The preparation of the Association’s annual budget and updated reserve study are critical tasks to ensure the proper funding of operational expenses, proactive repairs, and replacement of aging common area elements. One of an Association Board’s primary responsibilities is to properly maintain the Association’s common areas, including community amenities, and an adequately funded budget is essential to meet this obligation. I often find that Board Members become so focused on keeping assessments low that it is at the expense (pardon the pun) of critical operational functions, such as landscaping, janitorial services and adequate funding of future repair and replacement costs. The result is an underfunded operating account, deteriorating common areas, and a future of significant assessment increases and special assessments. Don’t mortgage your Association’s future to save a few dollars today.
In preparing the Association’s annual budget, I encourage Boards to allow assessments to be expense driven, not the other way around. In other words, when preparing your annual budget, initially ignore the revenue numbers and begin populating expenses based on past 12 or 24 month averages for each itemized line item. Boards will also want to account for any planned improvements as well as inflation (approximately 2% annually) and anticipated vendor contract increases. It is important to be realistic, taking into account cost of living increases and new minimum wage laws that will undoubtedly impact vendor contract amounts.
Unless you’re one of the fortunate Associations that is experiencing operating and reserve surpluses, which is another problem all together (a good problem, but a problem nonetheless), I recommend that Boards consider annual assessment increases equal to the respective County’s Consumer Price Index (CPI) data. Each month the United States Bureau of Labor Statistics releases cost of living increase data based on the cost of numerous goods and services over time broken down per region. The CPI is a substantiated cost of living increase percentage that can easily justify annual Association assessment increases. By increasing your annual assessment amount by at least the amount of CPI, you can ensure that you’re being fiscally responsible by keeping up with inflation to mitigate against significant future assessment increases and special assessments. The fact of the matter is, inflation is real. The current US rate of inflation for the 12 month period ending August, 2017 is 1.9%. If inflation continues year over year at 1.9% (in the last 10 years it has been as high as 3.8% and as low as .1%) and the Association does not increase assessments for 5 years, the Association is running 9.5% behind inflation. After 10 years the Association is running 19% behind inflation. By adopting a policy of annual assessment increases equal to the County’s CPI numbers, you can ensure you are not creating an unsustainable budgetary deficit to burden future Boards and members.
An important component of the Association’s annual budget is the reserve allocation. Associations are required to have on-site reserve studies performed every three years, but PMP
recommends having an updated reserve study prepared every year. The purpose of reserve study is to evaluate all common area elements and components, and assign them useful lives as well as replacement costs. Based on this information, the reserve study will include a recommended monthly allocation to include in the Association’s budget in order to appropriately plan for future maintenance, repair and replacement costs of common area elements. By having annual reserve studies performed, and following the funding plan outlined in the reserve study, the Association
may mitigate against the need for future special assessments.
Once the budget’s expenses have been populated, including the recommended reserve study allocations, sum the total monthly expenses and allow these numbers to dictate your monthly
assessments. If the total monthly expenses would result in a significant increase (more than 10%), revisit each expense line item and see if there are areas where the Association can save money
without undermining Association maintenance and services. If it is not possible to further reduce expense line items without impacting maintenance and services, then the assessment amounts
reflect what is necessary to properly fund a healthy Association budget.
Please keep in mind that Associations may not increase assessments more than twenty percent (20%) in any one fiscal year without a vote of the membership.
Association Board Members are fiduciaries of the corporation with the same fiduciary responsibilities as the Board of Directors at Apple, Microsoft and Disney. Adequately funding the Association’s operating and reserve budget to properly maintain common areas and defray future replacement costs is a fiduciary obligation, and an argument could be made that not doing so is a breach of a Board Member’s fiduciary duty. While it is important for Boards to be fiscally responsible, striving to maximize value on behalf of the Association, it should not come at the
expense of the Board’s fiduciary duty to properly manage the Association and maintain the Association’s common areas.
Questions or additional requests for information can be e-mailed to Brad Watson, President of PMP, at bwatson@PMPManage.com.
Please Note: PMP is not a law firm and nothing contained in this document should be considered legal advice. Legal questions should be directed to your respective Association attorney.