If you own a single family home and your roof needs to be replaced, you either have to take money from savings or borrow the funds to pay for it. Either way, it’s your sole responsibility to replace your roof. But what if you own a condominium unit and the roof of your building needs to be replaced or the streets need to be repaved? What if you live in a homeowners association and the pool deck needs to be replaced? Don’t you expect all of the owners in the community to contribute to the costs and don’t you expect there to be enough money in “savings” to pay for it.
The Virginia Condominium Act and the Virginia Property Owners Association Act (POAA) both require that associations have a reserve study performed every five (5) years in order to determine if the association is collecting sufficient reserves so that there will be enough funds in “savings” to pay for that roof, repave those streets and replace the pool deck. Both Acts also require that associations review the results of that study on an annual basis to make sure that sufficient reserves are being continually maintained. A reserve study should include all major common element components of the community along with the expected life span and the costs of replacement at the end of each component’s life span. The association’s board of directors should then use the results of the reserve study to, if necessary, adjust the replacement reserves being collected as part of the annual budget preparation. Board members have a fiduciary duty to prepare the budget each year in a responsible manner anticipating the expenses of operations and reserve requirements based on reliable information. Regardless of these requirements, we have found that often association reserves are inadequate due to the lack of a timely reserve study or unwillingness by the board to follow it in order to avoid an assessment increase.
There are other important considerations that should convince associations to collect sufficient reserves including:
- The declaration and/or bylaws of most associations require that replacement reserves be collected as part of each owner’s assessment.
- Having sufficient funds for replacements will eliminate the need to deplete operating funds or, even worse, having to collect special assessments from the owners or for the association to have to borrow the funds (which the owners will have to pay back with increased assessments). Needless to say, most owners would rather pay a little every month or each year then have to come up with thousands of dollars at one time on short notice. Borrowing funds (whether by the association or individual owners who don’t have the means to pay large special assessments) adds additional costs.
- Associations with sufficient replacement reserves tend to be better maintained which, in turn, helps maintain individual property values.
- Delaying replacements because funds aren’t available can also significantly add to the costs. For example, if roof or siding replacements are not done when those components are at the end of their life span additional structural damage can occur due to water leaks which, in turn, can lead to costly additional repairs or replacements.
- Delaying repairs and replacements can also lead to legal liability on the part of the association. It’s not hard to imagine an association being sued if an owner, child, or even the pizza delivery man was injured due to large potholes in the parking lot, sinking sidewalks or entry stairs that obviously needed to be replaced.
- Fannie Mae, FHA and VA all require that condominium associations have sufficient replacement reserves in order for these agencies to insure loans for the sale or refinance of units. Fannie Mae and FHA also require that replacement reserves equal at least ten percent (10%) of the total annual budget OR that the association’s replacement reserve study indicates that sufficient reserves are being collected. If an association has imposed a special assessment in the current or immediately preceding fiscal year or shows a budget loss in the current or immediately preceding fiscal year, Fannie Mae, FHA and VA will not, in most cases, insure loans in the project.
- The Virginia Condominium Act and the POAA also require that associations provide prospective buyers with a copy of the most recent reserve study (or a summary of it) and to disclose any current or board approved special assessments. The inability of owners to sell their homes because of association budget or special assessment issues when they need to (military deployment, loss of a job or illness) often leads to owners not being able to pay regular or special assessments, which further aggravates budget shortages. These homes also tend to be more likely to go into foreclosure.
Hopefully we have made the case for how important it is for associations to have adequate replacement reserves and to have the statutory replacement reserve studies performed every five (5) years.