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How Accurate is a Reserve Study?

12/01/2021 5:34 AM | Anonymous member (Administrator)

By Bryan Farley, Association Reserves - CO

After you are done ringing in the New Year, you are starting to get back into the swing of things and you plan on reaching out to vendors to ask for preliminary bids.  You notice that the preliminary asphalt seal coat bid is projected to be around $20,000, but your Reserve Study shows a $15,000 estimated (current) cost. Or you notice that the paint proposal is coming in at around $50,000 but the Reserve Study has an estimated $80,000 (current) cost. 

What is going on? Why would your Reserve Study professional show such different costs for an expense? The answer is due to the unpredictable nature of the projections. As the saying goes – “It’s tough to make predictions, especially about the future.” 


What can we do about it?

The goal of the Reserve Study is to offset the ongoing deterioration of a property. That means the purpose is not to make sure that the property has exactly $20,000 in year 2026 for the next asphalt seal, since the seal may cost more (or less) than what is projected on the Reserve Study, or the project may not even occur in year 2026! Rather, the Reserve Study will focus on the annual rate of deterioration. The way the math works, (assuming asphalt sealing occurs every 4 years), is: $20,000/4 = $5,000. That means that the asphalt seal deteriorates by about $5,000 a year; therefore, the client will need to offset that deterioration by putting $5,000 back into the Reserve account. Since costs may change next year, the client should anticipate that the $5,000/year number is just the ‘baseline’ amount needed. This means that if they are just putting away $5,000, then they are not factoring in inflation or the need to ‘catch-up’ if the Reserve account is underfunded. 

The Reserve Study will then make a funding recommendation, based on the National Reserve Study funding principles, that not only offsets this annual deterioration but also allows for the inclusion of inflationary pressure, deferred maintenance, and risk avoidance. When a Reserve Specialist makes a funding recommendation, it is with the goal to incur the least amount of risk for special assessments. 


How to Reduce Special Assessment Risk? 

Statistically, a property that is between 70% to 130% funded will have a less than 1% risk of special assessment, whereas a property that is less than 30% funded will have a 30%-60% risk of special assessment. Therefore, the funding goal is to target a 100% funding level at the end of a 30-year timeline. However, the question we always receive is – “Is it unrealistic to be 100%?” Our response is that the point is not about achieving a specific percentage number, but rather fund the reserves to be in a specific range.  

 If a client is funding with a 50% funding goal, then a large increase in costs or supply issues in 2025 may severely deplete the reserve account. For example, a $20,000 increase in the asphalt seal cost may now drop the percent funded by 20 points, putting the property in a high-risk position of special assessing their owners. 

However, if we are targeting a 100% funding level, then a 20 point drop still leaves the property at a low-risk position, or around ~ 80%. 

Therefore, the way to reduce special assessment risk is by continually contributing funds into the Reserve account. This needs to happen every month of every year. It is as important as any other bill that the property needs to pay for. 


How does the property know what the right amount of money is to contribute?

It is by commissioning a professional Reserve Study!  The Reserve Study will guide the property to hedge the risk of special assessments by continually putting proper reserve contributions into the reserve account to offset ongoing deterioration. We argue that if you take care of the payments of the ongoing deterioration today, then the funds will be ready to go in the uncertain future tomorrow. Therefore, instead of thinking of the Reserve Study as a magic 8-ball, think of the Reserve Study as a planning tool that helps your property offset current annual costs of deterioration. Every one of your assets has a bill, however, not every bill is ‘due’ at the end of the month. Some bills may be due in five years, while others will be due in twenty. The Reserve Study will show your owners that even though the cost of the project will not be paid for in another twenty years, there is still a monthly cost that must be paid for now. This way, every owner, (not just the owners who happen to live at the property when the project occurs), will pay a fair and equitable distribution of the costs of the property’s assets. 


Bryan Farley is the president of Association Reserves - CO and has since completed over 2000 Reserve Studies and earned the Community Associations Institute (CAI) designation of Reserve Specialist (RS #260). 


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