Association Reserve Funding Methods: Pooled vs Component
Are you wondering about the best way to allocate reserve funds for your homeowners’ association or condo association? Here is what you need to know about two of the most common reserve funding methods: pooled funding and component funding.
Why You Need Reserves
Managing a homeowners’ association or condo association can be complex, especially if your community has lots of shared facilities and equipment to manage. Managing finances is one of the most important jobs of any HOA or COA, and this means anticipating future costs and ensuring that you have enough money to pay for maintenance, repairs, and replacements. You might not know precisely when you’ll need the money or what you will need it for, but it is inevitable that things will need to be repaired or replaced in the coming years.
To keep your community a pleasant place to live, it is imperative that you have reserve funds set aside. Otherwise, maintenance and repairs won’t happen in a timely manner and your community will not continue living up to residents’ expectations.
What Are Pooled Reserves and Component Reserves?
Both types of reserve funding serve the same function, but there are some differences between the two.
- Pooled Reserves: Funding for multiple assets is combined into one general account (or pool of money), from which you pay all expenses.
- Component Reserves: Each asset is analyzed separately and has its own dedicated reserve account. Funds are not transferred from one category to another.
Pros and Cons of Pooled Reserves
If you opt for pooled reserves, you will analyze multiple reserve assets and then combine them into one general account. You’ll pay for all the costs of the different included assets from this general account. Depending on what needs to be repaired, replaced, or maintained in a given year, this pooled fund could pay for dozens of different projects across different categories or it could pay for just a few projects.
The pooled reserve method is great because it allows for flexibility. Funds are not restricted to one specific account or another. To ensure that your reserves are fully funded, you have to consider many factors (including cashflow, current reserve balance, inflation costs, and the projected costs of all the repairs and replacements needed) but you maintain flexibility in case one project costs less than anticipated and another project costs more than anticipated.
Homeowners may appreciate this method because it usually allows for a gradual annual increase in contributions each year, making it fairer for the homeowners who are contributing as your association builds a strong reserve fund.
However, with this method, it is all too easy for funds to be unfairly distributed from one asset to the next. Your association could end up overspending in some categories, which could potentially leave you without enough cash when other unexpected repairs come up. This could lead to unfinished projects or special assessments, neither of which are desirable options for the homeowners who live in your community.
Pros and Cons of Component Reserves
If you opt for the component reserve method (also known as the “straight-line method”) you will calculate the contributions for each category separately and keep the reserve funds separate. You may have one account for pool maintenance, one account for landscaping, one for roofs, and so on. Funds are not shared between these accounts without a majority vote from the HOA or COA board.
The component reserve method is useful because it is organized and makes an effort to fairly distribute the funds between all the different assets. You know ahead of time how much you expect to spend in each category. Pool maintenance costs will always come from the pool maintenance reserve account, while asphalt costs will always come from the asphalt reserve account.
However, this method can become a problem when the actual costs of a project end up being higher than anticipated. Sometimes, the fund you have allocated for one asset will be insufficient while other components still have plenty of funds. Most HOAs or COAs that use the component reserve method end up dealing with this problem from time to time. In this case, you will have to either move funds from another reserve account or you’ll have to collect special assessments from homeowners. Either case will require a board meeting and a majority vote. If funds cannot be allocated, the project may end up unfinished.
Another potential downside of the component reserve method is that contributions may need to be higher for the first few years until each account is fully funded. Homeowners may not appreciate the higher costs for these first few years, though it will even out eventually.
Which Is Better for Your Association?
Since both methods end up accomplishing the same thing – funding the maintenance, repair, and replacement costs for shared spaces and equipment – it may be difficult to decide which method to go with.
Many associations opt for pooled reserves. It is simple, fairly distributed, and lets you build up your reserve fund smoothly and gradually over the years. According to Association Reserves, most reserve study professionals recommend using the pooled reserve method. However, the component method can be a good choice for some HOAs and COAs, especially if you already have some reserves set aside and if you do a good job analyzing and calculating the contributions for each component.
If you’re using the component method to fund your association’s reserves but you end up frequently moving money from one account to another, you are essentially using the pooling method without the simplicity of only having one general fund. If you find this happening, you may want to switch to the pooled reserves method.
Protect Your Association’s Finances with LM Funding
Regardless of what method you use for reserves, the monthly maintenance fees are how they are funded. Even one delinquent homeowner can lead to a project being underfunded. LM Funding is here to make sure that doesn’t happen to you. We work to return 100% of the past due assessments to HOAs and COAs while also providing a “minimum payoff guarantee” on day one! Not to mention you’ll never have to pay another expensive collection-related legal fee again!
If you’d like to learn more, you can contact LM Funding by calling (866) 235-5001 or emailing firstname.lastname@example.org today!