By Bryan Farley, Association Reserves - CO
Q) What is the difference between loss assessment coverage and special assessment coverage?
A) Loss assessments are the result of sudden and accidental damage that is covered by an insurance company.
A Special Assessment is an extra fee charged to the owners of an association to pay for projects that are not the result of sudden and accidental damage or a covered loss. For example, if a property has not budgeted for the eventual replacement of the roof, owners may need to be charged a special assessment to pay for the replacement of the roofing system.
Q) What is the difference between a sudden loss, capital improvements, and maintenance?
A) A sudden loss is something that happens unexpectedly, a capital improvement is an upgrade or large planned project, maintenance is something that is done regularly so that the asset can achieve its expected life.
An example of sudden loss is a hailstorm that causes damage to the association roof.
A capital improvement would be if the association wants to install a playground within the property when no playground previously existed.
Maintenance is the general upkeep of the assets that help the asset achieve its expected useful life. For example, items such as asphalt sealing, roof patching, siding painting, wood staining, boiler repairs, etc., will help these items achieve their expected useful life. Typically, ignoring maintenance projects will shorten the life of the asset or may even cause the eventual replacement value to increase due to lack of maintenance.
Q) Will an HO6 insurance policy cover a special assessment that is due to deferred maintenance?
A) No, it will not.
For example, an asphalt composition shingle roof was installed in 2000 is expected to last approximately 20-25 years. The roof is now, in 2023, approaching the end of its expected useful life. An owner is expected to maintain the roof, and the failure to do so is not a sudden and accidental occurrence that would result in a successful insurance claim.
Loss assessments are the result of sudden and accidental damage that is covered by an insurance company, special assessment is for special projects that are not the result of sudden and accidental damage or a covered loss.
Q) What is deferred maintenance?
A) Deferred maintenance occurs when s common area component needs to be repaired or replaced, but the association chooses to not the make repairs, and instead pushes the project back. For example, if the roof needs to be replaced this year, but the HOA does not have enough money to pay for this project, the board may decide to defer the project another year.
Q) What are the consequences of deferring our projects further?
A) Consider the roof will soon need to be replaced (with a remaining life of 0 years) per the recommendation of a qualified inspector. If the board chooses to defer the project, then there are a couple of outcomes:
- The roof will fail catastrophically with damage to the interior of a unit, which would now require a large restoration project to mitigate this issue. This will also negatively impact the HOA since the failure was caused due to board negligence. This could possibly result in lawsuits or other costly issues.
- The roof project will be deferred, but the cost will be higher in the future due to inflation and other unknowns (supply chain issues, labor issues, etc). The HOA will now need to charge the owners more money in this scenario to make up the difference in cost. This can result in a special assessment or large loan requirement.
Overall, deferring a project will always cost the owners more money. It is best to complete a project when it comes due.
Q) If we complete this project now, won’t our dues go up and that may negatively impact our resale value?
The data shows that well-funded reserves increase the resale value of a home. A well-funded association can increase the resale value of its homes by ~12% relative to a poorly funded association.
When a property is experiencing component failure due to deferred maintenance, a prospective buyer will see that they are buying a property in an HOA that cannot maintain its current financial obligations, and therefore may be less incentivized to pay top dollar for a property that is underfunded (roofs leaking, paint peeling, potholes in the parking lot) and cannot pay for basic maintenance needs.
Ultimately, the board has three options to pay for the upkeep of the common area assets:
1) Regular budgeted contributions into the reserve account
2) Special Assessments and Loans
3) Doing nothing
The most affordable option is to pay equally distributed contributions into the reserve account since every owner over the life of the property should have paid into this fund. Every owner will pay their fair share of their usage of the common area assets.
A special assessment and loan are sometimes necessary if the HOA does not have adequate reserves, however, these are more costly than regular budgeted contributions.
Doing nothing is the costliest because deferring maintenance could lead to structural damage, and potentially cause life safety issues for the property.
Each board has a choice to make, and the choices are not easy, but there is clearly a right choice and a wrong choice. The wrong choice could lead to costly emergency projects, or at the absolute worst, building failure.
The right choice to make is to spread out the inevitable costs of the ongoing deterioration of the common area components to all owners of the HOA. This way, every owner, regardless of when they happen to live at the property, will be paying a fair share of the reserve contribution obligations.
Bryan Farley is the President of Association Reserves, CO and has completed over 3,000 Reserve Studies and earned the Community Associations Institute (CAI) designation of Reserve Specialist (RS #260). His 12+ years of experience includes all types of condominium and homeowners’ associations throughout the United States, ranging from international high-rises to historical monuments.
