Laurel Mews HOA – August 2 Budget Zoom Meeting Notes

Laurel Mews HOA

August 2, 2022 Zoom meeting

Board + Budget Review (Finance) Committee

Homeowner / committee members: Laurie Gethin, Stephen Gordon, Emily Gabor

Board: Lawrence Norris, Andrew Schneider, Sheryl Stratton

General review of year-to-date financials

  • Comparing financials to 6/30/21 showed maintenance spending lower last year because labor not available (and material costs were high). (Note 1)
  • ~$70K common reserves last year, ~$120K this year.
  • Fluidity between operational, common area, and contingency reserves – can be rebalanced at board’s discretion. Discussion regarding consolidating them into one because there appear to be no difference between how we use them.  (Note 2)
  • Growing “contra-asset” for doubtful receipt of past-due HOA fees
  • Water bill on target for now but in any given month lags behind real costs – county staggers meter reading date. Lawrence looks at running 12 months – consumption trends and rate hikes (Note 3)
  • In general budget holding its own in first 6 months – keep following water, maintenance projects.

Repair & Maintenance

  • Labor became available this past week and Portugal on site working on gazebo that had been deferred from prior years. Broken and weathered pieces, base rotting. Also doing brick work, rail installation, etc.
  • Estimate of $39K for this work from repair and maintenance account. Budgeted for $30K and have already spent $11K  (Note 4)
  • Lawrence explained about spending from reserve fund when expenses go beyond budget (Note 4, Note 7). Every year there is a maintenance plan with things that need to be done. Tripping hazards, gates/fences, and walls are top three.

Agreements and Next Steps

  • Issue of addressing transparency for all in how things get approved.  (Note 5) Comment that with 10% HOA increase in 2022, when expenses outpace budget (Note 6), owners should know who approved and why. Owners also want to be kept informed and be part of the discussion throughout the year, not just at annual meeting.
  • Discussion about getting owner input in prioritizing expenses, for example, cobblestone walk repair. What are the community’s biggest risks and rewards? A water pipe replacement would be big pre-emptive repair but would cost a lot. Large over-budget expenditures should be a collective decision based on reserves, reserve study, maintenance plan, and owner input. (Note 4)
  • Increasing board size would require by-law change. Committees are currently at the pleasure of president. More discussion needed for how owners can be involved.
  • General agreement that regularly scheduled quarterly meetings as approved by the membership at last annual meeting with adequate advance notice to everyone would serve the concerns raised above.
  • Schedule next meeting in October, after 3Q statement is available: approval process for off or over budget expenses, process for prioritizing expenses, and reserve study
  • Schedule November meeting for first draft of 2023 budget
  • All owners should be invited to attend using emails and mailing to those we don’t have emails for.

Notes

  1. It is probably not useful to compare the 6/30/2021 to 6/30/2022 maintenance expense accounts because maintenance expenditures occur on a very irregular schedule, i.e., there are contingencies, and some maintenance items simply cost more than others.
  2. Why HOAs segment (for accounting purposes) their reserve funds is explained pretty well in the Fairfax County HOA manual way down on page 53.  It is rather axiomatic in managerial finance for any business to keep cash on hand for 3+  purposes (1) working capital,  (2) contingencies, (3) programmed future investments.  Applicable accounting standards require it.   In a lot of places you will see (1) also called operational reserves, and then sometimes (1) and (2) used interchangeably, albeit quite incorrectly.In our case, (1) is the working capital / operational reserve fund that we have to draw upon when cash-received does not match income-charged, i.e., when people are delinquent on paying dues.  In this regard, we have a cash deficit of well over $10k.  Also every year we always need to allow ourselves a certain amount of working capital for expenses that are front-loaded on the calendar, like snow/ice removal.
  3. Rather than “on target,” the better message is that the running 12 month sum is over $60k which is where the 5-year plan contemplated us being in 2024.  It appears this is being driven by both consumption increases (people working from home) and rate increases.   The July 1 rate increase over the January 1 rate increase for water is ~7%. https://www.arlingtonva.us/Government/Programs/Water-Utilities/Customer-Service/Rates
  4. This is misleading and ignores the way funding accounting works, and is explained, albeit briefly, on our website.Perhaps one of the problems is that in accounting certain terms have multiple meanings depending on the context, e.g.,  fund, account; and in HOA accounting ‘maintenance’, ‘repair’, and ‘replacement’ might have fuzzy borders; and that’s not even adding in ‘upgrading.’   Granted you might have to know how accounting works (both financial and managerial as well as private and public)  to follow all of this.

    https://clarksimsonmiller.com/operating-funds-vs-reserve-funds/
    https://mrsc.org/Home/Explore-Topics/Finance/Finance-Policies/Fund-Balance-and-Reserve-Policies.aspx

    Any given year’s annual maintenance plan might have some combination of maintenance, repairs, replacements, maybe even upgrades, contingencies and long-planned projects. Sometimes a long-planned project might suddenly become a contingency, i.e.,  it has to be addressed sooner than what had been contemplated.

    But reserve fund financing is not articulated in the current year’s P/L, while the current year’s reserve spending is included.  Funding from a reserve fund balance (equity account) would have been logged in some previous year, and including in the current year would be double counting.  What the P/L will show is the expense plus a reduction in the equity account.   The equity increase from the prior years is  reduced via the Retained Earnings (sometimes called Net Income or Profit(Loss) ) equity account.  If you look at a plot of reserve fund cash vs time, it should be a saw-tooth pattern.

    So in years when any association executes a project from the reserve plan, expenses always exceeds the current year income, and the P/L will show an operational deficit. When you look at the association’s statement of cash flows you’ll see  the deficit was financed via the reserve fund, which is the way all of this should be presented on financial statements.

