Due diligence inspections are a must if you are acquiring or have just acquired an affordable property or a conventional property with affordable units. For owners and managers, reducing the risk of non-compliance and mitigating the liabilities via inspections can save millions of dollars in fines and penalties. That risk is high because there are many routes to non-compliance that owners and operators might not be aware of.
“Call them landmines waiting to explode,” says Clark Crowther, Director of Asset Management at RealPage Compliance Services (formerly Windsor Compliance). “Anyone who has had a Department of Justice suit brought against them or has received an IRS notice of recaptured tax credits can confirm that housing laws can change. A property may be in compliance one year and out of compliance the next. Our team is dedicated to defusing those landmines pre-and post-acquisition.”
RealPage Compliance Services provides compliance monitoring services for all types of affordable properties, including Low-Income Housing Tax Credit properties (Section 42), tax-exempt bond, Section 8, HOME, HUD, and Rural Development properties. Crowther’s group oversees inspections for over 1,000 properties every year.
The physical side of multifamily due diligence inspections
A physical, on-site inspection is a critical part of multifamily due diligence reviews. This is true even though inspections mostly revolve around ensuring that the property is in good fiscal condition, the files are in compliance, the residents are qualified to live there and the management company is following good practices. But nothing highlights the importance of reviews quite like physical reality.
“This might be an extreme example, but we need to make sure that the physical asset is still there and standing, that the buildings are being taken care of,” says Crowther. “A lot can change in a property in a 12-month time period. There are several stories about investors loaning money to developers and the developer takes the funds and never builds the property. We’ve pulled into a property for the inspection and it’s actually on fire. I've seen buildings that have been flooded out. They never told the owners or investors. With these inspections, we're going to find out these things and let the investors know whether the buildings are being taken care of.”
These stories make one thing clear: it’s hard to overstate the importance of carrying out multifamily due diligence inspections before purchasing the asset.
There are many factors to consider both before and after the purchase, of course. Consider two of the biggest: accessibility and staff.
Accessibility is paramount
Ensuring accessibility for the disabled is at the forefront of non-compliance today and a major focus of physical inspections. Non-compliance can be costly. First-time violations of the Americans with Disabilities Act (ADA) can result in up to $75,000 in civil fines. And 24,238 charges for ADA violations were filed in 2019, resulting in over $116 million in monetary benefits.
Crowther sees non-compliant accessibility in every property he visits. He provides a typical example: “I was at a property and looked at a supposedly accessible parking spot that a well-meaning maintenance staff member had set up. There was a storm grate in the access aisle. I told management that it can't work as a parking spot and that they have to move the sign.”
Many managers are not aware of accessibility landmines when they take over ownership or management of a property. For one thing, the laws change constantly. There are different laws that apply to the building based on the date of occupancy. And managers have to be aware of what's going on at the federal, state, and local levels for each property. In some cases, state and local laws are tougher than federal ones.
Most properties are built with some areas of non-compliance. Even for those that were built with compliance in mind, new, potential liabilities can appear over time. Maintenance staff may take something that was in compliance and put it out of compliance just because they don’t know. They may be simply restriping the parking lot or changing door handles. One of the main things Crowther sees is non-compliance created when staff replaces a broken appliance, like a refrigerator or stove. These all can have an effect on accessibility, and therefore a liability.
Staff makes a huge difference
Site staff can make or break compliance. They may have a wealth of knowledge about what's going on with the property and in the neighborhood. On the other hand, they may be allowing deferred maintenance to take place or moving in residents who are not income-qualified. Poor site staff can cause a drop in occupancy, which hurts cash flow and decreases the value of the property.
It’s vitally important for the new management company or owners coming into possession of the property to know if they should retain or replace current staff. Due diligence inspections give an idea of how the property is being managed by the site staff.
Crowther notes that he and his team ensure that staff is correctly monitoring all aspects of compliance, including income limits, maximum rent and utility allowance. Alerting a potential new owner or management company of any non-compliance issues allows them to factor in the cost of fixing the problems and getting the property back into compliance. The inspections also give them a baseline comparison once the old company moves out and they move in. That's critical to assigning responsibility for any issue of non-compliance. Was it there before the sale, or not?
“After we do our due diligence and the new management or owner interviews the staff, they’re going to get a feel for that staff, whether they have their finger on the pulse of the property and the neighborhood or not,” says Crowther. The new manager or owner then can decide whether to keep the current staff or start fresh with their own people. We see this from time to time when we're out doing our investor inspections. Things just aren't running well and delinquencies are high. We'll go back the next year and the building is occupied 100% and looks clean. What happened? A whole new staff from the manager down to maintenance.”
“You can’t make good decisions without a thorough inspection,” he concludes. “Compliance is amazingly complex. You have to keep your eye on everything all the time. You can do it, and the results will be well worth it.”
Watch a RealPage webcast about multifamily due diligence inspections for property acquisitions: No Room for Error: How Due Diligence Can Save You