Welcome to San Diego Blog | December 4, 2012
Understanding HOA Reserve Studies
Purchasing a condo in San Diego or any city in California can be somewhat confusing when it comes to understanding home owner’s associations and their budgets, reserve studies and their overall state of health. I must start with notifying you that we are not certified accountants that are formally educated in HOA financial audits so please keep this in mind while interpreting my overview on the topic.
The actual definition of Reserve Study is a budget planning tool which identifies the current status of a reserve fund and a stable and equitable funding plan to offset the future major capital expenditures. Reserve studies generally consist of two parts :
- physical analysis
- financial analysis
Reserve Studies – A Simple Understanding
The overall gist of the reserve study is to have an independent 3rd party company with no interest in the property or association at hand to give a formal evaluation based on a standard that is used across the board for all Home Owner’s Associations. By doing this, you are comparing apples to apples when comparing one San Diego condo property to another building like Parkloft (in this case).
The reserve study is to break down the functional life of every component of the building and the cost to replace and maintain such components. For example, they may take the roof of a building and give it a 25 year “life”. They take the cost to replace the roof in 25 years (keeping in mind 3% inflation) and divide such cost by 25 years so the HOA saves 1/25 of the replacement cost along the way each year. At year 25, the HOA would have 100% of the funds allocated for the replacement (including costs of inflation). Now the roof may last 30 years, but at year 25, the HOA is to be prepared with funds to replace that item.
If the reserve study shows that the building is 100% funded, that is to say that the building is “on track” with having all of the funds for replacement of the fraction of the functional life at any given time. Example: Icon was built in 2007 so we are at 5 years of age for the building (it’s currently 2012). If the cost to replace the roof was $1,000,000 divided by 25 years then the reserve study should allocate $40,000 per year. At the end of year 5, the Icon HOA should have $200,000 allocated to the reserve fund. If the HOA does indeed have the $200,000, then they are said to be 100% funded. Keep in mind for the simple purposes of math I didn’t include inflation in this example.
Now take the above example and apply it to everything in the building. If the Icon HOA has, 107% of the funds to cover all items with this per year savings plan after year 5, then it would be understood by most that this is a great position to be in. Most buildings we sell downtown are in the 70%-80% funded range.
The most recent reserve study that I just received last week from Parkloft at 877 Island Ave is located in the link just below this paragraph. You can use this to compare to any reserve study and see that Parkloft is only 97% funded. As a home owner at Parkloft, I’m delighted to know that we are 97% funded. If we were only 50% funded, then this would be an indicator that I could expect some special assessments in future years. If an HOA is underfunded, this can also lead to issues for buyers to obtain bank financing to purchase property within that association. Banks don’t generally want to lend on properties that are funded below 60% because it can cause hardships on owners and make loans more risky for them.
The Barrera and Company are reserve specialists and if you need further explanation, they are the professionals that I would recommend. You can contact them at (858) 483-0600 .
I hope this is helpful and useful information and if not, I’m confident the professionals at Barrera and Company will have the answers and explanations you are seeking when reviewing a reserve study at a property you might be in escrow on.