Leasing Restrictions

Allan Goldberg
A R NS TEI N & LE HR LLP 120 S O UTH R I V E RS I DE P L A ZA | S UITE 1200 C H I C A G O , I L 6 06 06 P 3 1 2 . 8 76 . 7 1 3 3 | F 3 1 2 . 8 7 6 . 0 2 8 8 agoldberg@arnstein.com

Introduction Board members of Illinois condominium and townhome associations have always been concerned about the number of units which are leased in the association. There is an ageold belief that people take better care of their homes than people who rent. There is no quantitative proof that this notion is anything but fable. Resistance to renters has traditionally been grounded in such beliefs, or has been used as a means of quiet resistance to the myth of allowing residents not vested in the community's welfare to populate an association property. Again, nothing seems further from the truth, but this perhaps explains the origins of resistance to rental units in association property. More recently, because of a tough and precipitous drop in the economy, many more individual condominium and townhome buyers have been confronted with certain leasing limits contained in guidelines established by FHA, Fannie Mae, and others. Similarly, unit mortgage re-financings face the same litmus tests imposed by the secondary mortgage market place. Currently, for example, FHA regulations provide that at least 50% of the units in an established condominium or townhome property must be owner occupied. This means obviously that no more than 50% of the units in can be leased to qualify for FHA financing an established condominium or townhome property. So, associations are facing the harsh reality of monitoring the number of units which can be rented at any one time. The foregoing is the most basic of overviews giving rise to the subject of this article. Illinois Case Law - Board Rule or Unit Owner Approved Amendment? As mentioned, to meet the challenges of today's economy, many associations have sought to either add leasing restrictions, or to loosen up existing leasing restrictions to allow units in their properties to be sold or refinanced up to a maximum number commensurate with secondary mortgage market lending guidelines. The typical leasing restriction in an association's covenants recites that no more than 20% of the units can be rented at any given time, the unit has to be owner-occupied (or, vacant for a year before renting), and any owner can rent one or a maximum of X number of units depending on the association's general point of view on leasing. As noted, the 20% cap, or ceiling, is an allowable limitation on leasing under FHA and Fannie Mae guidelines. Of course, there are many variations on the theme depending on a board's point of few in proposing leasing restrictions for a particular property.

In the case of Apple II Condominium Association vs. Worth Bank & Trust (1995), a condominium association brought an action to enforce an owner occupancy amendment to its condominium declaration and to recover fines imposed against one of its members. The court held that (1) an Illinois condominium association may prohibit leasing of units either by board action, or by a vote of the entire association pursuant to the terms of the condominium declaration; (2) when such a restriction is passed by the association's membership and made part of the condominium declaration, a reviewing court will presume the restriction is valid and uphold it unless it is arbitrary, against public policy, or violating a fundamental constitutional right of the owners; and (3) the amendment was a valid exercise of the association's power. Thus, an amendment properly adopted in accordance with the declaration's amendment procedure is given a presumption of validity. Therefore, leasing restriction amendments carry with them a legal presumption of validity, and enforceability, because they have been approved by more than a simple majority of the owners, either 67% or 75% calculated by percentage of ownership interest in the common elements. While a board can impose leasing restrictions under the board's rule-making authority without a vote of the owners, this is not advisable for the reasons cited. Board members should not in a liability in a possible legal challenge as to the validity of a board rule where the burden of proof is on the association to prove the rule is reasonable and for a proper purpose, i.e., is non-discriminatory in application. We urge our association clients to adopt a leasing amendment. In the event a board insists on implementing leasing prohibitions in the association's rules instead, we recommend that any such rules contain specific preambles as to any leasing rules the board may adopt. It is important that if a board insists on adopting leasing rules, the rules and any minutes which describe the adoption of such rules, contain specific preambles or recitals setting forth the reasons for the rules. It should also be mentioned dealing with leasing protocols such as wait lists. Limitations on the number of units which can be leased, the number of times units can be leased, sublet issues and, of course, hardship determinations. It is important to state the reasons, or the purpose, behind rental restrictions. Examples include encouraging resident ownership to assist with maintaining owner-occupancy limits imposed in the secondary mortgage market place, or to engender stability in the community with owner occupants committed to preserving values. Rental restrictions have been upheld in the majority of jurisdictions in the United States for many years. Importantly, rental restrictions do not trigger the "one class of ownership" prohibition in the Illinois Condominium Property Act so long as the restrictions are in (i) the best interests of the association, (ii) non-discriminatory, (iii) applied uniformly, (iv) not violating constitutional or public policy provisions, (v) binding on all present and future owners, and (vi) not antagonistic to the legitimate objectives of the association. Our clients almost always include a hardship provision, discussed next.

Hardship Exceptions A basic definition of hardship describes a situation in which the inability to lease a unit would subject its owner to financial hardship. A typical hardship exception might provide that a unit owner may enter into a lease with respect to such unit for a period not to exceed one year if the existence of a hardship situation is demonstrated to the reasonable satisfaction of the board. However, once a unit owner enters into a lease after the date the owners approve an amendment which restricts leasing, some associations implement rules that the unit owner may not enter into any further lease. Also, the hardship question is triggered when an owner who is "grandfathered" claims a hardship because he or she cannot enter into a new lease. Hardship is a very subjective and personal notion - difficult to generically define - and a board's determination in any situation can be subjectively based on the personal views of the sitting board members since the human dynamic enters into a board's consideration. However, many boards have taken the view that the current state of the economy is not itself a reason to determine a hardship. Conversely, because unit owners are having trouble selling their units, or are faced with the worst case scenario of not having cash flow sufficient to pay their mortgage - a foreclosure - some boards may be sympathetic to their plight. The there are situations where a property has, say, a 20% cap on allowable units that can at any time be leased, the unit owner is on a wait list to lease but not at the top of the list, but nevertheless claims a hardship hoping to bump to the top of the wait list. Or, there is the owner wanting to renew a lease claiming financial hardship while other owners are waiting to lease by reasons of their own hardship circumstances. Does the owner already leasing have the right to renew the lease with the same tenant? Thus, there are many variations on the theme of "hardship". Finally, it is important that community association homeowners know that their liability for assessments to their association remains constant regardless of their personal circumstances, and that they are primarily liable to the association for the prompt payment of all assessments and other common expenses levied and assessed by the board.