    This follows intuitively from the fact that business, associations, or individuals, might have to save up over years to execute on some spending.    (Imagine making a big purchase and being asked ‘How did you afford that on your income?’  then answering, ‘I saved up for it.’    That’s the intuitive reasoning, but again this might all take some non-intuitive knowledge about accounting to follow on financial statements.

  5. Regarding how capital repair/replacement projects are prioritized,  residents self-report problems near their particular units. Inspections are done regularly with competent contractors (carpenters, masons, arborists, landscapers, plumbers, electricians, etc) to assess material condition of the common elements.  Normally tripping hazards in the walkways are prioritized first and foremost.Winter usually causes heaving and sinking in the sub-base.  https://carpentercostin.com/advice/preventing-frost-heaves-in-walkways-and-driveways/. Likewise, mortar in the brick walls fails, thus they need to be tuckpointed from time to time,  http://stonehengemasonry.ca/how-mortar-breaks-down/.  Faults in the lighting system are also address immediately due to health and safety concerns, including electrical shock, and neurological responses to flickering lights. Then are the common element fences and gates, sometimes that come inoperative due to weathering, action by insects, squirrels, or whatever.From there it’s whatever might be causing some risk being profoundly unsafe or getting much worse/more expensive if action is not taken sooner rather than later.  Things come up that might displace other things in the annual maintenance plan, e.g., the sewage backup in 2019/20,  or the water service pipe cracks that are total emergencies.  (A good rule of thumb is to size the contingency fund by imagining the most expensive plausible emergency.)  The main thing that the HOA should very much caution against is letting any common element component deteriorate to a point that a total large-scale replacement becomes necessary.  This was in fact where the community was 20 yrs ago b/c the original owners did not build up a reserve fund and did not assiduously attend to maintenance either.In facilities management the old adage is always true, “An ounce of prevention is worth a pound of cure.”  And deferred maintenance is always more expensive maintenance.It’s fair to look at the cobble stone strips and to assess whether or not they need to be repaired or replaced.Looking at the stones near the manhole cover on the midway strip, and the sinking there is probably going to be an insufferable problem well before 2026, when the asphalt will probably be milled and sub-based rebuilt.
  6. If you are concerned about the increases in LM dues in years 2020-2022, you can refer to the last reserve study to see why those increases became necessary.

    2.2 Current Funding Analysis, Cash Flow Method (Table 3): The 2020 annual contribution to reserves has [sic] been set at $20,000 with a presumed 3.0% annual increase. At this level, the total for all annual contributions for the twenty-year period would be $537,407, and the total interest income is projected to be $7,398. This funding depletes the reserve fund by 2025 and does not provide adequate funding for asphalt restoration.

    Analyzing the capital reserves reveals that:

    • The fund is approximately 38% funded through 2019, See Paragraph 3.1. Our goal is to become fully funded by the end of the 20-year period (2039).  In order to achieve this goal, the Board should:

    • Step increase the annual contribution beginning in 2021 by $18,300 for each of three years, or from $20,000 to $38,300 in the first year, followed by annual adjustments of 3.0% to reflect inflation.

    • This represents a 2021 increase from $30.86 to $59.10 (a net increase of $28.24) per residential unit, per month (based on 54 units).

    In the years 2010-2019 the community simply did not build a sufficient reserve fund due to two major reasons,  (1) the underground water and sewage pipes were not included in the reserve studies of that decade, whereat we experienced some expensive contingency repairs, and (2) there were voices putting downward pressure on HOA fees, and resulting fees simply did not keep up with increases in expenses.

    So after the 2019/20 reserve study the community embarked upon the 5-year plan. Even that plan has proved in adequate due to the inflation we’ve been experiencing since 2021, and the changes in where people work since 2020,  resulting in more home water/sewage usage.

    One of the most significant budget decisions an HOA board makes is sufficiency of the reserve funds.  Under state HOA and condominium statutes, board members owe a “fiduciary duty” to the association.   The obligations of a fiduciary are among the highest recognized by the law.  In carrying out their responsibilities, a board and its members must act in good-faith, prudently and loyally, and always in furtherance of the association’s best interests.  The duty of prudence means taking reasonable steps to avoid a scenario where a cash-strapped HOA is unprepared for a major expense it should have seen coming.

    This means budgeting realistically and ensuring the association has sufficient reserves. Building a capital reserve fund is not only about the repair/replacement of components,  but really about paying the cost of using the current component, aka, depreciation. When cohort of owners decide not to adequately fund its reserve, what they are really doing is shifting their cost of using the component onto the next generation of owners.

    Not building a reserve fund undercharges the true cost of home ownership, and inevitably leads to a special assessment.  With a special assessment, the community is paying all-at-once what it could have paid over time, and could have had subsidized by interest payments.  In effect, current owners are footing the bill for costs that were rightfully the responsibility of prior owners.

    Moreover, charging a special assessment puts individual owners at risk for civil judgements, liens, and foreclosure if they cannot afford the charge on the schedule that the HOA requires.   Kicking the can down the road by under-funding reserves almost always leads to greater in-affordability and economic losses to the association and its members in the end.

    Current parsimonious owners might figure when matters come to a head, they will be long-gone and living elsewhere, which is something owners intending to be here for the long-run should guard against.   (See section 4.10 in the reserve study.)

  7. See the discussion on operational deficits on the Budget Overview page.

 

 

September 2022 Meeting Notes (link)

October 2022 Meeting Notes (link)

November 2022 Meeting Notes (link)

Budget Overview Analytic Framework for Budgeting The Reserve Fund(s) Budget Bibliography