The Reserve Account is not for the Future
The reserve account is ideally funded at an amount equal to the projected deterioration to the common areas in any specific year. This ensures that the membership in a community pays their respective fair share of the deterioration of the common areas and that when the common areas are fully deteriorated and requirement replacement there should be an amount in the reserve account which is adequate for these expenses.
The Reserve Account is not for Operating Expenses
It can be very tempting to dip into the reserve account to pay for operating expenses, especially when the reserve account grows to an amount which in the eyes of the Board appears to be significantly large enough for expenses. This “dipping” into the account usually results in an ongoing use of these funds and reduction of the reserve account balance over time. Most often this scenario is due to the Associations refusal to increase the HOA dues on a regular basis which is necessary to offset inflationary factors.
The Reserve Account is not for Capital Improvements
When a community decides that they would like to add a recreation center, park, swimming pool, etc. they often are tempted to utilize the reserve account balance to construct these items. This is not an appropriate use of these funds which have been set aside for the projected expenses related to current common area components. A community which would like to add common areas should establish a capital improvement fund separate from the reserve account to fund. Note that after the common area is constructed funding for the projected repair/replacement expenses for these new common areas is appropriate.
Interest Rate Factors on the Reserve Account
Interest earned on the reserve account balance are beneficial but overall have a minimal impact on offsetting inflationary factors impacting the common area component expenses. This is because the interest earned is only on the actual reserve account balance but the inflationary factors are impacting the much larger total common area replacement costs.
Funding the Reserve Account
Many communities just put whatever is left over from the monthly or annual dues into the reserve account. While this is certainly better than no funding at all this practice is not typically adequate for the long term projected expenses. When these expenses do occur in the future the community may not have enough in the reserve account and must rely on a special assessment or loan. Communities should determine how much they should be setting aside well in advance of the projected expenses so they can most cost effectively fund for these inevitable expenses. A reserve study is an excellent tool for this which all common interest communities like condominium and home owners associations can benefit from.