Brant Park

Demystifying condominium reserve fund studies

An expert shares common financial planning problems as well as possible solutions
Wednesday, January 27, 2016
By Bruce Davidson

Even before 2001, when the current Condominium Act started to require reserve fund studies at least once every three years, the industry was grappling with how to make the best use of this financial planning tool. In broad strokes, a reserve fund study is prepared to identify reasonably foreseeable repairs or replacement of the physical assets of the corporation and create a funding plan that can accommodate the associated expenditures.

This can be a sensitive topic for all parties involved in the condominium industry, be they property managers, unit owners or board members. This article will outline some common problems and suggest possible solutions.

Understanding objectives

Perhaps the biggest misconception in the condominium industry is that a reserve fund study is a fixed schedule, rather than a flexible planning tool. There is typically room to adjust both the building element condition and maintenance (expenditures) and financial (contributions) sides of the equation. Very simply, contributions to the reserve need to be “adequate” to accommodate “reasonably” anticipated expenditures as priorities and circumstances evolve.

To be clear, the make-up and condition of the building dictates the reserve expenditures, not the reserve fund plan. It is the reserve fund plan’s job to reasonably anticipate the expenditures before they occur. It is relatively normal for components to require replacement earlier than expected. It is also relatively normal for components to last longer than predicted. That’s why it’s important to adjust a corporation’s reserve fund plan as new information becomes available.

The physical condition assessment portion of the reserve fund study update must be completed a minimum of once every six years, with a financial check-up being completed in alternating three-year intervals. If there are significant changes in priorities or work completed in the interim, however, it may be prudent to reassess the suitability of the reserve fund plan ahead of the three-year mark.

Maintaining flexibility

It’s rare that a corporation would prefer to conduct their fee collection for reserve fund expenses through special assessments. (Simply planning for special assessments would not be in keeping with the Condominium Act anyway.) Contribution increases are difficult for boards to effect at times, and engineers are somewhat sympathetic to that, although their shared responsibility is ultimately to serve the best interests of a condominium corporation.

Arbitrarily deferring work to meet financial objectives, however, may lead to less than satisfactory results, despite the immediate short-term financial relief passed on to unit owners (sometimes at the expense of future owners). The result may be necessarily higher contributions for a compensating period of time until the work is completed, which may be a harder pill to swallow than simply increasing contributions sooner.

When a particular item fails sooner than expected, it can often leave a corporation facing a decision between significantly depleting its reserve or imposing a special assessment. In these cases, the corporation may have some wiggle room to delay somewhat discretionary expenses within the plan to ease short-term financial requirements.

‘Somewhat discretionary’ refers to aesthetic concerns, rather than the technical concerns or inevitabilities. There’s no sense in re-doing the wallpaper if the penthouse units are flooded every time it rains due to poor roofing and there aren’t enough funds in the reserve at that time to do both.

Just as building components can last longer or shorter than anticipated depending on specific application, environmental considerations, etc., their costs are also subject to change. Changes in technology, raw material prices and labour shortages are all factors that could potentially affect the reserve. These factors should be accounted for in updates, which essentially reset a plan, but serve to underline how flexibility is important to these plans.

Balancing physical and financial assets

It’s important to strike a balance between the physical and financial aspects of the corporation: On one side of the coin, no one wants their physical capital assets to deteriorate. On the other side of the coin, no one wants to needlessly part with their liquid assets, particularly if it’s sitting in a mysterious fund that appears to be doing nothing other than collecting relatively nominal interest.

A condominium board must therefore take care to communicate the goals of the reserve fund to unit owners, to keep them up to speed as to why these monies have been set aside. The reserve fund study process should also be interactive, incorporating input from all parties, when it is safe and responsible to do so.

All reserve fund studies are a time-versus-funding exercise; however, bear in mind that each of their numbers is associated with a potentially disruptive project. It may not make sense to combine projects in the same year as it is both strenuous on a single year’s cash flow, as well as disruptive to the owners who have to endure multiple projects in the same year.

It may be possible to defer work on a practical basis, depending on the corporation’s maintenance strategy. Phasing in work across multiple blocks or sections may effectively string out the impact financially, but would also spread any associated nuisances to the owners over several years.

These considerations often have a significant impact on reserve planning, and vary depending on the desires of each corporation.

Naturally, with all of the items touched on above there remains the statutory obligation to stay within the limits of the law while keeping the building safe. The current Act leaves much gray area as to what “reasonable” and “adequate” provisions mean with respect to funding.  (A bill to amend the Condominium Act, which the Ontario legislature has passed but which has not yet been proclaimed into force, attempts to clarify these terms, amongst countless other matters.)

Deferring significant structural work, for example, comes with significant risks, both with respect to life safety and escalating repair costs. Engineers and other reserve fund study providers need to work within these limits in order to provide an effective final study that the condominium board can then adopt as its plan.

