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Scheme Termination: 9 Things to Consider

Body Corporate Scheme Termination

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Discussing surrounding values and sales prices is the hottest topic for neighbourly chat before and after a body corporate meeting. Body corporate owners, particularly on large land blocks in prime in-fill development hotspots generally have a sense that their land is valuable, as the surrounding houses on their street are transformed by new renovation or development.

Below are some thoughts on finding the right timing and approach to work with a body corporate building to redevelop.

The potential lowering the threshold of agreement required to terminate a scheme (say to 75% of owners) would certainly make scheme terminations more common, but there are still opportunities and considerations under both the current and potential new arrangements. The proposed lower-threshold solution also brings new challenges and dynamics which will add cost and time to a process.

9 things to consider before terminating a scheme

1. The age of the building

The proposal in Queensland generally considers scheme termination viable at the end of the ‘economic life’ of the building. That means the building has become uneconomical to repair, and the special levy cost imposed on owners to repair the building would be a bad investment for those individual owners.

The 6-pack boom of the 1970s in Queensland means that a significant number of buildings are approaching their 50th birthday. 50 can bring some big repairs and capital investment, on items such as stairs, balustrading, suspended concrete walkways, replacing all exterior doors and windows, major roof work.

Whilst most buildings should be able to cope with one or two of those projects using a mix of sinking fund and special levies, it is likely that they may face a number of those challenging projects all at the same time.

Even if not cost-prohibitive, the major work program would be a significant impact on the residents, and would involve months or years of stress and risk for the committee members. When presented with an attractive opportunity to sell and avoid that work entirely, that could be very enticing.

2. Maintenance costs generally

Buildings with high maintenance costs or other problems may become targets for redevelopment earlier than you might think. The buyers in Sydney’s infamous Opal Tower would probably sell, even at a loss if given the chance.

In a more practical example, there are townhouse and other small schemes out there where the motivation to sell and redevelop is based on defect and potential future cost, rather than the age of the building.

Owners may face significant special levies on relatively new developments (6 to 20 years old), if the building develops faults. We often see significant underpinning, structural roof replacement and other major work being necessary much earlier than it should be.

Sometimes simply driving around your target area you may see relatively new buildings with significant structural cracks, which can be ticking time bombs in terms of future cost.

3. Sinking fund and major capital investments

In our experience, owners in a body corporate are less likely to consider the redevelopment of their building if they have just spent money on capital work (e.g. painting, lift replacement etc).

At the wind-down of a body corporate, any money in the sinking fund is distributed back to current owners based on their lot entitlements. The best time to strike is therefore when the sinking fund balance is at its peak, and before the body corporate embarks on a capital improvement program.

Owners may not have considered that if a 6-lot building has a $60,000 sinking fund balance, each owner has a benefit of around $10K tied up in the sinking fund. Whether this is wound up and distributed to the individual owners, or transfers to the developer-buyer, it is a bonus cash amount which can be used during any negotiation.

If a building has only just completed a significant cost project, the owners would at that time be much less inclined to wind up their scheme for redevelopment, given the capital investment they just made is about to be demolished, and there will be no return on that investment.

4. Negotiating prices with individual owners

When negotiating with individual owners in the same building, keep in mind that body corporate is inherently transparent, for example:

  1. Owners have each other’s contact details and may have long-term relationships,
  2. Owners know what each other paid to buy into the building, and what their levy contributions are,
  3. Owners know who has renovated or improved their lot, and often what they spent on that work.
Given this openness within a scheme, it may be a better strategy to remove secrecy and competition between the owners and offer a price-list style purchase. Pricing could be based on the size of each lot, its entitlements and condition.

In the current environment it only takes one owner to put the brakes on a project, so it is very important not to get any single owner offside, for example if they find out they have been given a lower offer than another owner.

5. There will always be the last owner who can hold out, even at 75%

Under the current model, 100% of owners must agree to sell. That gives any one owner the veto-power.

The best way around this is to:
  1. Engage with the building as a community
  2. Have real conversations without relying too heavily on process and legal terms
  3. Discuss pros and cons openly
An owner who may not be personally in favour may be persuaded by a strong majority desire from all other owners. That feeling will be enhanced if you can contribute to that community in a group setting, instead of each owner reading offer paperwork in their own home.

Even if the decision threshold is reduced to 75%, in a small building of say 6 units, you would need 5 owners to agree in order to achieve 75%. These factors will remain in play even if the threshold is reduced.

6. Be prepared for a longer process if the law changes

In the current 100% agreement model, disputes are naturally fairly uncommon. This is because to get to the 100% in the first place, all owners are generally on the same page and the rest is just sorting out the details.

A potential reduction to 75% threshold would mean up to 25% of the owners being very strongly opposed to the redevelopment. This would increase the number of buildings available for redevelopment, but there will be bumps in the road.

Any proposed amendment to the law would certainly install significant protections for the up to 25% of dissenting owners, to make applications for either tribunal or court decisions considering:
  1. The real costs of the future repairs and maintenance
  2. Whether the building is in fact at the end of its economic life
  3. If the developer’s offer is commercial
  4. The true motivations of the other 75%

7. Buying into the new development at a discount

Many owners, particularly in smaller and older schemes have owned and lived in that spot for decades, and often feel a very strong sense of community in their neighbourhood. We know buildings where 4 out of 6 owners were the original purchasers in the 1970s when the complex was built, and they have lived their life in that unit.

Most body corporate owners have heard the story about an owner who traded in their tired old unit to a developer and exchanged it for a new one that was part of a new development on the site. Whether or not that is common, it is a common expectation for owners.

Offering a special purchase deal to owners in the old block may be enough to entice them to sell. They can retain the location and lifestyle they love, with an upgraded building.

8. What motivates owner decisions

Most body corporate owners are not property-developers, and their approach to decision making is very different to the economic factors that influence development decisions.

For a property developer, the condition of the plants in the garden of a development site is not a consideration. For an owner in a body corporate with a passion for gardening, the idea of excavating their landscape may be one of the most significant factors to consider.

Each owner’s decision process will be different, that is something to keep in mind, whether you are negotiating directly or through an agent. The most effective motivator to sell to a developer is nearly always the cost of maintenance and capital improvements required.

9. Wind-down of body corporate

Once the agreements are made, the wind-down of the body corporate as a legal entity is a fairly straightforward process, involving:

  1. A final wind-up meeting
  2. Decision about refunding the body corporate money
  3. Decision about splitting up the body corporate assets
  4. Decision about who takes care of the old records
  5. Lodgement of the final meeting minutes (evidence) with a new survey plan to replace the community titles scheme.
  6. Closing accounts
  7. Deregistering ABN, tax file number etc
These wind-up steps are procedural and not controversial. They should be handled in combination by the body corporate manager, and the development lawyer.

Summary

Whilst a change to the law is likely several years away (and even then, is not guaranteed), there are significant opportunities present in the market today. Every day, buildings and owners in Queensland face difficult decisions about how to deal with major building defects and costly repairs.

Keeping these tips in mind may help the in-fill developer spot opportunities, and negotiate deals with buildings at just the right time.

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