One of the hottest growth areas in the hotel industry is condominium hotels. Popular for some time in resort destinations like south Florida, condo hotels now are taking root in urban markets like Chicago, Los Angeles, New York and Washington.
You can hardly turn the pages of the trade press without reading about another project in the works by some of the leading hotel developers like The Falor Cos., which is converting more than half a dozen hotels and office buildings into condo hotels. Favorable publicity for condo hotels has been fostered by "The Donald" getting into the act with his proposed Trump International Hotel Tower in Chicago.
Yet, despite the buzz around condo hotels, many people still do not know exactly what they are. From both an owner and consumer standpoint, condo hotels fall somewhere between a hotel and a timeshare. A condo hotel is operated as a hotel, often with the usual amenities you would expect to see in a first-class hotel. However, some, if not all of the units, are owned by individuals. Individual owners have the option of staying in their units or renting them out to guests.
The benefits to condo hotel owners are numerous. They get to stay in a hotel instead of just a residential condo, with all the amenities a hotel has to offer. There is the possibility that their unit will appreciate in value, they might be able to deduct mortgage interest and real-estate taxes paid on the unit (and perhaps other costs such as utilities and depreciation) and can collect rental income to help defray expenses.
From a developer's standpoint, the condo hotel reduces the risk of loss because the proceeds from the sale of individual units help defray the developer's mortgage and other expenses and provide a much quicker return on investment than a typical hotel. The result is that a condo hotel development should be easier to finance. By comparison, because the condo hotel unit is sold by the developer only once, the developer's cost to market the units for sale is considerably lower than with timeshare projects.
In structuring a condo hotel, there are numerous legal and business issues a developer must address. Key areas include the extent of the developer's control over the hotel's common areas, costs to be borne by the developer as opposed to the unit owners, and types of rental programs to offer to condo unit owners, including the percentage of revenues to be shared with unit owners. As with a hotel, selection of a brand affiliation and management company are crucial to the marketing and success of the condo hotel project.
Much of the actual law governing the sale of condo hotels is established by the locale and state where the condo hotel is located. Thus, what works in Florida (which has well-established condo hotel laws) might not work elsewhere. Moreover, many states do not have condo hotels, so the first completed projects will be venturing into uncharted waters. That is not to say that a condo hotel cannot be developed, but extra effort might be required in preparing and processing the condo hotel documents.
Although state law covers most aspects of the condo hotel documentation, there is important federal law to consider. The developer needs to take special care to make sure that its condo hotel does not constitute the offering of securities, in which case the developer would have to register the offering with the Securities and Exchange Commission and state securities law administrators. The sale of a condo hotel unit coupled with certain other arrangements will cause the offer of the condo hotel unit to be considered the offering of a security. For instance, the SEC's view is that selling condo hotel units combined with a rental arrangement or similar service constitutes the offering of a security because of the commonality of the project, the divestiture of control over the condo hotel unit and reliance upon the rental program operator to generate profits.
Likewise, any sales program suggesting potential economic benefits that the purchaser might derive from ownership of the condo hotel unit or its occupancy by hotel guests would oblige the developer to register securities with the SEC and state administrators. So, too, any arrangement that provides for an exclusive rental agent or otherwise materially restricts the purchaser in the occupancy or rental of his unit may require registration with the SEC.
As a result, it is especially important that the condo hotel developer educate its sales and marketing personnel about what they can and cannot say to prospective purchasers. The sale cannot be made with any emphasis on economic benefits to be derived from the purchase. There can be no participation in rental pools. The purchasers cannot be materially restricted in occupying their units. Any rental arrangements must be terminable by the purchasers on reasonable notice (subject to the rights of persons who have booked the unit for a future stay). Finally, any written descriptions of rental programs may only be given to prospective purchasers who specifically request such materials, and such materials should not include any projections or emphasize economic benefits.
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