A reserve study is a homeowner associationâ€™s essential long range planning tool. It charts a schedule for the board to follow for major repairs and replacements (paint, roofing, etc.) and forecasts a budget for each event so the board can set aside money (reserves) each year so adequate funds will be available when the various events come due. Itâ€™s an amazing tool that takes a lot of guess work out of the boardâ€™s job.
Even though a reserve study makes funding projections up to 30 years away, the premises upon which those projections are founded are ever changing. Each year, the inflation rate changes as does the yield on invested funds and the starting balance in reserves. These three moving parts alone can have a dramatic impact of costs and reserve fund balances years away. But there are other forces at work. The cost of labor changes from year to year based on a hot or cold real estate market. Cost of certain materials changes from year to year. Oil based products are particularly volatile and pricing affects roofing and paint. Wood products fluctuate as well.
The reserve study typically predicts future costs based on current costs adjusted by inflation. Revising the reserve study when actual costs are incurred is essential since those costs are the most accurate available. If painting was predicted eight years ago to cost $1500/unit and the current yearâ€™s actual cost is $1650/unit, the reserve study should be updated to that cost.
The question often comes up “How much money should we put into reserves each year?” The answer varies from HOA to HOA based on the number and age of components. But at each HOA, there is an amount of money which represents “fully funded” each year. Say your reserve study only has one component worth $10,000 that has a 10 year useful life. To be fully funded, $1000 should be reserved each year so, for example, in Year 3 there should be $3000 in reserves. If that same principle is used for each component according to its useful life, the HOA will always be fully funded and every member will have contributed a fair share based on time of ownership. If anything less is set aside, some member(s) in the future will be required to make up the shortfall. This is unfair to them and the board has failed in its fiduciary duty to protect the interests of all members current and future.
Due to the problems caused by sub-prime mortgage lending, major mortgage loan underwriters like FHA (Federal Housing Administration) require condominium associations to be FHA approved before FHA loans are processed. One of the many conditions of FHA approval is a reserve study that is current within 12 months. Certain states like California, Oregon and Washington have additional reserve study requirements that address annual updates.
Whether for practical, banking or legal reasons, having and updating a reserve study each year will keep the board informed, help maintain the most financing options for the members and in compliance with state statutes that apply.
If your homeowner association has had a professional reserve study done, make sure it is updated every year and remember to include the cost of the update in your Operating Budget so it wonâ€™t be overlooked.
The reserve study is one of the most indispensable planning tools that an HOA can have. Not having one is like steering a ship without a rudder. If your HOA has not had a reserve study done, put it on the Must Do List.
Editor’s Note: Buyers – find out more about whether your preferred Orlando condo or HOA community has a healthy life ahead of it, call Condo Metropolis real estate brokerage on: 407-290-3408 and ask to speak with an agent. For MetroWest real estate, email Info@MyMetroWestRealty.com