Associations are responsible for the repair, replacement and maintenance of the common areas. An association’s governing documents may also have provisions that require the association to maintain various separate-interest components. In addition to the normal operating expenses for things such as insurance, landscaping maintenance, and utilities, all homeowners associations need to anticipate the need for future capital expenses such as a new roof, street paving, and repairs or replacements of other major components. The funds that are required for such future capital expenditures are commonly referred to as the association’s „reserve funds.“ The establishment and maintenance of proper reserves is typically mandated by: (1) state statutes and regulations; (2) an association’s governing documents; and (3) mortgage lenders.
An association’s reserves should include both: (1) funds that are necessary to defray the cost of repairs, replacements and additions to the association’s major components; and (2) funds received by an association from the resolution of construction and design defect litigation — which should be separately itemized from the funds needed for the major components.
Court case decisions have held that a failure of an association’s board of directors to provide adequate funding for replacement of capital assets constituted a breach of fiduciary duties. Directors‘ duties must be performed in good faith, in a manner that is in the best interests of the association, with that degree of care that an ordinarily prudent person in a like position would use under similar circumstances. To meet their responsibilities, an association’s board of directors must perform a review of the association’s reserve accounts. The frequency of the review will be dictated by state law and/or the association’s governing documents, but it is a good practice to perform a review of the reserve accounts on a quarterly basis.
The maintenance of proper reserve funds will insure that funds will be available when needed and will minimize the need for special assessments and/or borrowing money — which creates an additional interest expense. Association’s frequently encounter unanticipated maintenance needs that require funds to be immediately available to take care of necessary repairs or replacements. Not having these funds available can result in more damage to property caused by the failure to make timely repairs due to the lack of available funds and additional expense that is incurred in taking actions that are necessary to come up with the funds that should have been available in reserve accounts.
An association’s board of directors should make certain that the dues paid by members include an appropriate amount for deposit into the association’s reserve account(s). The proper amounts are determined by reserve studies that should be performed on a regular basis, or as may be dictated by state laws or the association’s governing documents. When it comes to preparing reserve studies, an association’s board of directors should not attempt to do it on their own. An investment in a properly prepared reserve study and the creation of a reserve funding plan with the assistance of a competent professional is a wise investment.