit to paying one but not the other – that is, the timing, process and result of a foreclosure action is generally the same for both. The same is not true with respect to the payment of maintenance fees and taxes and the payment of mortgage obligations. Since the obligations are owed to different entities and the remedies for failure to pay may be different, some consumers will pay one but defer the payment of the other.
Question #2: How have managing entities responded and how have you helped resorts and owners respond to these challenges?
The responses to the collection challenges faced by associations and management companies vary depending on such circumstances as the differences in options and remedies available in different jurisdictions, structures and governing documents. Some common approaches do exist. The first goal in most situations is to attempt to keep the consumer in ownership. This will save a significant amount of money by avoiding the costs of foreclosure and reselling as well as limiting the problem of the association owning the inventory instead of a paying owner. To that end, the managing entity needs to actively engage the delinquent owner, including re-connecting the owner with the use of the product or providing flexibility in payment options (such as creating a payment plan or waiving late fees and interest). If no arrangement can be made with the owner, the managing entity must take increasingly aggressive steps to encourage payment. These steps start with lock-out of use and exchange, where permitted, and end with the imposition of a lien and ultimately, foreclosure. In some situations, it will make sense to retain a third party collection company that has more experience in debt collection.
On the creative side, I have worked with associations and companies to develop strategies that allow for amnesty from some of past due fees and taxes in return for a partial payment (where permitted under applicable law) and facilitating and encouraging the transfer of the timeshare interest to a person capable of making the payment, like a relative or another owner at the resort looking to pick up an additional timeshare interest.
Question #3: Are you seeing an increase of individual owners using relief or transfer companies for their timeshare interests? What long-term impact can this have on a resort? Have you found ways to circumvent or solve this problem? Is this having an impact right now?
It is definitely having an impact. I have also seen an increase in owners hiring companies to dispute their original purchase and try to force the developer to rescind the sale, even if the transaction occurred years ago.
If all timeshare relief or transfer companies were well-capitalized, ethical, fulfilled their obligations and made good on their promises, the services they provide would be a boon to a struggling association or resort by facilitating the transfer of ownership from a defaulting or defaulted owner to a paying owner. Unfortunately, there currently are many more bad players than good operating in this space.
All the bad activity in this area creates its own significant problems. In particular, many of these companies take the owner’s money and provide no real service in return, simply “listing” the timeshare interests for resale on an inactive internet site. The owners are still dissatisfied and have even less money to pay the resorts. Some companies take an owner’s money in return for a promise to transfer the property to a third party but never complete the transfer. In these situations, the past due maintenance fees and taxes may not get paid; the original owner stops paying maintenance fees and taxes and is no longer active with the resort; the transfer company does not have title and therefore has no obligation to pay; and no new owner exists to make the maintenance fee and tax payment. Under other scenarios, the transfer company will take title to the timeshare interest but may not pay past due maintenance fees and taxes, does not pay new maintenance fees and taxes and either lets the timeshare interests sit in a default status (thereby forcing the association to incur foreclosure costs) or bankrupts the transfer company and sets up a new one. In each of these instances, the association accumulates an ever growing bad debt and often is unaware that a transfer has occurred and no longer has a clear understanding of its owner base. This is a current and growing problem.
Short of supporting owners who pursue a complaint with the appropriate regulatory agency or a claim for fraud or violation of an applicable consumer protection law, the managing entity will have limited options to circumvent problems created by unscrupulous timeshare relief or transfer companies. It is imperative for the managing entity to develop an owner education program using newsletters, alerts and association meetings to educate owners of the potential shortcomings of these companies. Developing a strong resale program through cooperation with the existing developer or a viable, ethical resale provider is potentially the best solution because it provides a meaningful and safe method for owners to transfer their timeshare interests to a new paying owner.
Question #4: How do you handle the defaulted weeks? Do you foreclose? What are the advantages/disadvantages in this?
As previously noted, the best solution for dealing with defaulted timeshare interests is to attempt to engage with the defaulting owner to develop a solution, get them using the product again and hopefully get some payment in the door. If all else fails, foreclosure is the only alternative. The major disadvantages of a foreclosure action are the cost and time that it takes to complete the recovery of the inventory. In some jurisdictions, attorney’s fees and court costs can exceed $1,200 per timeshare interest. Court systems already bogged down with an ever-increasing number of home foreclosures struggle to process thousands of timeshare foreclosures, resulting in a judicial foreclosure period that can last as long as eighteen months.
Non-judicial foreclosures (in jurisdictions that recognize such) occur outside of the courts and can greatly reduce the time and expense of the foreclosure process. In this regard, I played a significant role in ARDA-Florida’s recent successful effort to obtain the passage of a non-judicial foreclosure process for timeshares in Florida, which was a first of its kind law that we are hopeful will make a big difference in the expense and time delay currently experienced by associations in Florida.
One advantage of the foreclosure process is that it does motivate some defaulting owners to pay past due maintenance fees and taxes. Many owners will not take any action until the receive the formal court papers, but then will bring their account current rather than risk the loss of their timeshare interest or a potential negative credit report.
Question #5: Do you have any advice and/or cautions for resorts facing large numbers of defaults and/or delinquencies?
The best advice I have is to develop a multi-level strategy that is consistently and aggressively implemented. As is usually the case, complex problems require complex solutions. The managing entity that can marshal and coordinate many different resources has the best chance of at least holding its own until the economy improves or better paying owners replace delinquent ones. Associations and management companies should not be slow to act, since carrying a large amount of defaulted inventory can lead to a death spiral where paying owners who are increasingly shouldering an expanding bad debt expense or see the quality of the resort significantly deteriorate cease to make payments and the resort eventually goes bankrupt. Instead, best practices should include assembling a team comprising properly trained, internal staff focused on re-engaging the owner and outside legal, accounting, title and collection experts who can tackle the problem on many fronts.
Question #6: Is there anything else you’d like to add?
First, associations and management companies must know the documents that govern their resort and the assessment and collection process. Simply relying on practices developed at other projects or as set forth in applicable laws may result in the violation of provisions of the timeshare documents and invalidate the activity or expose the managing entity to liability. It is worth hiring an attorney to review the documents and provide advice on the interplay of the documents and applicable law.
Second, managing entities handling collections need to be aware of the accounting and legal limitations and restrictions involved in the process. For example, the managing entity is well advised to seek out expert accounting advice to properly account for bad debt and efforts to write-off bad debt. In addition, there are many laws that apply to the managing entity’s collection activities such as the federal Fair Debt Collection Practices Act; state timeshare or condominium laws restricting waiver of past due maintenance fees or the improper use of reserve funds to pay for operating expenses; or engaging in collection efforts by non-attorneys in violation of statutes governing the unlawful practice of law. While it may be tempting to avoid spending the money by going it alone, the potentially severe consequences of evading applicable accounting rules or laws may outweigh the few dollars that are saved.