"If we moved these projects ahead two years, then we could..."
Whatever funding strategy a reserve study selects, it should recognize the fact that a reserve fund is the primary resource for preserving the value of of the common and individual investments in a condominium/HOA property. Clearly, capital assets depreciate with time. If that amount of depreciation is not matched by reserve capital,then there is an imbalance. If the depreciation presents itself as visible deferred maintenance then the imbalance translates to reduced perceived market value of all investments. A condo reserve study,then, is all about value. It will define the size of the resource/reserve you need at any given time to preserve the value of your investment.
What size resource? How much should be in your reserve fund?
The writers would no doubt agree that one model will not fit all associations across the condominium/HOA landscape since:
Each association is unique, has its own “DNA”, in terms of building and site configurations, topography and micro-environment.
The materials of construction vary in initial quality, their assembly, level of past maintenance and response to specific climatic conditions.
The financial resources of the membership of each association are unique.
A Reserve Study responds to Specific Needs
What has evolved, in practice, and in response to the specific needs of individual associations, is essentially customized interpretations of the term “fully funded”:
Threshold Funding - A level below which the reserve fund should not fall is selected and the annual contribution funds the asset replacement expense year-to-year. Asset depreciation is matched by varying annual contribution to reserve. The downside is the varying level of contribution makes for cumbersome budgeting for both members and boards.
Constant Funding Level – The total cost of replacing all capital assets over a specific time period is computed and the annual level of contribution needed is equal to the total cost divided by the number of years. This approach can result in accumulating significant condominium reserves during periods when there is no need for funds – a difficult sell.
Stepped Funding – As the time for replacement of a capital asset approaches, the level of contribution to reserve increases to accumulate the amount needed.
Variations of the above three approaches, e.g., a threshold range is selected and contributions hold steady for short periods with “transition” contributions from period to period with the reserve balance always falling within the threshold range.
Each interpretation will contribute to reserves such that funds are available at the time needed to capitalize replacement of all commonly held assets.
These strategies assume there is a fairly healthy starting balance in the reserve fund to begin with. What happens if that is not the case? What if the Analysis of Present Funds of the reserve study finds the fund in significant shortfall? The options are brief:
The never popular Special Assessment. A lump sum amount needed from each member may be due during the year of assessment or the total may be spread out over time.
Steep annual contributions to reserve over two-four years - essentially a spread out special assessment.
A loan. Banks, once unwilling to do a loan with an association because of uncertain collateral, are now willing to work with associations. As might be expected, there are conditions that go along with such a loan such as doing all your checking accounts with them.
Whatever strategy is chosen, the starting point should be a capital reserve fund study done by a recognized professional..
Pulling it all together - the Asset Management Plan
A good place to start to answer that question is with Best Practices - Reserve Studies/Management published by the Foundation for Community Association Research of the Community Associations Institute. The model there advocates a reserve position termed “fully funded”. That means, for example, that if a roofing project to be done ten years from now will cost $100,000,then you should be contributing $10,000 annually to the reserve fund to be able pay for it ten years hence. As a national model, the position is a sound and logically agreeable departure point. It certainly subscribes to our concept of replacing depreciating assets with contributions to reserve.
This approach (which more associations appear to be using) combines the regular maintenance of the common area components with the funding strategy of the reserve study. It has benefits on several levels. The main one is that the running record of performance of an asset as it responds to maintenance is the best possible input to creating an accurate predictive model for its replacement. In short, your reserve funding strategy can be continuously updated and closely targeted. That can be a nice advantage at budget time.
Asset Management Plans are best constructed and managed by clients and/or property managers since they are clearly involved with the day-to-day operations. The firm that provides the capital reserve study can, however, collaborate in the initial setting up of the plan.