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HOAManagement.com - The HOA Management Industry Directory
HOAManagement.com - The HOA Management Industry Directory

Reserve Fund vs Operating Fund

The appropriate allocation of a homeowner association’s membership dues is the most important task undertaken by its Board of Directors and Property Manager.  Realistic budgets can be created, using actual expenses and Reserve Study guidelines. The goal, of course, is to insure that the association is neither overextended nor unable to meet obligations to its members.

By law, membership dues should be allocated to 1) the payment of recurring expenses and 2) the eventual major repairs and replacements.

Just as we personally have a checking account for everyday expenses and a savings account for unforeseen events, HOA’s keep these two types of funds well separated.

Lets look a bit closer sat these two accounts.

Operating Funds

These funds are used for day-to-day operations of the community. One category of operating expenses is contracted services – such as landscaping, property management, elevator and gate maintenance, and security services. Contracted services are one of the easiest areas for the board of directors to save the HOA money.  Though it may be tempting to go into long-term contracts (perhaps with a slight discount), it is best to keep them short; this keeps the contractor more accountable and also leaves room for competitive annual bids.

Other operating expenses are insurance and taxes, as well as administrative costs such as postage, accounting and legal fees, and other office expenses.  Regular maintenance and repairs of the common area systems (lighting, plumbing) and structure (roof leaks, carport repairs, etc.) also fall under the operating budget. Each year’s “actual” expenses will help to establish next year’s “proposed” budget.

California law allows up to a 20% increase in dues each year, to cover increased operating expenses before the entire membership would be required to vote their approval. Of course, it is desirable to keep increases to the bare minimum, and following the guidelines of your Reserve Study can keep your board focused on necessary costs and actions, as opposed to less informed decisions.

Reserve Funds

These funds are kept in a separate bank account, and are only used for replacing the community’s components, not regular repairs. The reserve funds generally have strict criteria around their use (see your community CC&R’s and By-Laws), as well as rules of accountability.

The required reserve contribution each year is most often based upon a professional Reserve Study (which determines the estimated timeline and replacement cost for the common area’s systems and components). An annual Reserve Study takes a fresh look at all the new factors to be taken into account; for instance, making sure components that are prematurely reaching the end of their useful lifetime are budgeted for as needed.

Sometimes a new component is added to the community, such as a tennis court or Jacuzzi.  This type of addition would require membership approval, and possibly a special assessment, though a professional Reserve Study firm could work with the existing components and budget to possibly reallocate funds if appropriate.

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