You are a Board Member.
You are a volunteer, elected by your neighbors, to serve your community. You enjoy your volunteer position and the ability to give back to your community.
You are at a Board Meeting, and your Property Manager informs the Board that the Community’s Reserve Account is severely underfunded. You need over $10,000,000.
There are cracks in the façade that are visible along some of the balconies, and the top of the building around the roof. A chunk or two of concrete is missing from the balcony undersides and from the parapet wall that makes up the side of the roof.
Your Property Manager reports to you that while estimates for Engineers to conduct an inspection of the façade are estimated to be around $25,000, repairs could be over $10,000,000. The Reserve account only has $500,000. There is a fear that as summer ends and winter is approaching, the façade may expand and contrast with the anticipated upcoming weather changes – creating further cracking and possible failure of the facade. Will more concrete fall? Is there a hazard to the community? The work has been postponed as long as it can be, and it can not be ignored any longer.
So what does the Board do now? How will the Board fund this project? And, how will the Board communicate this project and cost with the Residents?
Let’s take a step back.
The above example talks about a realistic example that many commercial and residential buildings are facing as they continue to age in and around Philadelphia, and the rest of the country. You are not alone in this challenge. This is a great time to rely on your Property Manager, Property Management Company, Engineers, Façade contractors, and Banking Professionals to assist you.
Before you tackle the challenge of funding this particular issue, it is important to look at the entire Community to see if any other projects need to occur at the same time. A major façade maintenance and repair program can easily span over 5-10 years, or more. During this time frame, other projects may also need to be completed which require funding, as well.
The best place to start is to look at a Community’s Reserve Study.
What is a Reserve Study?
A Reserve Study is a funding and budgeting tool, where a Reserve Specialist, who is often an engineer (or works with an engineering firm) reviews the Community. The Reserve Specialist will review all of the common elements (called components) and responsibilities of the Association, assigning both a useful life to the components and a cost for replacement. The Reserve Study then breaks down how much money is needed each year in order for the Association to fully fund the replacement of the components in which they are responsible to maintain and replace
If the Association does not yet have a detailed Reserve Study with these findings, they should request one immediately from an engineering firm with a Reserve Specialist.
There are two areas to note in regards to Reserve Studies that are worth mentioning:
1. Not all projects are always included in a Reserve Study, due to their useful life. It is important the Reserve Specialist identify any exclusions, and if needed, the Association receive approximate useful life and pricing on those components as well. Examples of exclusions may include mechanical equipment, review of mechanical equipment, and common pipes behind the walls which carry water for heating and air conditioning (which can be extremely costly to replace…and often require replacement at the same time as the façade).
2. A Reserve Study will not normally include a maintenance or repair schedule, as this is often included in the operating budget or a deferred maintenance schedule, which are both separate from a Reserve Study, but are used in conjunction with a Reserve Study for budgeting and maintenance scheduling. An engineering firm will create a deferred maintenance schedule for an Association at an additional cost, as an addendum or a part of the Reserve Study, however.
How will the project be funded?
After reviewing all projects that may occur over the next 5-10 years, your Property Manager, and the Accounting Team at your Property Management Company should be able to assist you with a few different financial analyses and options.
Option 1: Special Assessment
Special assessments can occur in one lump sum, at one time, or spread out over time. This is a method of self-funding without paying interest. The downfall is that money is not available for the project until it is collected, which may delay how soon the project can be completed.
Option 2: Increase Annual Assessment (or Maintenance Fees)
Most Association Documents will indicate that each Homeowner has an Annual Assessment, which the Board has the right to breakdown into semi-annual, quarterly, or monthly maintenance fees. The Annual Assessments are often called HOA fees, Condo fees, maintenance fees, or monthly fees. These fees can be increased to fund the project, with a portion of the increase going to the reserve specifically for the project (the other portion of the increase would go to day-to-day operating expense increase like utilities, payroll, etc.).
Option 3: Increase Annual Assessment (or Maintenance Fees) and Special Assessment
It is important to know the temperature of your Community. Some Communities prefer a special assessment for projects so that they can write one check and the project is over. They prefer that their monthly fees do not increase. Other Communities prefer higher monthly fees and no special assessments. This third option is a combination of both – increasing the monthly fee plus a special assessment. This will help build the reserves more quickly for the project, but eventually the special assessment would no longer exist.
