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Slicing Up the Pie: RLS vs Condominium

Lindquist Gets Real: Real Estate Tips from Lindquist & Vennum

There are various ways to subdivide a parcel of real property into individual lots or units that operate together under the aegis of some form or agreement or set of covenants governing things like permitted use, building restrictions, contribution to common area costs, etc. Depending on the number of subdivided lots or units and the anticipated uses, these agreements can become quite complex.

Adding a vertical element to this creates further complexity, both because of the number of lots or units involved and because of the increasing role of structures and systems (framing, HVAC, plumbing, etc.), that provide support or services to more than one lot or unit. Mixed uses, such as commercial users on the ground floor and residential on the higher floors, add yet another layer of complexity.

The laws in Minnesota have evolved a great deal over the past 10 years with respect to these structures, thanks in large part to the MCIOA committee’s hard work in drafting and revising the Minnesota MCIOA statute. Although the condominium structure in general and MCIOA in particular are not the sole method of subdividing real property into multiple horizontal and vertical units, the work of the MCIOA committee has illuminated the various issues that ought to be addressed in any such structure.

The two most commonly used tools for subdividing property into horizontal and vertical units are the MCIOA condominium structure and a vertical Registered Land Survey (“Vertical RLS”). This article will provide a brief overview of some of the plusses and minuses of each structure. Keep in mind that this is a big picture outline only. When making a determination about which structure to use, it is important to consider every element of the project.

General Overview
A condominium involves the creation of a set of vertical boundaries which are separated into horizontal units of space, as depicted on a plat which states the 3-dimensional measurements for each unit. Once created, each unit is a separate parcel of real property. In addition, each unit is allocated an undivided interest in the common areas of the condominium. Common areas in a condominium consist of all shared elements, including the walls between the units, the roof and other structural elements, and the grounds, if any.

The documentation necessary to create a condominium consists of a declaration, a condominium plat, and the articles of incorporation and bylaws of the condominium association. This structure requires establishment of a nonprofit corporation to serve as the owner’s association, the members of which must include all unit owners.

The RLS can divide property on 2 dimensions as well as vertically, and may further divide portions of floors, also on an elevation basis. The boundaries specified on an RLS create separate parcels of real property, known as “tracts.” Unlike a condominium, however, these separate tracts are not allocated any interest in common areas. Therefore, it is typically combined with a reciprocal easement agreement (“REA”) that defines cross easements for access and use of common areas and improvements, including utilities. The REA must also address the tract owners’ respective rights and obligations regarding insurance and maintenance of common areas (similar to the terms contained in a condominium declaration).

Use of an RLS does not require establishment of a separate legal entity, such as an association. However, since there is no statutory regime providing for the enforcement of the parcel owners’ respective obligations, it is necessary to give thought into ensuring that the REA is comprehensive enough to explicitly provide for the right of a “managing owner” to obtain insurance and to maintain the common areas, as well as to enforce the obligation of the other owners to pay their allocated share of the costs incurred by the managing owner.

Condominiums are created only when both a declaration and a condominium or “CIC” plat are recorded, and a nonprofit corporation is organized to act as the unit owners association. Minnesota law does not permit recording of a condominium declaration until all common structural components and mechanical systems of the condominium building are substantially completed, as evidenced by a recorded certificate executed by a registered engineer or architect (this certification is actually part of the CIC plat itself). See Minn. Stat. § 515B.2-101(c). As the CIC plat must provide the three-dimensional measurements of each unit, the CIC plat can’t be recorded until the units are built and can be measured.

As a result, the various units within a condominium project cannot be conveyed to separate owners prior to or during initial phases of construction, because the units have no legal existence until the plat containing their actual measurements is recorded. Individual owners may therefore be unable to secure construction financing, as the ownership of their unit cannot be conveyed until after it has been framed.

