Transfer fees for New Urban cultural organizations survive a challenge
More than a year and a half after it first threatened to forbid most lenders to finance mortgages in communities with private transfer fees, the Federal Housing Finance Agency has issued its final rule.
For those of us who were concerned about the impact the ruling could have on cultural and other activities within New Urban communities, it was worth the wait.
In many New Urban communities, cultural and community-building events are sponsored by special organizations that are not homeowners’ associations but instead are tax-exempt under the US tax code—either under 501(c)(3) for charitable organizations or 501(c)(4) for social welfare organizations. (While both types are tax-exempt, only the 501(c)(3) can accept tax-deductible contributions.) Many of these organizations gained much of their funding from transfer fees—usually a percentage of the sales price—paid at closing to the tax-exempt organization.
The original proposed rule would have outlawed almost all transfer fees. The first proposed revision to that rule allowed transfer fees to homeowners’ associations and 501(c)(4) organizations, but still severely curtailed their usefulness to 501(c)(3) organizations because they required the benefit to be limited to the residents of the community. That test would most likely have threatened the special tax status of a 501(c)(3) organization.
The final rule still prohibits some transfer fees, but its exemptions are now broad enough to provide clear and reasonable safe harbors for new communities that wish to use transfer fees to help fund a 501(c)(3) organization as well as fees to homeowners’ associations and 501(c)(4) organizations. Note, however, that many states also have restrictions on private transfer fee covenants.
Focus on Venue, Not Participants
Under the final ruling, a private transfer fee paid at closing to a homeowners’ association, 501(c)(3) or 501(c)(4) is permitted if the use of the fee is limited exclusively to purposes which provide a “direct benefit” to the encumbered property. There is no dollar limit or percentage cap on the amount of fee that can be charged.
What is new, and significant, is the definition of direct benefit. The final rule does not require that the activities benefit only members of the community. It only requires that the activities take place within the community. This will make it much easier for the organization to maintain its 501(c)(3) status.
According to the final rule, “direct benefit” means not only property maintenance such as a homeowners association might provide, but also includes “cultural, educational, charitable, recreational, environmental, conservation or other similar activities that
(1) Are conducted in or protect the burdened community or adjacent or contiguous property, or
(2) Are conducted on other property that is used primarily by residents of the burdened community.”
This means that if the fees are used for events that take place within the “burdened community,” then the fee is permissible. That's a pretty easy test to meet.
Defining the Burdened Community
For New Urban communities, the only part of that test that needs a little finessing is the definition of “burdened community.”
Let’s take the example of a New Urban community that, for governance purposes, has two separate structures: a homeowners’ association to maintain the residential neighborhoods, and a separate commercial association or other type of management to maintain the commercial or mixed-use town center. (Forgive me if you’ve heard this before, but my mantra is never make commercial property part of a residential homeowners association.)
Our model community is under development and parts of the property have not yet been platted or developed. The developer is starting a farm on a piece of property that is within the master plan but removed from the early phases. The developer wants to create a 501(c)(3) charitable organization that will create programming throughout the community—art festivals in town center, educational programs on the farm, and a concert series in the town hall.
According to the final rule, “burdened community” means “a community comprising all of the parcels or interests in real property encumbered by a single private transfer fee covenant or a series of separate private transfer fee covenants that require payment of private transfer fees to the same entity to be used for the same purposes.”
The rule also allows activities to take place in “adjacent or contiguous property,” which means “property that borders the burdened community, provided that such adjacent or contiguous property may be separated from the burdened community by public right of way.”
In our example, if the transfer fee only applied to the residential land subject to the residential declaration, the farm would not qualify, as it is not adjacent to the early phases. The town center might be considered adjacent or contiguous property, but relying on that definition could be tricky. Does “adjacent or contiguous property” mean all of town center—or just that immediately adjacent to the residential portion?
The safer route is to include the entire master planned area within the “burdened community.” This means that the transfer fee must be created in a document that encompasses the entire master-planned area, not just the portion of it submitted to the homeowners’ association.
This isn’t hard to do. It just takes a little careful drafting to both comply with the regulation and preserve developer flexibility. It should certainly be possible to create different classes of property, so that the rate for the transfer fee is different for different types of property such as residential, commercial or agricultural land.
A slightly messy alternative would be to expand the “burdened community” in phases to include non-contiguous property. That way the transfer fee could be imposed on any developer-owned property on which the organization wanted to hold an event—such as the farm in our example—although, again, the fee would not necessarily be imposed at the same rate as for residential property.
The regulation takes affect July 16 and applies to any mortgage involving the Federal National Mortgage Association, the Federal Home Loan Mortgage Corporation, or the Federal Home Loan Banks. Transfer fees created before February 8, 2011 are exempt from the rule and would not be subject to mortgage restrictions, but may be subject to state law.
Doris S. Goldstein is an attorney in Jacksonville, Florida, who works toward the creation and effective management of New Urban communities. She is the co-author, with Dan Slone, of the book A Legal Guide to Urban and Sustainable Development for Planners, Developers, and Architects. Her website is www.newtownlaw.com.
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