Cooperative Housing: A Primer
By: Sherrill R. Oman
January 2008
Cooperative housing—commonly referred to as “cooperatives” or “co-ops”—is not a new concept. The earliest cooperatives were established in New York City in the late 1800s. A cooperative is a form of homeownership that appeals to individuals who want to join with each other on a democratic basis to own or control the housing and related community facilities in which they live. These individuals want to participate in the management of the cooperative community more directly than is common in other forms of common interest communities, such as condominium and townhouse associations. Frequently the cooperatives are aimed at specific population segments, such as persons age 55 or better, students, or are designed to provide affordable housing. Cooperative housing is housing owned by a cooperative corporation, usually a nonprofit corporation. In Minnesota, a cooperative corporation is formed under Minnesota Statutes, Chapter 308A. A housing cooperative is also a common interest community under the Minnesota Common Interest Ownership Act, Minnesota Statutes, Chapter 515B, the same statute that governs condominium and townhouse communities. A cooperative corporation typically is formed by a developer/sponsor, which will build the cooperative housing and sell the completed facility to the cooperative corporation. To create the common interest community as a cooperative, a declaration must be filed when the construction is complete. The developer/sponsor usually controls the board of directors until a certain percentage of the cooperative memberships have been sold; the statute caps that percentage at 75 percent.
The primary distinction between a housing cooperative and other forms of homeownership is that, in a housing cooperative, the owners do not own real estate. The real estate is owned by the cooperative corporation. Each corporation member owns a share in the corporation. Each membership share represents one housing unit in the cooperative. Each membership entitles the member to an exclusive right to live in a specific unit for as long as the member wishes. This right is established through an occupancy agreement or proprietary lease, which sets forth the rights and obligations of the member and the cooperative to each other. Legally, it is viewed as a lease by the member with the housing cooperative.
Ownership of a share and the ability to occupy a unit may not be separated. Each unit carries with it the right to one vote in the business of the corporation. A cooperative operates for the benefit of its members on a not-for-profit basis to provide the goods and services members need at the lowest practical cost. Each month, the members pay an amount that covers their share of the operating expenses of the cooperative corporation.
The interest on a loan to finance the purchase of a share is deductible by the member for federal income tax purposes and, in Minnesota, for state income tax purposes. Real estate taxes are also deductible. Other benefits include lower turnover rates, controlled maintenance costs, and resident participation and control. In most cooperatives, the cooperative corporation has a right of first refusal if a member wishes to sell his or her interest in the cooperative, thus giving the cooperative some control over who is admitted.
A purchaser of a membership share in a housing cooperative is paying for a share of the cooperative housing corporation. The purchase price will vary depending on amenities, the location, the size of the unit, whether the cooperative limits resale prices, and whether the cooperative has an underlying mortgage for the entire property.
In Minnesota, two common methods of financing market rate cooperatives are used. One is through an FHA-insured mortgage that is made to the cooperative corporation and secured by the real estate owned by the cooperative corporation. The other is through a construction loan from a conventional lender followed by individual loans to those who purchase the shares in the cooperative corporation. The proceeds of these individual loans are used to pay off the construction loan.
Loans made to individual members to purchase shares in the cooperative corporation are commonly called share loans. A share loan is like a mortgage. It provides the member with borrowed funds to buy the share from the cooperative corporation. The member makes monthly payments on the share loan to the lender and monthly carrying charge (maintenance) payments to the cooperative corporation.
A loan made to a cooperative member is evidenced by a note payable to the lender. Security for repayment of the share loan is a pledge of the share in the cooperative corporation. This share and its attendant rights are pledged by a security agreement. Instead of recording a mortgage, a Uniform Commercial Code (UCC) Financing Statement is filed with the Secretary of State. The lender will also take possession of the stock or membership certificate evidencing the ownership of a share in the cooperative corporation. The occupancy agreement or proprietary lease that sets the conditions for the right to occupy a particular unit is conditionally assigned to the lender as additional security for repayment of the share loan.
The lender will also sign a recognition agreement with the cooperative corporation. The recognition agreement is an understanding between a cooperative and the lender that provides share loans to the cooperative’s members or shareholders. The recognition agreement outlines the responsibilities between the cooperative corporation and the lender and the courses of action that each party must take if a shareholder/member defaults on the loan. This agreement should also provide for notice to the lender of any default by the member under the occupancy agreement. In particular, it should require the corporation to notify the lender if the member misses a monthly maintenance payment.
If the member defaults in repayment of the share loan, the lender may enforce its rights under the collateral assignment of the occupancy agreement and under the UCC with respect to the share in the cooperative corporation. Both these actions must occur for the lender to sell the share and assign the occupancy agreement to a new member. This process is significantly quicker than foreclosure of a mortgage. For cooperative corporation membership and to occupy the unit, any new purchaser of the share must meet the criteria in the cooperative documents—particularly the declaration, the occupancy agreement, and the bylaws.
Cooperatives have traditionally been utilized in cities where land prices were so high that to purchase the land on which to build the cooperative made the cost prohibitive. The cooperative was developed on land leased to the cooperative corporation. While that may still be true in some major cities, in other places, particularly where the concept of cooperation in the form of utility and agricultural cooperatives is strong, the cooperative’s sense of community and the democratic structure, provided by each individual member’s voice being heard, is the strongest lure.
Takeaway
A cooperative is a form of homeownership that appeals to individuals who want to join with each other on a democratic basis to own or control the housing and related community facilities in which they live. These individuals want to participate in the management of the cooperative community more directly than is common in other forms of common interest communities, such as condominium and townhouse associations.