Fund Times - Why the condo corp is asking you to cough up more cash

Written by Shlomo Sharon | 01 June 2010

First-time purchasers of condominium units are often shocked after a year of living in their unit to get a notice of a suhstantial condominium fee increase for the next year. Why does this happen? The increase for the second fiscal year of their new condominium corporation can be attrihuted primarily to two budget items: utilities and the reserve fund contribution. 

While most condo owners know what
utilities are, the concept of a reserve fund is new to them. The board and management company usually take the brunt of owners'anger over the increase. Questions are thrown at them left and right: "Wno made the decision about how much money we need to put into the fund this year and why?"  "Why should it total $400,000 and not $150,000?"  And, "Why can we not increase our reserve fund gradually, not top it up immediately?"  "It is a new building, so why do we need so much mony in the fund?"

In order to understand a reserve fund, we need to know its purpose. The provincial Condominium Act states: "A reserve fund shall be used solely for the purpose of major repairs and replacement of the conunon elements and the assets of the Corporation."

Prior to the 1998 Condominium Act, the minimum contribution was 10% of the corporation's annual operating expense, divided by the percentage share as set out in Schedule D. Most condo corporations elected not to contribute more. But those residents often found, when the time came
for a major repair, there was not enough money available, and a special assessment - a one-time cash injection - was needed (which probably hurt more than gradual payments over time).

The 1998 Condominium Act made it mandatory for the corporation to maintain an adequate reserve fund. A reserve fund study is needed to determine how much money should be contributed. The study must be conducted by what the Act refers to as "a person of a prescribed class, who shall have no affiliation with the board or with the corporation ... ," in other words, an independent person, usually an engineer.  The study is conducted once every three years. The first time, it is called a Comprehensive Study. The next is a Reserve Fund Study Update, which can either be based on site inspection or on the original study with input from the condominium corporation.

The study consists of a physical and financial analysis. The physical analysis considers all the major components of the building's common elements, including elevators, roof, balconies, carpets, windows. The study is done by visual inspection, interviews and verification. The person who prepares it estimates the age of the component item, or if it is new, what its life expectancy might be before a major repair.  or replacement is required. Then he determines the current cost and what the cost will be at the time of the repair or replacement, based on an assumed inflation rate.

The financial analysis portion considers the outstanding balance at the time the Reserve
Fund Study is conducted and projects the recommended funding for the next 30 years. It shows the required minimum annual balance to be maintained in the fund . The calculation is determined by an independent person, based on a govenunent mandate, with very little room to manoeuvre.

When the board receives the Reserve Fund Study, it proposes a funding plan within 120 days. The board does not require the consent of the owners to either approve the plan or to make an expenditure out of the reserve fund. Within 15 days of the proposed plan being
approved, a Notice of Future Funding of the Reserve Plan, which indudes a summary of the study and the plan, is sent to the owners and the auditors and implemented
30 days later.

"Major repairs and replacement" can be defined as returning a damaged component to the level at which it existed at the time of consutruction, whether by repair or replacement, but it does not allow for funds to be used for upgrading any elements.

The reserve fund is an asset of the corporation and cannot tOfln part of an adjustment
on the resale of a unit. People often ask "Why should I contribute to the reserve fund if I don't intend to live here a long time?" Beyond the fact that your lawyer will bring your errant ways to your attention, it behooves you to pay up, as underfunding the reserve may cause a reduction in the value of the units, and a potential purchaser may be wary of buying into a building knowing he will have to dip further into his budget to make up for any shortfalls.

Shlomo Sharon is president ,and CEO, Taft Management