Homeowner Association Disclosures

In any purchase involving condominiums or townhomes, the biggest disclosure packages come from Home Owner Associations (HOA).

Real estate agents need to know what their seller is required to provide to the buyer for disclosures, and not count exclusively on the HOA to provide the correct information.  The seller, and by association, the seller’s agent may have liability issues if the disclosures are inadequate.

If you don’t know what you’re entitled to receive from the HOA, you can find a disclosure list on line.  In addition, the information is included in the HOA Information Request through the CAR and PRDS contracts.

When you get the disclosure package, whether you are the buyer’s or seller’s agent, audit the package to determine whether or not all of the information is included.  If it is incomplete, send another request to the HOA, in writing, listing what you need.  If you are the buyer’s agent, you will have to make the request through the seller’s agent.  Sometimes the escrow/title company is willing to facilitate this request.  Just make sure that you make the request in writing.

Most HOA management companies do not want to be bothered with these request, but it is part of their responsibility to the complex.  Don’t let them keep you from doing your job.

HOA Disclosures include a wealth of information, but you have to dig for it. You and your client both need to read the rules and regulations.  You will be reading the information from different perspectives, so it is important that the client reads the information as well.

Some HOAs prohibit the use of laminate or wood floors in the units due to the excess noise they can cause.  If your buyer must have laminate or wood floors, that could be a problem.  On the other hand, if it’s a 15 story building, and laminate or wood floors aren’t prohibited, it may be noisy if the neighbor above has that type of flooring.

Some HOAs prohibit barbecuing on the balcony.  If your client likes to barbecue, that could be a bad thing, but if they’re fed up with the odors of people cooking around their current home, that could be a good thing.

You client needs to know what she is buying, and what she is responsible for.  In some HOAs the owner is responsible for the pipes in the walls, in some the owner is only responsible for the inside layer of the wallboard to the inside layer of the wallboard.  In other words, if you put wallpaper on the wall, you own it, otherwise, all you own is the air between the walls.  These differences can affect the costs you may incur in living in the development.

In California, the seller is even required to provide the buyer with 12 months of HOA Newsletters.  Why would anyone want 12 months of newsletters?  Well, for example, if there are discussions in the newsletters about excessive trash, stolen bicycles, or vandalism against cars, you now know more than you did before you looked at the newsletters.

Clients have a right to expect their real estate agent to read the documents provided.  The agent is supposed to be there to counsel and guide the client.  If you don’t read the disclosures, or if you don’t understand them, how can you give your client good advice.

Obviously, real estate agents are not accountants.  But you should be able to understand some of the financial information in the package.

HOAs collect reserves to use to repair or replace components of the common area, roofs, streets, etc.  Agent do need to understand about the reserves and the Reserve Funding Plan.  Prior to the Davis-Sterling Act, HOAs were not required to explain how they determined the amount of reserves they needed at any given time. With this Act, the HOA’s reserve funding is determined by having a 30 year reserve study done.  This study needs to be updated every three years.  The study identifies the major components of the property, determines the useful life remaining, and estimates the cost of repair or replacement.  These numbers are then used to create the Reserve Funding Plan.

Major components are the roof, asphalt, concrete, exterior painting or siding, etc.  The useful life is an estimate on what is there and how long it is expected to last.  If a roof was installed 10 years ago, and 30 year shingles were used, then you would estimate that the roof had a useful life remaining of 20 years.  The original life of the roof (30) less the number of years the roof has been in place (10).

The concept behind the reserves is that when the home is new, there are fewer repairs.  For example, the roof is new.  As a home ages, the roof ages.  However, since the roof probably won’t be replaced for 30 years, the cost of the replacement of the roof probably won’t occur during the first owner’s occupancy of the home.  So the initial owner gets the use of the roof for free.  Reserves remedy that situation by putting aside money every month to cover the cost of replacing the roof in 30 years.  If the reserves are set up and maintained in this manner, then each owner, in turn, pays for their share of the usage of the roof.  This concept holds true for the exterior painting, concrete or asphalt replacement, swimming pool repairs, etc.

If the reserves are 100% funded, it does not mean that all of the money is available at this time to bring the property up to like new conditions.  Instead, if the roof is 10 years old and due to be replaced in 20 more years at a cost of $30,000, then there is $10,000 set aside in the reserves.  (Roof cost $30,000/roof life 30 years = $1000 reserves required each year.  If the roof is 10 years old, then the amount in reserves should be $10,000.)  If the reserves are underfunded, then there is not enough money being put away each month into the reserves to repair and replace the components of the property.

The reserves are not set aside for a specific item, instead the HOA can use the reserves it has to pay for the replacement of any component item.  In other words, if the HOA is saving money for repaving the streets and reproofing the complex, but the roof starts to leak and needs to be replaced sooner, the HOA may have enough to cover the roof repair, but may have to put off the repaving the streets.  Or the cash flow may be such that each item can be completed when it is needed, but the overall reserve is not 100% funded.

If several expensive components need to be repaired or replaced in the same few years, then the HOA needs to have the money to do it.  If the items are replaced over many years, then the amount needed at any given time will be less.

By looking at the Reserve Funding Plan, you can see the starting and ending balance of the reserves each year.  By looking at each years information for the complex over a 30 year period, you can see what the HOA dues are expected to be over that time period, and how much of the dues are being paid to the reserve fund.  If the funding of the reserves is expected to increase rapidly over the next few years, you will now be aware of it.  You and your buyer can decide at that time whether or not you want to go through with the purchase.

Reserves can also be borrowed against if there is a shortfall in the operating cash flow.  However, the HOA must disclose this to the owners and potential buyers.

The Davis-Sterling Act is still relatively new.  Many HOAs are still struggling to get the reserves up to those required in the Reserve Funding Plan.  Over the next ten years, this situation should improve.  It will improve the most rapidly if people become aware of the reserve funding issues.

Bottom line, if you are acting as an agent to a buyer or seller in a complex that had to borrow to put the new roof on, the current owners are now paying off that loan and putting money into the reserves to pay for the next roof.  In other words, they are stuck with covering the costs of two roofs.

This information can be used to help negotiate better deals on Condos and Townhomes.  However, as long as agents remain naïve about these issues and don’t agree that they should be negotiation points, the buyers ability to negotiate them will be negligible.

© 2007 by Judy Kane