Bruce Davidson is an engineer with Brown & Beattie Ltd. and an engineer in training with the Professional Engineers Ontario (PEO). He works closely alongside registered professional engineers in preparing many of the reserve fund studies produced out of B&B’s Richmond Hill office.

7 thoughts on “Demystifying condominium reserve fund studies

  1. Great article. Just wanted to add there are other designations that are providing these services as well. As Bruce points out this is largely a flexible financial long term capital budgeting tool so it is important to find the best planner to fit your Corporation needs. Financial acumen, understanding investing and effects of short and long term inflation have a significant effect on the outcome of the reserve funding plan. The designations outlined in the Act are the “minimum standard”. Make sure you are hiring the planner and not the firm, get a CV of the person working on your study. Get references. Make sure if you hire an engineering firm and expecting an engineer you are getting what you are paying those usually larger dollars for. And make sure the firm has been in practice for at least 10 years. Remember, if everything goes well you should have a nine year minimum relationship with your provider. And most of all make sure if you change firms you get a new Comprehensive Study. Firms that update other firms reserve funds may negate their E&O insurance, leaving you unprotected if something goes wrong.

  2. Bruce – after having prepared over 40,000 Reserve Studies (primarily in the States) over the last 29 yrs, we summarize it as maintaining fairness. Owners at an association should pay their fair share of deterioration that occurred while they owned a home in the association. Reserve contributions just offset ongoing deterioration.

    Associations that underfund Reserves are just fooling themselves, as the expenses will occur whether or not adequate Reserve contributions have been made. Adequate Reserve contributions are part of an owner paying the true cost of owning a home at their association.

    • Robert,

      Great thoughts on what defines adequate contributions and frankly what I and some others have attempted to drive home here in Ontario. But unfortunately, despite that the most recent regulations which will be out soon will not likely include anything regarding user pay defining adequacy. The policy maker indicated during the stakeholder meetings, it’s too expensive, when in actual fact, if done this way from the outset will lower contributions and insure we are funding items not yet appearing on the long term capital plan. (In Ontario, we are required to show a 30 year expenditure projection, elevators and some components may exceed that lifespan when new and therefore many do not include it in their funding plan until it appears). For those of you who are not Reserve Fund experts, we are simply saying that if the cost to replace the roof is $100,000 in 20 years time the owners pay $5,000 per year toward that roof. If the reserve for the roof is short funded (say the Corporation only decides to put in $3000 per year) a new owner buying in at some future point, pays for the shortfall because the money must be in the bank in year 20 no matter what.

  3. Interesting article, after completing reserve studies for the past 10 years I would have to agree with Robert’s comments above. More than any laws or regulations being imposed on common interest communities the number one reason I have found reserve studies to be beneficial is that the Boards can at least try to pursued the membership to pay their fair share of the use of the common areas.

    Example: A recent community I was at was having to special assess for an upcoming roof replacement project. The roof was 24 years old and it was now the people in the 25th year that were paying for the whole project. Even though the membership in the community for the first 24 years utilized 96% of the roof (24/25 = 96%) they paid nothing into the reserve account outside of small contributions for the paint projects. They had prided themselves on keeping HOA dues low for all those years and 96% of the community membership never complained as a result. But… those people in the 25th year paid for 100% of the roof when they should have only paid for 4% of the cost (1/25 = 4%). now they are on to other “surprise” projects like window replacement, siding repairs, etc.

    The above example may seem dramatic but it’s absolutely not uncommon. We see it regularly with elevator projects, underground sprinkler piping replacement, windows replacement projects, asphalt resurfacing/overlay, pond liner replacement, and many other common areas projects that may be infrequent but are extremely costly. The costs always occur and Communities/Boards really need to focus on fairly distributing the costs over time or the government will only get more involved with the process as more people unfairly charged as the people in the 25th year of the above example.

  4. Excellent summary. I wonder can a Board truncate or remove the third year of a reserve fund plan and engage another firm because it feels the contributions to the previous plan are too high? Does the Board have to alert auditor, the authors of the previous plan or owners? Is this a wise policy? Some folks believe our current plan is too rich.

  5. Our past condo reserve funds and Maintenance plans have been crafted by engineering firms. Our current president has employed a new group, specializing in planning, to craft a new plan. The plan is to spend $812,000 in 2018 plus they are including additional costs, all for studies and design fees, totaling over $272,000 to be spent in 2018. As far as I can tell, the firm that has crafted the new Maintenance Plan is also the firm to do the studies and design for the $272,000. Can our board to this, charge excessive fees to our Reserve Fund?

    Looking forward to your reply

Leave a Reply

Your email address will not be published. Required fields are marked *