The most common reason common interest communities elect to not adequately fund their reserve account is because they feel it’s just too expensive. This is completely understandable as homeowners feel tapped out due to the rising costs of everything else in their lives. However most are not aware that electing to refrain from adequately funding a reserve account is actually the most expensive approach to common area expenses. The community will literally be kicking the can up a hill of rising expenses and deferred maintenance issues; the longer they play this game the higher the cost to the members of the community.
It’s Just Too Expensive
It’s just too expensive is a copout as there are many communities which have reserve accounts funded in a high percent funded range which has the lowest risk for special assessments, loans or deferred maintenance issues. From our records approximately 25% of the HOA communities out there are funded above 70% which tells us that this is not an unattainable goal for a community. Also from our records search and perhaps not at all a coincidence the communities with the highest percent funded do in fact tend to have higher monthly or yearly HOA Dues.
Does this give credence that it is just too expensive? Absolutely not because those that have the lower HOA dues will rely on special assessments, loans or just ignore everything and go the absolutely most expensive route of incurring deferred maintenance in the community. These communities which decide to remain in a low funding position with each passing year will often increase the likelihood that the community will have to rely on other sources of income due to the common issue of Peak Year expenses which are infrequent but extremely costly common area projects like asphalt, windows, roofing, siding and decks.
Funding Options for an HOA
A community has relatively few ways to pay for common area expenses. With it being highly unlikely anyone will donate money to maintain your community, the Board will need to find a way to raise funds from the community membership. Let’s break down the typical funding options below:
Regular Assessments - this is the amount that is regularly assessed to the HOA membership on a monthly, quarterly or annual basis. These fees cover the ongoing operating expenses of the community such as insurance, lawn care, utilities, ongoing maintenance expenses as well as to fund the reserve account. With rising expenses to the operating expenses it is often an easy and short term strategy to cut the reserve account allocation rate instead of voting to increase the HOA dues.
Special Assessments - these are irregular and often unplanned expenses to homeowners for a project or numerous projects that need to be completed in the community. Typically these are voted on and implemented in a relative short time frame and homeowners will be required to come up with large amounts of money on short notice. Special assessments of $3,000-10,000 are common with amounts above $10,000 occurring fairly regularly for some communities which have put off repairs & replacements for an extended period of time. Special assessments absolutely have their place but it’s not for expected common area expenses – an expensive and unfair choice for the Board to follow.
Bank Loans - obtained from a bank and are typically required to be paid back within 10 years. Loans to Home Owner’s Associations are often difficult to secure due to a variety of lending guidelines that must be met and documents which must be provided before the underwriter grants approval. If the HOA does secure the loan the repayment amount over the life of the loan often approaches double the original loan amount – ouch. Most banks will also require the HOA dues to be increased to a more appropriate level and require a reserve study to be performed. The community members will now be paying their (higher) regular HOA dues as well as an additional payment for the loan + interest. Essentially a double whammy on the members finances – A very expensive option.
Deferred Maintenance - we call this the head in the sand approach – if we do not discuss what’s the fuss – well the reality of this approach is that short term savings equals huge expenses later. Ignoring common area building and grounds components when they have deteriorated beyond their useful life has the unintended consequence of other systems being damaged. A great example we recently saw recently was a roof that had not been replaced on its regular cycle and had essentially been ignored for about 5 years. The Board and members saw no large leaks so they had assumed this was a wise decision for them – that is until the stucco siding on the building began to have issues. That 5 years of ignoring the roof equaled rot issues that they had determined was going to cost them over $300,000 to fix; this was due to the Board deciding to not replace the roof at an expense of $80,000. Additionally this roof which costs $80,000 five years ago now costs about $93,000. Ignoring has done nothing but costs the community more money, damaged the market appeal of the community and will likely impact property values as they try and sort out how to pay for everything (buyers will pay less for a home if it’s known there is a special assessment coming).
Why Be Well Funded
The opposite of these horror stories are communities which have elected a Board which has decided to follow a more fiscally responsible path by building up their reserve account and raising HOA dues on a regular time intervals so that homeowners are well aware of the increase months or years in advance. This more prudent approach to the dues leads to a reserve account which is either well-funded or on a path towards being well funded which means that in each passing year the risk for reliance on special assessments and loans is typically reduced and there is minimal need to ignore maintenance issues.
Having HOA dues at a realistic level to pay operating expenses and funding the reserve account is actually the cheapest option for a community. Small increases annually, typically only 3% once the dues are set at a realistic level, has a minimal impact on the community membership while still offsetting ongoing inflationary factors to the component costs.
Additionally is has been our experience that these Boards and Community members have less conflict and stress related to making decisions such as increases to the HOA dues; it is something they have done may times before and the community begins to see the benefit of doing so after a few rounds of expenses come due.
Reserve Study for HOA
So with all the option on the table why continue on a path of uncertainty, high stress and unnecessary expenses. A reserve study is an excellent tool to begin the process of moving a community in the right direction. Whether it’s done by an in house person or an outside professional is hired a reserve study will show the Board the component costs and a timeline of projected expenditures which are both necessary in creating a financial strategy for a community.