Holders of Unsold Shares
Lessening Their Presence in Your Co-op
This truth may not be self-evident, but in a co-op all shareholders are not created equal. Virtually
every Offering Plan provides for a special class of shareholderscalled Holders of Unsold Shareswho are routinely granted privileges not enjoyed by the typical tenant-shareholder. If you're not familiar with this group of cooperators, now's the time to get acquainted. The more unsold shares there are in your co-op, the less clout you and other tenant-shareholders have.
Cooperators imbued with this exalted status are exempt from many of the most burdensome forms of board regulation, and such status confers a tangible financial boon. For example, Holders of Unsold Shares are not required to submit their prospective purchasers to the board for its approval, nor are they bound by the board's sublet restrictions. Holders of Unsold Shares are allowed to sublet their units at market rates in perpetuity. They're also exempt from paying sublet fees, alteration fees, transfer fees and flip taxes which may be imposed on the typical tenant-shareholder. Many Offering Plans give certain Holders of Unsold sharesi.e. Sponsorsveto power over some governing document amendments and management decisions of the board. Some Offering Plans even give sponsors disproportionate voting power in board elections. All of these factors result in a board of directors which is deprived of a substantial source of income and is stripped of its ability to control who resides in the building. In addition, the board is often unable to implement quality of life regulations which foster tenant-shareholders' interests.
Defining the Holder
In order to appreciate what factors permit someone to claim Holder of Unsold Shares status, you must fully understand the concept of Unsold Shares. These are shares of stock in a cooperative housing corporation which are allocated to apartments that have never been purchased for residential use. Once the apartment is acquired as a residence, the shares allocated to it cease to be Unsold Shares and its owner is not entitled to Holder of Unsold Shares status.
Shares of stock allocated to any apartment not purchased by an insider tenant at conversion are deemed Unsold Shares immediately following conversion and are retained by the sponsor until they can be sold. They retain their character as Unsold Shares for as long as the apartment is owned by the sponsor, or by any of his subsequent purchasers who have acquired the apartment for investment purposes. However, once the sponsor or a member of his family (or, for that matter, a subsequent investor purchaser or a member of his family) occupies the apartment as a residence, or an outside purchaser buys it as a residence, the stock no longer qualifies as Unsold Shares. If an apartment which was once occupied by a resident owner is subsequently acquired for investment purposesfor example, when a sponsor finances a purchase for residential use and subsequently takes back the unit in foreclosurethe stock is no longer deemed Unsold Shares.
Owner Versus Holder
While cooperative Offering Plans typically give broad privileges and immunities to Holders of Unsold Shares, and delineate the concept of Unsold Shares, they scrupulously avoid defining the term Holder. This incongruity gives rise to the penultimate question: ffb Is an Owner of Unsold Shares the legal equivalent of a Holder of Unsold Shares?
The New York State Attorney General has taken the position that an Owner of Unsold Shares does not necessarily qualify as a Holder of Unsold Shares, and that to become a Holder of Unsold Shares, an Owner of Unsold shares must meet the following five requirements:
1. Obtain a designation as Holder of Unsold Shares from the sponsor. It is not sufficient for subsequent transferees of the sponsor to obtain the designation from their immediate seller, it must be procured from the original sponsor. Under the regulations, the sponsor may only designate financially responsible persons as Holders; 2. Obtain a written guarantee of payment by the sponsor to the co-op of all financial obligations of the Holder of Unsold Shares. This provision of financial security is the quid pro quo for allowing an investor to enjoy the privileges and immunities described above indefinitely; 3. Adhere to the escrow and trust fund provisions of the General Business Law; 4. Register with the Department of State as a broker-dealer; 5. File regular updating amendments to the Offering Plan.
Adding to the confusion, Appellate Courts have studiously avoided the issue of whether these specific Attorney General regulations have the force of law. Occasionally reversing lower court decisions which had embraced the regulations, the Appellate tribunals have adopted divergent standards for determining Holder of Unsold Share status. The Appellate Division, Second Department (which governs Queens, Kings, Richmond, Nassau, Suffolk and Westchester Counties) has flatly held that any Owner of Unsold Shares is also a Holder of Unsold Shares. The Appellate Division, First Department (which governs New York and Bronx Counties) has held that the purchaser's true intent in acquiring the stock should be taken into account when determining whether he is merely an Owner of Unsold Shares or is, indeed, a Holder. Thus, any conduct by a hopeful Holder which is inconsistent with his stated intention of acquiring the unit as a Holder of Unsold Shares may defeat his bid for such status.
In one instance, a trial was ordered because the would-be Holder had executed a mortgage application indicating her intention to acquire the apartment as a primary residence rather than for investment purposes. This apparent inconsistency raised a question as to the purchaser's true intent in purchasing the unit. An investor's claim to Holder of Unsold Share status can also be readily challenged if the apartment(s) in question at some point in the past had been purchased for residential purposes.
Lessening Their Effects
A co-op can challenge an investor's claim to Holder of Unsold Shares status. But, in light of the Appellate Court's apparent reluctance to embrace the Attorney General's regulations with open arms, the outcome of any litigation is unpredictable. Therefore, boards faced with a heavy concentration of investors in their buildings might seek to obtain half a loaf through a negotiated settlement. This would allow them to achieve some degree of control and financial benefit, while avoiding costly and uncertain litigation. Given the high stakes surrounding the issue of Unsold Shares, the mere prospect of a successful challenge to Holder of Unsold Share status should provide the board with ample leverage to approach settlement discussions.
There are many concessions which might be pursued by a co-op in exchange for recognition of present Holder of Unsold Shares status. You can seek an agreement with the investor that would limit the term of each of his sublets to two years, with a best efforts commitment to market each unit for sale to a resident owner upon the expiration of each lease term. This would reduce the prospect of perpetual rentals. Or, you can obtain a commitment by the investor to investigate personal histories as well as financial qualifications of prospective tenants. This would reduce the prospect of the co-op being stuck with a probl d72 em tenant, and would establish a measure of control over who enters the building. Likewise, minimum lease terms for each of the investor's sublets would reduce the problem of transients within the building. Or, consider seeking a commitment by the investor to refrain from treating his future transferees as Holders of Unsold Shares. This would eliminate the prospect of perpetual bondage to Holders of Unsold Shares. A commitment from the investor to pay future sublet feesbeginning with his next tenants, or at some fixed date in the futurewould assure a future revenue source. Established financial criteria for the investor's prospective purchasers would also reduce the prospect of financially irresponsible owners in the building. Another alternative is to seek cash payment, or the equivalent, in exchange for explicit recognition of the investors' Holder of Unsold Shares status.
If you live in a building with unsold shares, it's important to realize that you're not powerless. With the help of an attorney, who can ensure that any of these accommodations are properly implemented, you can lessen the most adverse effects of Holder of Unsold Shares presence in your co-op building.
Mr. Rosen and Mr. Cholst are partners at Rosen & Livingston, a Manhattan law firm specializing in the representation of co-op and condo boards.