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Advantages and Disadvantages of an “Acquisition Group”

A few years ago, my client wanted to buy an apartment through an Acquisition Group. However, his attorney dissuaded him from participating. Interestingly, over the past few months a number of my clients joined Acquisition Groups in Modiin and central Jerusalem. What is an Acquisition Group (“AG”), what are the risks, and when is it worthwhile to join?

Background

Buying a home through an Acquisition Group – or “Kevutzat Rechisha” – is the latest trend in Israel and there are hundreds of these groups across the country.

Rather than purchasing a not yet built apartment “on paper” from a developer, the acquisition group members join together and purchase the land and hire a project manager to run the construction.

Savings

The lure of purchasing through an acquisition group is the ability to buy an apartment at a below market price. As there is no developer’s profit added to the cost, one can theoretically save up to 20% of the purchase price.

Now let’s discuss the drawbacks:

Large Initial Payment

Often, members of an AG have to pay a significant amount of money at the outset to purchase the land. In one recent deal, the land cost equaled 2/3 of the apartment price; therefore, my clients had to pay 65% of the total price within a few months of joining the group.

Protection

When buying an apartment from a developer, one receives a “bank guarantee” which ensures that if the developer goes bankrupt, the bank will bring in another builder to complete the construction. In an AG, there are no bank guarantees, as the group is the developer. However, the AG can protect itself by requiring the builder to give a personal commitment via a letter of indemnity. In addition, the AG should pay the builder according to a payment schedule, with funds disbursed only upon completion of each stage of construction. This ensures that should the builder go bankrupt, the AG will have sufficient funds to hire another builder to complete the project.

Financial Stability

When purchasing from a developer, one can easily investigate the developer’s financial strength. However, researching an AG is more challenging, as there are many participants in the group. Notwithstanding this difficulty, it is crucial to understand the AG’s financial strength as it will affect the group’s ability to meet its financial obligations and complete the project in a timely manner.

One excellent method to ensure financial stability is to require at the outset that every group member receive construction financing approval - even if some AG members have sufficient cash to cover all future obligations and are not planning to take out a construction mortgage. Thus, should anyone’s financial situation plummet during the two year construction period, the approved construction mortgage can be utilized to ensure that the project will have sufficient cash flow and not be delayed.

Expertise

Strong construction management is vital to keeping projects moving forward quickly and on budget. Historically, many AGs have been riddled with project delays due to the group’s lack of construction expertise. My general rule is that unless the construction project is run by a superior builder, I discourage clients from buying in an AG due to the inherent risks involved.

Final Thought

Get yourself a good lawyer. In addition to ensuring that (a) you’re joining a financially stable AG and (b) the construction project is managed by a skilled and experienced builder, a good lawyer will ascertain that the AG’s contract, called a “participation agreement,” properly addresses all of the potential pitfalls.

Gedaliah Borvick is the founder of My Israel Home (www.myisraelhome.com), a real estate agency focused on helping people from abroad buy and sell homes in Israel. To sign up for his monthly market updates, contact him at gborvick@gmail.com. 

2014-11-12 10:33:18



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