Those serving on HOA boards need to have a keen understanding of how essential a balanced budget is to the success of their associations. Drafting and ratifying a budget can often seem like a daunting task for board members. However, if the proper steps are followed and all prudent information is taken into consideration, budgeting for your association's annual financial needs can be a less-stressful process.
Who is Responsible for Drafting a Budget?
For associations who employ the services of professional management companies, the community manager will typically be responsible for the initial draft of an annual budget. Then, depending on the association’s setup, the first draft of the budget will be sent to board as a whole, the treasurer or finance committee and any needed changes will be discussed and implemented. Once the content of the budget is agreed upon, the board will then vote to adopt it.
In North Carolina, if a community is subject to the Planned Community Act or Condominium Act (Condominium Associations formed after October 1986 and Community Associations formed after 1999 fall into this category), the proposed budget approved by the board is considered ratified unless a motion is made to not ratify it and that motion is seconded and approved by 51% of the membership. However, regardless of when as association was formed, the governing documents may spell out a specific budget approval process.
In South Carolina, budgeting processes and approval procedures are exclusively handled in the governing documents of that particular association.
What Goes into a Budget?
The most common types of expenses that go into an association's budget are things like landscaping, utilities, maintenance costs, administrative costs, tax preparation fees and insurance premiums. For the vast majority of associations, what should and shouldn't be included in a budget is driven by that association's governing documents and common areas the association is to maintain.
In the drafting of a new annual budget for a homeowner’s association, historical data from the previous year is one of the main things to be considered. In addition, board members and/or community managers must review things like service contracts, insurance policies utility billing rates, etc. CAMS recommends contacting vendors, utility companies and insurance agents to inquire about any known or likely rate increases in order to accurately project expenses. Involving vendors in the budget process also holds them accountable for staying within budget if the budget numbers were provided by them. This will paint a clear picture of what your association can expect in the upcoming year and thus allow those responsible for the budget to factor in any cost changes that may affect the association.
Operating Budget vs. Reserve Budget
Associations have two types of budgets to consider - operating budgets and reserve budgets. Operating budgets are for day-to-day expenses, maintenance costs and things like utilities and insurance premiums (if the association provides coverage). Reserve budgets handle things like long-term replacement costs such as roofs, asphalt and storm water costs for example. To get the clearest picture of upcoming costs, reserve budgets and operating budgets should be added together to see what is required annually. The annual reserve budgets should be taken from a professionally prepared reserve study.
Allowing for Natural Disasters
In regard to allocating funds for potential natural disasters, it is ideal if those are kept in another reserve account separate from the main reserves. Though one cannot predict the occurrence or impact of such events, it is a good idea to keep things like storm damage/cleanup and insurance deductibles in mind. These types of reserve accounts are typically cumulative – for example, say your association allocated $25,000 to go in a natural disaster reserve account this year and it wasn't used. The $25,000 that goes in next year will be added to the existing amount and so on and so forth until that account's balance reaches a comfortable level. This keeps associations, especially those along the coast, prepared to handle whatever nature may throw their way. The amount kept in this type of reserve account should be equal to the association’s wind and hail insurance policy deductible at minimum.
It is always advised that details of a new budget be available to association members at least 30 days before that budget is to take effect. Providing members with a “budget narrative”, as we discussed in a previous article, is key to keeping members informed, especially if there are proposed assessment increases. Clear communication will keep everyone in the loop and assist members in understanding exactly what their assessments are being used for.
Overall, the key things to keep in mind when drafting and adopting a new budget are historical data, contract and utility cost and governing documents. With these things considered, those charged with preparing the budget will understand what funds are needed to properly run the association in the upcoming year and be able to setup their association for a financially stable future.
CAMS Community Managers have the skills and expertise to assist board members with preparing association budgets. If you could use some assistance with your annual budgeting process, please reach out at 877.672.2267 or read more about the services CAMS offers.