Underfunded HOA Reserves: Fund Your Capital Improvement - Part II
Even if your condominium association or homeowners association has all its ducks in a row when it comes to budgeting, unexpected repair or maintenance projects can blindside anyone. As mentioned in part 1 of this series, “Pay: Use the Reserve Fund”, the best scenario would be paying for the project from reserve funds specifically gathered for this purpose.
Unfortunately, up to 72 percent of reserves are “under-funded", meaning they are not funded sufficiently to pay for the things they are supposed to cover when they reach the end of their useful lives, according to experts at FirstService Financial, which provides best-in-class financial services for FirstService Residential-managed communities.
If your association is experiencing the consequences of an under-funded reserve, there is another option available.
BORROW: Take out a Loan
Borrowing money can seem like a bad decision, especially to nervous homeowners that catch wind that the board is applying for a loan. However, a loan may turn out to be the smartest decision for funding a capital improvement. With a loan, your association can access a lump sum of money quickly without requiring that homeowners make a large payment themselves.
More and more, borrowing money for capital projects has become common practice in the community association industry. Unlike a special assessment, a bank loan allows unit owners to pay for the construction project over a long period of time. Since competitive banking has driven down the cost of capital and interest rates are low, financing has become a reasonable option for many associations, especially in the face of unit owners who may object to a large special assessment payment.
However, make sure to consult with your association attorney and governing documents before applying for a loan to ensure you don’t run afoul of your association’s bylaws.
There are several benefits to funding improvements by borrowing:
1. Many banks will extend long repayment periods to associations– up to 15 or 20 years instead of the typical 10 year limit, which reduces monthly payments and creates less of a financial burden for homeowners. Even better, your community management company should be able to leverage its buying power to negotiate a low interest rate.
For instance, one master-planned homeowners association partnered with FirstService Residential’s affiliate FirstService Financial when they made the decision to purchase a nearby golf course. With such a major investment, it was critical to find the most competitive loan rates. Karla Chung, vice president of FirstService Financial worked with community manager Kamin Havens to help the HOA secure a substantial loan. Havens said, “The truth is, very few banks want to approve a loan for a golf course. But after partnering with Karla from FirstService Financial, we were quickly approved for a 15-year loan for $2.2 million.”
2. Here’s something else you may not know: Owner’s Associations generally do not receive prepayment penalties when applying extra principal payments or paying off a loan early. In most cases, a prepayment penalty would only apply if the loan is later refinanced with another lender.
3. Closing costs are minimal for association loans. Title and attorney fees are much lower when there is no physical collateral.
Funding a capital improvement is inevitable for your association. When it’s time to invest in your property, whether for repairs or a new construction project, the financing should be considered as carefully as the work itself. Choosing to take out a loan can affect the well-being of your association in a variety of ways. A financial management expert can provide advice on the risks of borrowing funds and help you decide which options are best for your community.
To learn more about how to keep your Texas condominium association or homeowner’s association financially healthy when funding a capital improvement, contact us using the form on this page. And be on the lookout for the last installment of this capital improvement 3-part series: Special Assessments.