An HOA-managed community is bound to have emergency expenses pop up from time to time. Some examples of these types of unexpected issues include things like flooding from sudden heavy rainstorms or a landslide that damages roads or walkways. Another example would be something like a burst sprinkler pipe leaking into a shared space. Obviously, these types of items would need to be addressed immediately and emergency expenditures would be required to be made out of the normal budget.
Other types of expenses can be planned and budgeted for well in advance. Things like replacing a retaining wall that may be deteriorating over time, or repaving roads and parking areas would fall into this category. In this blog post, we are going to discuss some strategies a homeowners association can use to efficiently and effectively plan for these types of anticipated expenses.
HOA expenditure classifications
Most HOA’s have two main expenditure classifications on their books. The first is annual contracted expenses which include things like landscapers, garbage removal, utilities, snow removal, and those types of items. The second category is for non-annual expenses such as road repairs, pool deck resurfacing, or additions to the community, like parks or ponds.
In most instances, the best practice is for the HOA to establish a separate capital reserve fund. This separate fund can be used to set aside money to pay for the non-annual expenditures in a planned out and timely manner. The funds can also be allocated to emergency expenditures that arise, with the knowledge that the planned non-annual projects will have to be pushed back on the calendar until sufficient funds are back in the account.
Reserve studies and analysis
A reserve study is a tool that a homeowners association can use to prepare and budget for the non-annual improvements and projects we have been discussing. These studies typically include reports, spreadsheets, and graphical representations detailing repair expenditure forecasts well into the future. These documents can be analyzed periodically and adjusted according to any accelerated time frames that may occur.
A cash flow analysis is also part of the reserve study and helps the association determine how much they should contribute to the fund annually to ensure the needed funds are in the account when the improvement projects need to begin. An independent analysis of the condition of certain aspects of the community is a huge benefit. Realistic time frames for needed repairs can be established, and budgetary steps can be initiated accordingly.
When should a reserve study be conducted?
The answer to this question is the sooner, the better. The concept of the time value of money comes into play here. The reserve account can be structured so that it earns some form of return over time, thus increasing the amount in the account. It is also easier to save for expenditures with more time available. Annual contributions to the account can be much smaller if you have a project planned in 10 years rather than two. Non-annual projects and expenditures in your community can be prioritized as a result of the study while delaying the study could potentially cause projects to be undertaken in the wrong order.
Updating the study
The best practice is to conduct a reserve study every five years or so. The reviews may not need to be as extensive as the initial analysis, but revisiting the study process every few years can be essential to staying on top of any conditions in the community that may have changed over time. Bear in mind that this study is done with an eye to the future, and sometimes even the best estimates can miss the mark from a timing perspective.
If you have any questions regarding your reserve accounts or any analysis that you have performed as a board, please don’t hesitate to contact PMI Phoenix Valley and put our expertise to work for you!