My office regularly represents fix and flippers or rehabbers at closing. We have a nice portfolio of repeat clients, but we also receive a steady stream of first timers that need coaching. Over the years I have compiled a list of the essential legal items every client must know in order to be successful at completing their project and selling for a profit.
1. Lien Waivers. Having a lien waiver is one of the most important, and often overlooked and neglected, part of completing a rehab. A lien waiver is a sworn statement from a contractor (general or sub) that states labor or materials provided to job site, if that work was completed, and if full or partial payment was received. Title companies will want to see lien waivers to clear title. I’ve witnessed many sellers running around at the 11th hour trying to obtain lien waivers to prevent closing delays. It also protects the owner by having proof the contractor was paid in full. Having a lien waiver from your general contractor prevents arguments if payment was made in full.
2. GC paying Subs. This overlaps with lien waivers, but merits a separate discussion. You may have a lien waiver that your General Contractor is paid in full, but there is always risk they did not pay the Sub Contractors. A Sub Contractor that is not paid may still file a mechanics lien on the property. Having that lien waiver showing all funds were paid help to establish a defense against the Sub Contractor and file suit against the General Contractor.
3. Mechanics Lien. A mechanics lien is a lien that may be filed against your property for any person that performed work or supplied materials for your project. A mechanics lien must be dealt with or it can prevent your closing or refinance from happening. Recent court rulings allow almost anyone to file a mechanics lien associated with a project. Everyone down to the architect can file a lien if they are not paid.
4. Limitations on Mechanics Liens. Know your local rules. In Illinois, a mechanics lien stays valid for two years and then automatically expires. The person placing the lien on your property has limited time to collect. You may also serve notice on the lien holder that forces them to act or the lien will expire sooner.
5. Municipal Violations. This is prevalent for clients in the City of Chicago, but it can still come up in suburban projects. In the suburbs, you may be required to put up a bond with the city or village and promise to have all repairs completed in 60 or 90 days. The village appointed inspector will have all the authority to approve the work done. If you start fighting with your village inspector, you will have a rough time getting to the closing table. In the City of Chicago, the situation is more complicated. An investor can pull permits, complete work, and pass city building code inspection. However, if the property had previous issues and there is an open building violation on the property, you have to pass inspection from the Court Appointed Inspector. I’ve seen many properties pass inspection from regular building inspector, but if you don't get the blessing from the Court Appointed Inspector, you will not get the case dismissed and lien removed. Failure to get the city lien removed will block your closing. You need to know local rules.
6. Buildings and Zoning are two different departments. If you plan to do a multi-family property, this is a regular occurance. You can pass building code inspection, but that doesn't mean you passed zoning. Many units can pass building code inspection and can even pass the rigorous Section 8 inspection, but that doesn't mean they are zoned legal units. Failing to have a unit approved for zoning can limit your appraisal and your ability to get value on resale. On that same token, you can get a property re-zoned, but that doesn't mean it passed building code. You can spend a lot of money getting a property re-zoned, but you may need to spend a small fortune for the property to pass building code requirements. The first step to have an illegal unit approved by zoning is to obtain architectural plans and permits. If you do not want to spend the money on architectural plans, you probably won’t have the budget to complete the process.
7. Warranties. Buyers want warranties. Take every opportunity to get a transferrable warranty from any contractor or vendor that provides service or materials for the property. Keep them in a binder in the kitchen for prospective buyers to view. Every time an item is delivered to the property, put the warranty in the binder. Providing these will make buyers happy and limit your liability for repairs down the road.
8. Permits. Investors will debate if they should or should not pull permits until the end of time. That's a given. What Investors should really keep in mind is who is pulling a permit. I've had clients get into fights with their GC and fire them in the middle of a project where multiple permits are pulled. Now they have a half completed project and need to hire a new GC to pull a new permit. Easier said than done. A GC isn't going to want to put their name on a permit where they have to accept responsibility for work they didn't perform. Now the client is scrambling because no one wants to finish the project and the old GC won’t return a call. The client either ends up pulling the permit in their own name and taking the risk and liability or overpaying a new GC to accept the risk. Either way the client ends up losing money on the project. This one mistake is the number 1 reason I see clients lose money.
9. Record Keeping. Keep all your receipts and order forms. You never know when you may get a bad shipment or incomplete shipment of materials. Once the materials have been dropped off, the assumption is you received what you ordered. Clients should make an effort to be on site during delivery.
10. Insurance. Have the right insurance on your project. Tell your insurance agent you are going to be building or rehabbing a property so they can put the correct riders on your policy. Let's say materials are delivered to your project and you have the truck place the wood, drywall, appliances, etc in the garage to be installed tomorrow. Those materials sitting in the garage, or even the living room of the house, are personal property. They are not part of the house and on a standard insurance policy, will NOT be covered. If someone steals your supplies overnight, when you call your insurance agent, if you never told them about the rehab you may not be covered. Once materials are installed, they become part of the house and are covered. Don't be cheap, tell your agent what you are doing and let them find you the right policy.
11. Hire A Good Attorney. I’ll offer an 11th tip as a bonus. Hire a good real estate attorney like Floss Law, LLC to represent you. We can be reached at 224-326-2903 or bob@flosslaw.com.