“Red Flags” that Signal Potential Reserve Account Problems

Homeowners associations must conduct periodic reserve studies in order to have a realistic estimate of the costs of repairing and replacing major common area components such as roofs. Ideally, an association will have funds set aside in a reserve account to cover the cost of all major repairs and replacements so that the funds are available when needed. Having the necessary reserve funds necessitates: (i) an examination of the association’s repair and replacement obligations; (ii) a determination of the costs and timing of replacements; and (iii) a determination of the availability of the necessary cash resources (reserve funds).

Because an association’s board of directors has a fiduciary duty to manage the association funds and property, the maintenance of an accurate replacement reserve budget is very important. Not only does the information supplement the association’s operating budget, but it also is an important tool for the preservation of property values and the control of annual costs for the association’s membership. A good reserve study provides owners and potential buyers (and their lenders) with a more accurate picture of the association’s financial strength and market value. When evaluating an association’s reserve study, the following indicators may be “red flags” which are indicators of problems that call for remedial action:

Indicators that an Association’s Reserve Study Data is Incomplete

• The association does not have a specific policy to distinguish reserve expenditures from operating expenses;
• The association does not have an established list of major components;
• The association does not have a stated funding goal;
• The association has not: