CREJ - Property Management Quarterly - May 2015
Colorado homeowner association community managers have a lot on their plate this year, with the upcoming manager licensing and new proposed legislation about construction defects. So where do reserve studies need to fit on managers’ to-do lists and what case can be made for recommending one to a community volunteer board? For multifamily properties with a lot of shared maintenance and shared costs, reserve studies can be a valuable tool. At first glance, getting a reserve study done comes at a cost and, for now, the state of Colorado does not have any law requiring an HOA to have a reserve study in place. So why should communities consider having one? Reserves are put in place to complete repair or replacement projects on a schedule without the need for special assessments or loans. Community associations come in all sizes and vary in age, amenities and maintenance obligations, thus the specific recommended amount of cash needed in reserve can only be determined from a professional assessment by a reserve specialist. Reserve studies assess the current and future needs of a community and make recommendations for how best to get there. The fund ensures everyone is paying his fair share now and in the future. If the recommendations are properly implemented, the regular collection of the funds from residents can help keep HOA dues consistent with regular planned increases over time rather than special assessments, which ensures that some don’t end up paying more now or later in order to get something done. “Reserve studies help the board properly budget for future expenditures and know what the HOA’s responsibilities are, therefore we recommend reserve studies to all of our clients,” said Carmen Stefu, principal and member at 4 Seasons Management, and president of the Community Association Institute – Rocky Mountain Chapter. A reserve study is a physical and financial check-up for a community. There are two components of a reserve study – a physical analysis and a financial analysis. During the physical analysis, a reserve provider evaluates information regarding the physical status and repair and replacement costs of the association’s major common area components. A financial analysis assesses the association’s reserve balance or fund status (measured in cash or as percent funded) to determine a recommendation for an appropriate reserve contribution rate (funding plan). Maintaining an appropriate reserve fund can meet a number of legal, fiduciary and professional requirements by the management company and its board. “Each community should decide for themselves whether to have a reserve study, who to obtain it from, how often to update it and how to implement it,” said Jerry Orten, HOA attorney and partner at Orten Cavanagh & Holmes. “Most HOAs are required to have a governance policy on these aspects of reserve studies and funding. Ideally, the community determines what is best, consistent with the expectations and demographics of owners in the community, and in conjunction with the HOA’s community manager, HOA attorney and other advisers.” A reserve study gets everyone in the association on the same page – from the management company to the board of directors to the owners and residents. “It typically includes the following – a summary of the association, including the number of units, physical description of the common and limited common components, and the financial condition of the reserve fund,” said Jerome Self, reserve specialist, SBSA. “The financial analysis includes a projection of the reserve starting balance, recommended reserve contributions, projected reserve expenses and the projected ending reserve fund balance for a period of 20 to 30 years (depending on the term of the study).” The physical analysis includes a listing of the component inventory, current condition of the components, component quantities, identifying descriptions, expected useful life, remaining useful life and current replacement costs, Self said. A description of the methods and objectives used in computing the fund status and in the development of the funding plan is also included, as well as the source used to obtain component repair or replacement cost estimates. A reserve study will differentiate between operating costs and deferred maintenance and provide an outline of what needs to be done when and at what cost. It is important for associations to stay current on regular maintenance and what is recommended in the reserve schedule to get the most useful life from components. Additionally, if associations do not maintain the components that are not included in the reserve schedule, they may require replacement, whereas if they were maintained, they would not. “Wood siding, when maintained properly, will last indefinitely but without proper paint coverage, it may need to be completely replaced in the future,” said Brent Rumpf, Shaker Painting owner. “Thus painting for HOAs can fall into either an operating cost or deferred maintenance, but in either case it must be done in a timely manner for both upkeep and to prevent further damage to the community’s property.” The strength and health of a community is based on its percentage funded according to the reserve study recommendation. Many states enacted legislation dealing with community association reserve and operating funds to protect owners from fiscal problems and financial hardship. Reserve studies are currently required in California, Delaware, Hawaii, Nevada, Oregon, Utah and Virginia. Washington encourages associations to have a reserve study performed every three years. A 2013 study conducted by Advanced Reserve Solutions found that in states where reserve studies are required the communities were in better condition than in those states that do not have the same laws, said Richard Hirschman, Advanced Reserve Solutions. “For example, in California the law was passed in 1986 and its average reserve is 84 percent funded, and in Nevada where the law was passed more recently, they are 70 percent funded,” he said. “In Colorado, where there is no legal requirement, based on available data, they are at only 38 percent.” If a community is short on available cash reserves, it can look to obtain a loan, however, loans can be a catch- 22. Often a bank will require a reserve study in order for an association to obtain a loan when it needs it most. If a reserve study is done after the fact to get a loan, a community may find itself surprised by the current financial shape and learn they need to access more capital than initially anticipated when applying for the loan. Beyond lending to the HOA itself, lenders are looking at the reserve study’s percent funded by the HOA when offering loans for individual units as well. If there is a high risk of a special assessment banks tend to avoid lending. “A current reserve study in place can go a long way to preparing and reducing the number of potentially unknown factors of future expenses by taking into account all the major components that could possibly need maintenance, repair or replacement in the future,” said Wes Wollenweber, attorney at Ciancio Ciancio Brown. “In this way, if a community sees a need for a future loan, they are in a better position to obtain it.” In order for the community to thrive, everyone needs to work to ensure the association’s financial needs are both known and met. A flourishing community knows its mission, vision for the future, operating values, needs (strengths, weaknesses, opportunities and threats), goals, prioritized actions and strategies, action plans and monitoring plans. “Savvy future residents look at the overall upkeep and maintenance of a community as well as its financial health,” said Bryan Farley, president of Association Reserves Colorado. “A community without a reserve study can send up a red flag, whereas a current reserve study can inspire confidence by effectively communicating its current reserve status and projecting where the association’s reserve balance needs to be in five, 10, 15 years (with our studies going out 30 years) – and how the association can get there.”