Option 4: Take Out a Loan
Instead of self-funding the project through a special assessment or a high increase in Maintenance Fees, an Association may decide to take out a loan. In doing so, the Association should make sure that they are consulting with banks who specialize in providing loans to Condominium and Homeowners Associations, as not every bank writes these types of loans. The Association cannot use property as collateral; the collateral is the future assessments that can be charged to and collected from the homeowners – so not every bank will provide this type of loan. The good news is that there are several banks who will, and who offer competitive rates and terms. Some banks are offering terms for 5, 7, 10, 15, and even 20 years.
There are several benefits of a loan:
- You can receive the money when you need it, instead of waiting for payments from Homeowners to arrive.
- You can complete the project before all of the money is collected from the Homeowners.
- You can increase maintenance fees to cover the monthly cost of the loan payment, which is a smaller increase over time (instead of a large increase now or a special assessment).
The negative aspects to a loan can be obvious or hidden:
- Loans have fees, such as points, origination, and closing costs.
- Loans include interest.
- There may be a penalty for prepayment.
- There may be terms in which prepayment can be made but has to be used with self-generated funds (i.e. not a refinance from another bank).
- The lending bank may require that all of your deposits (money) are held within their institution.
- If the loan you take out is too small, you may be denied for future loans or increases needed to cover future projects.
- In many cases, the entire loan amount is not immediately available: it is available on a “draw” basis, meaning that you have to prove that the work was completed, with an invoice signed and verified by an architect for the bank to release funds.
Option 5: Loan + Self-Funding
A smaller loan may be needed if an Association is able to self-fund a portion of the project. This could occur from one of many ways (or a combination there of):
- Withdraw from their Reserve Account
- Increased Maintenance Fees (which contributes payment to the Reserve to pay for the Project)
- Special Assessment (for the Project)
- Loan for the remainder of the project
What is Not an Option:
What cannot be considered an option, is continuing to ignore the situation. Board of Directors have a fiduciary responsibility, which is a legal and moral obligation, to oversee the management of the Association. Problems like façade repairs cannot be ignored. The can has to stop being kicked down the road. We have to work together to communicate and educate the Homeowners about their responsibility, too, in the maintenance of the common elements.
How Will the Board Communicate this Project and Costs with the Residents?
Communication is important, but we have to remember that it is not only important for the communication to occur, but also for the communication to be received, heard, and understood. Not every person has the same preferred level of communication. While some may feel that it is overkill to communicate in multiple ways, overcommunicating is better then under communicating especially when it is an important topic about safety and significant financial value that impacts Homeowners.
Some ideas include:
- Send an initial mailing that outlines the project and costs in 3-5 pages, including a graphs and charts to explain funding and costs
- Hold an Open Meeting with explanation
- Create short recordings from the Engineer, Façade Contractor, Banking Professional that you can release on your Association’s Website, You Tube, Social Media that are educating about this project. It could be a “series” of short “television shows”
- Summarize these “television shows” as blogs or write similar content as blogs on the Association’s Website and Social Media platforms.
- Have the Engineer, Façade Contractor, Banking Professional all present at the open meeting to be able to answer questions.
- Record the open meeting so that it can be broadcast in the same ways that you presented the pre-recorded “television shows”.
- Summarize the meeting for the Blogs on the Association’s Website and social media platforms
- Hold a follow up meeting for questions and answers.
- Hold a follow up meeting during the course of the work for additional questions and answers.
- Continue to communicate by social media, blogging, video, email blast, in writing, during the project with frequent updates educating Homeowners throughout the project about what will happen, when it will happen, how long it will occur, etc.
- Be sure to have a new Homeowner orientation with anyone moving into the community for explanation of the project.
Summary: Property Managers and Boards of Directors need to work together to address major concerns and projects. With the help of Business Partners from the Community Association Institute (CAI) – Engineers, Reserve Specialists, Façade Contractor, Banking Professionals, and Management Companies – we can assist Boards in proper planning and financing of projects. Moreover, together, we can communicate with the Homeowners for mutual understanding.
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