Condo Association Reserve Fund Guidelines

Condo Association Reserve Fund Guidelines

Do we have enough or too much money in our reserve account?

To answer this question, we should begin by explaining the method by which an association’s reserve funds are measured. Percent funded as defined by National Reserve Study Standards is “The ratio, at a particular point of time (typically the beginning of the Fiscal Year), of the actual (or projected) Reserve Balance to the Fully Funded Balance, expressed as a percentage.” More simply, Percent Funded compares what you have (Reserve Account Balance) to what you should have (Fully Funded Balance) and expresses this in the form of a percent.  

These terms are best illustrated by the following example:  

 Assumptions:

  • XYZ Homeowners Association has $1,000 in a Reserve Fund Account
  • XYZ has (2) reserve items: a 1-year-old roof and a 5-year-old pool
  • Assume a useful Life of 20 years for the roof and a current replacement cost estimate of $50,000. 
  • For the pool, assume a useful Life of 10 years for resurfacing at a current cost estimate of $20,000.

The roof has “used up” 1 year of the 20-year useful life or 1/20th of $50,000 = $2,500. The pool has “used up” 5 years of the 10-year useful life or 5/10ths of $20,000 = $2,000. The total depreciation/deterioration since the last time the roof was replaced and the last time the pool was resurfaced (Fully Funded Balance) can be calculated as $2,500 + $2,000 = $4,500.

To calculate the percent funded level, simply take the Reserve Fund Account Balance of $1,000, and divide this by the Fully Funded Balance calculated of $4,500 and you get 22% Funded. National Reserve Study Standards define the Percent funded range as follows: 70% and above = “Strong”, 30% and below = “Weak”. An association with a “Strong” reserve fund (70% and above) has a low risk of special assessments and deferred maintenance the converse is true for associations with a reserve fund of 30% and below.   

So where does your association fall in comparison to other HOA’s?  According to data gleaned from past reserve study clients, over 70% of associations are under 70% funded.   

Why are so many associations underfunded? The economic downturn of 2008 left several HOAs searching for cash to run day-to-day operations, and monthly contributions to a reserve fund became a low priority. Although we have seen a recovery in the housing market, reserve contributions continue to be a low priority. Another issue is the short-term mindset of homeowners. The average homeowner will stay in their home just 5-7 years before moving.  This fact makes it easy to “Kick the Can further down the road”. Full Reserve Funding provides a way to ease the financial burden of replacement and maintenance costs to keep your community looking nice and preserve the property values. It is much easier to spread $100,000 roof replacement cost over 20 years than be forced to levy a $100,000 special assessment to pay for the roof replacement in 1 year.

Bottom Line

Associations with a percent funded level of 70% and above have a low risk of special assessments and are positioned well to handle major future financial outlays. Percent funded levels below 70% are considered underfunded. Associations with a percent funded level of 70% and below have a greater risk of special assessments and deferred maintenance than associations with percent funded levels of 70% and above.  With this information, a better question to ask is “What is our percent funded level?”

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