An RLS may be prepared and filed once the developer has determined the basic framework for the building, including the number of floors and major common elements to be represented by individual tracts. For example, in a building with four floors, the first floor might be devoted to retail use and be known as Tract A, while the other floors might be devoted to residential use and be known as Tracts B-D, respectively, and the elevator shaft running vertically and adjacent to Tracts A-D for shared use by all occupants might be known as Tract E. Once the RLS is filed, ownership of individual tracts may conveyed to separate owners. Each tract owner will have greater opportunity to engage in construction oversight and control than would be the case if a condominium were created.

Zoning is part of the process of approval of a condominium project. However, using an RLS can create the potential for zoning issues. This is because there is little or no governmental oversight prior to the creation and recording of an RLS, and thus each parcel buyer must ascertain the zoning aspects of his use. We have encountered at least one vertical RLS where the mixed use aspect encountered difficulties because the commercial entry was located closer to the residential entryway than permitted by applicable zoning.

These types of issues can be addressed with planning. The important point to keep in mind is that there is no over-arching statutory framework governing the RLS process. Thus, planning is critical on all issues, including zoning.

Under MCIOA, the statute of limitation for breach of an express or implied warranty is six years, but the parties may agree to reduce the period of limitation to not less than two years. See Minn. Stat. § 515B.4-1152(b).

Under an RLS, the parties may negotiate the length of warranties. The statute of limitation and statute of repose for breach of commercial construction warranty and non-warranty claims provide that actions must be commenced no later than two years “after discovery of the injury” but shall not accrue more than ten years “after substantial completion of the construction.” Minn. Stat. § 541.05, Subd. 1(a); Subd. 4.

In a condominium, the nonprofit corporation created to function as the unit owners association performs administrative functions and provides services such as obtaining casualty insurance on the structural elements of the building, obtaining liability insurance on the common areas, and arranging for the maintenance, repair and replacement of common area improvements as well as the structural elements and exterior of the building. Individual unit owners pay their allocated share of the costs for such insurance, maintenance, repair and replacement through association assessments. MCIOA provides that amounts assessed against each unit automatically become a lien against each owner’s unit, and also authorizes the association to foreclose upon any unit for unpaid assessments, providing a statutory enforcement mechanism to ensure all unit owners contribute their allocable share of the condominium’s expenses.

The RLS permits full separation of ownership and considerable autonomy for each tract owner. The parties are free to craft an REA to coordinate the use and management of shared portions of the project without reference to any underlying statutory regime, other than Minnesota laws governing contracts. This can be advantageous because the parties need only refer to one agreement (rather than Minnesota statutes, a declaration, articles of incorporation and bylaws) to determine their respective rights and obligations.

Although the RLS offers greater flexibility to individual tract owners, it is important that the REA be drafted to contain sufficiently clear, definite and comprehensive provisions to enable the owners to share responsibility for insuring, operating and maintaining the project in an effective manner. Maintenance, repair and replacement of common elements must be coordinated among owners without the centralized decision-making authority of an association, and without reference to any underlying statutory regime that provides each owner a say in the decision-making process. Because no statutory mechanism for allocating costs for insurance, maintenance, repair and replacement among tract owners exists, it is important that the REA addresses cost allocation and establishes enforcement mechanisms.

The MCIOA structure is particularly well suited to developments with large numbers of units, particularly residential projects. Though the MCIOA law is not restricted to these types of developments, its statutory framework arose in part in response to a need to protect individual home buyers, and its statutory framework reflects this driving factor.

The RLS is often better suited for commercial projects involving fewer units, and particularly commercial projects where one large user is the logical “managing owner” for purposes of maintaining, repairing, and replacing exterior weatherproof envelope features such as curtain walls, roof, HVAC, etc.

These broad guidelines of course do not restrict the use of MCIOA or RLS to one type of development or the other. Before undertaking any multi-unit project, the developer must carefully consider all possible use factors in determining which type of contractual and legal structure best suits the project.

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