By Alicia Granados, CMCA, AMS, PCAM, Pacific Premier Bank, HOA & Property Banking
“Should my association consider a loan?” There are a number of scenarios where this question comes up, and times when it doesn’t but perhaps should.
“We have deferred maintenance and we don’t have enough in our operating budget or reserves to make needed repairs . . . what should we do?”
“Our construction defect litigation settlement was not enough to correct all of our issues . . . what should we do?”
“We had a catastrophic loss but our insurance coverage has a deductible we can’t afford . . . what should we do?”
“We want to add a new community playground . . . what should we do?”
In trying to answer these difficult funding questions, Boards often assume that their only option is to special assess each owner for their share of the association’s shortfall. Owners are then left with the option of using cash on hand or obtaining individual financing through a second mortgage or other means. This can be difficult for those who may not be good candidates for a loan; some may have poor credit while others rely on fixed monthly incomes. Undoubtedly, large special assessments can place a great burden on members of a community.
For many communities, an association loan is a very attractive solution, allowing the Board to quickly obtain needed funds. In the absence of an adequately funded reserve account, an association can borrow money and often avoid a significant and urgent special assessment against its members.
One of the most common reasons for borrowing is the need to fund deferred maintenance through a large scale repair or renovation project. A loan allows the community to escape the inconvenience and expense related to multi-year phasing of a project, while still allowing the membership to spread payments out over time. Needed work can be performed right away, enhancing the value of the community, while the cost remains more manageable for each owner.
When considering a loan, the following questions often arise about the type of collateral required and the impact on individual owners, as well as the typical terms and structure of an association loan.
What type of collateral does the bank require?
Typically, the association will assign the bank its rights to collect future assessments and other accounts receivable. In other words, if the association failed to make its loan payments, the bank would have the right to step in and collect assessments on behalf of the association. Except in the case of a loan made specifically to purchase real estate, an association does not generally pledge its property, such as a pool or clubhouse, against a loan. There is no personal liability for an association loan. Board members are not asked to provide personal guarantees, nor are there liens placed against individual units to secure the loan.
What is the impact on individual owners of the community?
Individual owners are not directly obligated for an association’s loan, therefore homes can be bought and sold regardless of whether there is a loan in place. A loan is also not reported on any member’s personal credit report. The most common impact on owners is that the association’s assessment income often needs to be increased by some amount in order to support the loan payment. Depending on the governing documents, a vote of the owners may be required to approve the Board’s ability to pledge assessments.
How does an Association qualify for a loan and what is the typical structure?
An association can expect to be required to meet various qualifications related to the size of the community, delinquency rates, percentage of absentee owners, concentration of ownership and amount of the proposed assessment increase. The structure of the loan will depend on the type and length of the project being funded. Banks may offer either a line of credit or a traditional term loan, typically amortized over ten years or less. It is best to look for a loan with no prepayment penalties so that the loan can be paid off more quickly if funds become available.
A loan sounds like a great idea – now what?
It’s never wise to rush into applying for a loan without first consulting your governing documents and the association’s legal counsel. It is important to ensure that the documents and applicable state statutes permit the association to borrow funds and also to determine whether a vote of the membership is required. In some cases CCIOA (The Colorado Common Interest Ownership Act) requires that the Declaration provide express authority for the association to assign future income, so a document amendment could be required.
Once the Board believes that a loan is a viable solution, it is best to contact a bank that specializes in lending to community associations. Like other knowledgeable industry partners, banks most familiar with associations will be able to successfully guide the manager and Board through the process, avoiding many obstacles and securing a loan that will best meet the needs of the community.
Alicia Granados, CMCA, AMS, PCAM is an experienced HOA & Property Banker in Colorado. Pacific Premier Bank HOA & Property Banking specializes in lending and innovative banking solutions for the community association industry. Their advanced technology and API integration with industry accounting software packages creates meaningful efficiencies for management companies and community associations across the country.