Preparing for a Rainy Day Keeping Adequate Capital Reserves

 Unless it's a thoughtful gift or a party in their honor, nobody likes surprises.  That's especially true when it comes to sudden, serious, or non-negotiable  repairs to a condo building or HOA. A community must have enough money saved to  deal with major projects as they arise, or risk major financial and structural  troubles. But economic woes of residents such as unemployment or default, or  living on tight fixed incomes, means more HOAs are finding it difficult to keep  their reserves adequately funded.  

 The solution often is to mandate special assessments for necessary capital  projects. Special assessments can tie up community administrators and residents  because financial problems often mean putting off capital improvements with the  building or its common areas, which leads to slumping housing values. And  decreasing housing values can cause more financial problems for communities  since property value losses make it harder to sell properties, which can lead  to more homeowner defaults.  

 A recent Community Associations Institute (CAI) study found that cash-strapped  associations are trying everything to make do. To compensate for a cash  shortfall, the CAI study shows 38 percent have postponed planned capital improvement projects, 35 percent have reduced  landscaping services, 31 percent have reduced contributions to their reserve accounts—funds that are set aside for major maintenance and repairs, 23 percent have borrowed from the association’s reserve account, 16 percent have levied special assessments, 12 percent are allowing residents to perform minor tasks in the community and 6 percent have borrowed from banks and other lenders.  

 That’s why it is essential for a community to have adequate funds in reserve,  especially in tougher economic times. While building up cash reserves can be  difficult, there are ways that communities can build their reserves without  causing undue distress to struggling residents. Knowing how to achieve such a  bankroll can save money in the present and future.  

 Checking Your Balance

 To have the right amount of capital reserves for a community, buildings and HOAs  use one of two particular formulas to determine their financial needs. The two  methods commonly used to calculate this necessary expenditure are the Component  Method and the Cash Flow Method. With the component method, a building’s management calculates the replacement cost of each building component and  divides it by the useful life of each component, such as the building’s HVAC system or roof, etc. The useful life of the component can be determined  by its age and condition, and also by the maintenance work done on it.  Technology can affect the useful life of a component, because technology can  make some building systems obsolete. Environmental conditions also can affect  useful life, too, since some environments are harder on building components.  

Read More...

Related Articles

Don’t Raid the Cookie Jar

Capital Budgeting is Essential

Q&A: Error of Omission?

Q&A: Error of Omission?

Q&A: How Do We Set Up a Reserve Fund?

Q&A: How Do We Set Up a Reserve Fund?