As we close out the books for 2024 and begin audits, it is a good time to take a second look at our budget and financials for 2025. Here are some items that the associations should take a second look at before 2025 gets away from us.
1. Adopt an Accurate Budget
The cost of running an association is going up. Associations are seeing insurance prices skyrocket, and maintenance and repair project prices are increasing. Owners are facing their own financial challenges as their own household expenses are also increasing. This means that, more and more, we are seeing boards face owner pushback and even formal challenges when they increase regular assessments or when they adopt a special assessment. As a result, some boards are hesitant to adopt the budget they know they should adopt when doing so will cause assessments to increase. Based upon that concern, they focus on keeping assessments low rather than adopting the budget and assessments that the association needs. While that approach may save a board from some pushback from its owners, it will only cause more pain down the road. While special assessments are unavoidable from time to time, if a board finds itself having to adopt back-to-back special assessments to cover routine expenses and budget shortfalls, it should take a harder look at its budget to make sure that budget reflects reality.
One thing boards should avoid when adopting a budget is to simply re-date the current year’s budget and adopt it anew for the upcoming fiscal year (with or without a percentage increase). As noted above, prices are increasing, so it is not realistic to believe that costs will not increase. Further, a budget should reflect the association’s real anticipated costs. This requires review of actual expenditures to date, and an honest assessment of what the upcoming fiscal year might look like. All directors should educate themselves to read budgets, and they should not approve budgets prepared by the community association manager or treasurer without reviewing them and truly understanding them.
So, what happens if it already appears that your 2025 budget is not accurate? If it appears that your 2025 budget is no longer accurate due to increased costs, the board may need to adopt a revised 2025 budget mid-year or adopt a special assessment to account for actual costs. What avenue to take may depend on the nature of the increased cost. By way of example, in the event that an association’s insurance premium increases significantly, the board should adopt a revised budget to account for that increase in premiums. The process for adopting a revised budget or special assessment may vary from association to association. Therefore, the board should consult its legal counsel to confirm the process. What the board should not do is simply utilize its reserve fund as a matter of course to pay for those increased costs.
2. Obtain and Follow a Reserve Study
Condominium associations are required by statute to maintain reasonable reserves for capital expenditures and deferred maintenance and repair. (765 ILCS 605/9(c)). Most associations are also required by their community instruments to maintain a reserve account, and federally backed mortgage lenders will often not write a loan to purchase a unit within an association with inadequate reserves. Even if maintaining a reserve account is not legally required for your association, good business judgment dictates that every association should maintain one.
The Condominium Property Act lists five specific factors a board should consider when setting the reserve amount, one of which is the reserve study. The Condo Act also requires a board to consider useful life and repair/replacement costs of building components, current and anticipated return on investments, financial impact of the set reserve amount including resale value of units, and the ability of the association to obtain financing. While the board should consider all these factors, when it comes to assessing the tax status of an association and whether reserve transfers impact that status, the reserve study is especially important. As is discussed below, equally important is consultation with the association’s accountant.
3. Be Mindful of Reserves Transfers
As already mentioned, establishing, maintaining, and continuing to fund a reserve account are all important for the financial well-being of any association. Reserve accounts are important to fund capital projects, to pay for deferred maintenance and repair, and for unbudgeted expenditures that may arise during the fiscal year. A reserve fund is not, however, a general savings account that should be routinely relied upon to cover operating shortfalls. If the association frequently finds itself needing to dip into reserves to cover routine operating expense overruns, the board should reconsider its budgeting strategy, as discussed above. In addition, specific procedures must be followed any time an association borrows from reserves to cover operating expenses.
As mentioned at the beginning of this section, reserve funds have specific purposes. If reserve funds are used to cover an expense for which they are not designed, such as covering an operating shortfall, the use of those funds must be considered a loan. That loan from reserves to operating must be repaid. Failure to do so could be deemed comingling and could impact the association’s taxes and tax status. The timing for repayment will vary depending on circumstances, and the accountant should assist the board to ensure deadlines are met. No matter the timeframe that an association has to reimburse its reserve fund, any loans to operating should be noted on the balance sheet. A plan should be implemented to reimburse reserves within the time frame determined by the association’s accountant. Even while this reimbursement is ongoing, new budgeted reserve contributions should continue to be made.
4. Most Importantly: Consult the Association’s Accountant
As you may have realized by reading this article, or as you may have learned when dealing with budget and reserve issues in your own association, these issues can be complex and confusing. Further, boards will be protected under the business judgment rule from liability for addressing these issues, provided they follow the advice of their experts. When it comes to reserve transfers, it is imperative that a board obtain advice of a certified accountant. Just as importantly, this advice should be obtained on an ongoing basis. Too often, associations will only reach out to accountants when it is time to file taxes or to have its accounting or audit completed. By then, it is often too late to correct course and ensure that reserve transfers are being handled correctly. (Not to mention that the accountant will be in his/her busy season!) An association’s accountant is part of its professional team. The accountant should be routinely consulted – just like the board contacts its attorney when legal questions arise, so, too, should it consult its accountant for financial matters. Then, that accounting advice must be followed and implemented.
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