Should You Buy a Cooperative?


    Photo by Ajay Suresh @ Wikipedia

    A few weeks ago, a reader emailed us asking, “I understand houses and condos are super expensive right now, but I just found this cooperative in my neighborhood that is still reasonably priced. Is this a good idea?”

    To which my answer was, “What the hell is co-op?”

    It turns out that in the spectrum of house types you can buy, ranging from “detached single-family homes” to “little boxes in the sky,” there is an odd and relatively obscure type of housing that is co-op or community housing referred to as. operational.

    They can physically look like anything from an apartment-style apartment to a cluster of townhouses. It is not the type of housing that makes a cooperative a cooperative, but the ownership structure. But one thing that anyone will notice immediately when they come across an offer from a cooperative is that the price is much lower than that of an equivalent home or condo.

    So what is there? Why are cooperatives so much cheaper? Is there a catch?

    Oh, you can bet on it. And to understand that, we must first look at the ownership structure of a cooperative.

    Ownership structure

    When you buy a cooperative, you basically don’t own anything physically.

    Confused already? Buckle up because this ride is just beginning.

    Most people understand that in a real estate transaction, you pay the money and get a house or condo in exchange. Just peasy isn’t it? Not in a cooperative.

    Nobody in a cooperative owns anything directly. Instead, a nameless, faceless company owns the actual buildings. This company elects a board of directors who oversees the actual day-to-day management of the building. This company also issues stocks that can be bought by individual investors and then allocates units in the building based on the number of stocks each person owns.

    So when you buy into a cooperative, you are not buying land or property. You buy a share in a corporation, and based on that corporation’s interest, the cooperative allows you to occupy any unit it owns.

    Crazy, right?

    As with anything, there are pros and cons of participating in a cooperative versus a more traditional ownership structure, and while we don’t have the time to delve into every little legal nuance, I noticed a few big differences while reading this article researched. And in no particular order they are the following …

    You cannot take out a mortgage

    Say what? I’m joking, right?

    Nope. It’s true. A bank won’t give you a mortgage if they find out you’re using it to buy a cooperative.

    Why? Simple. A “normal” mortgage is a loan written against a real asset that you own as collateral, namely a house or condo. But remember, you don’t own anything for a cooperative, or at least nothing that qualifies as real estate. So if the bank wrote you a mortgage and you default on your payments, the bank will not be able to lock your house because you never owned that house to begin with.

    Do you see the riddle?

    Instead, a loan that is used for a cooperative is classified as a “share loan”. Instead of lending you money that is secured against a home, they lend you money so you can buy a stake in a business.

    It’s also far less popular than traditional mortgages, and you may have to look for a smaller, more opaque credit union to get one. Here in Canada, for example, none of the big banks seem to offer them, and neither do the big American banks.

    Where you can find them, the loan terms are much more expensive than a traditional mortgage. Since these types of loans are not CMHC / FHA insured, the bank sees this higher risk and therefore the interest and down payment requirements are higher.

    While cooperatives may seem cheaper on the surface because the sticker price is much lower than that of traditional houses or condos, the difficulty and overhead of getting funding means you actually need it more Cash on hand to close the deal than a traditional mortgage. The illusion of a lower price may not really help you if you cannot qualify for a regular condo mortgage.

    We can already see that buying a cooperative is getting quite complicated. And only on the financing side, because even after you have put your money ducks in order, there is still the next hurdle …

    The board of directors decides who can buy and sell

    When you buy a home or condo and the buyer and seller agree on a price, it pretty much means the sale will take place (except that unforeseen things will happen before closing). In a cooperative, however, agreeing a price is only the first step. Because then it is important to convince … the dreaded co-op board.

    They are called board interviews and are basically a panel interview by the board of directors to convince them to let you join their community.

    The board of directors of each cooperative has the right to veto who can and cannot buy one of its shares. On paper, it’s because every cooperative wants to build a certain kind of community. Some cooperatives target artists, others target students, and others just want people of a certain financial status to be part of their community.

    If that sounds like a set-up for annoying power gulps … then you are absolutely right. Think of a condo board, but with more power. Yes.

    It’s not all bad, though. For example, with Veterinary Candidates on the co-op board they can exclude speculators from buying the unit, renovate it, and then flip it over for a quick profit. It also means they can ban AirBnbs or amateur rental companies. In general, cooperative boards want long-term residents who want to live there as well.

    But it also means that it will take you a lot of time to get in. So bring your knee pads to the interview.

    And unfortunately, the power of the co-op board over you doesn’t end if you convince them to let you in. And that’s because …

    You can be evicted

    I was shocked to find out because usually buying a property means you no longer have to deal with an annoying landlord who could quit you at any moment. But even here, when you buy into a cooperative, you actually don’t do it own any property. You own a share in a corporation with which the cooperative council grants you a right of residence in one of its units. A right they can take away from you if you break their rules.

    Rules can be:

    • No pets
    • No parties
    • No overnight guests
    • No subletting
    • No redecorating
    • No renovation
    • Etc…

    Obviously, not every cooperative is that restrictive, but many are, and if you break their arbitrary rules and statutes, they have the power to evict you.

    Well, the power of co-op boards isn’t absolute. Evictions must go through the same process that rental property owners must go through to evict a tenant.This is a short process that favors the cooperative board, but the point is that despite paying hundreds of thousands of dollars to live on a cooperative, you can effectively still having a landlord.

    Who should buy a cooperative?

    I have to admit that I didn’t know what co-ops are when I started researching this article, other than that they were generally cheaper than traditional houses and condos. And as I learned more about co-operatives, I realized that they are cheaper for a reason.

    There are many reasons to own a home and not to rent it out. Maybe it’s because you hate being under a landlord’s thumb. Maybe it’s because you want to be in control of your living space. Maybe it’s because you think it’s a good investment.

    None of these reasons seem to apply to a cooperative. You still have to pay a lot of money (though not as much as a normal home), you still have to ask someone’s permission for anything you do, you still live under a de facto landlord who is taking you every moment and you don’t even benefit from the fact that the value of your property increases over time because you don’t own any real estate!

    Cooperatives just seem to combine the worst aspects of renting and owning without offering the benefits of either.

    So should someone buy into a cooperative?

    To be honest, I have a hard time doing it. I suppose if for some reason you can’t take out a mortgage, you have a lot of cash lying around, you don’t care about making money off your purchase down the line, and you like the community the co-op represents, then a co-op could make sense for you.

    I’m just not convinced that many people would be in this situation.

    What do you think? Has anyone ever bought into a cooperative? Did you find the experience positive or negative compared to renting or owning a traditional home or condo? Let’s hear it in the comments below!

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