If the Association Is Over 100 Percent Funded Can it Stop Funding?

Question- If an association is over 100% funded according to their latest reserve study, can the association cease contributing to their reserve fund?

Answer- This is a very common question and the idea of “percent funded” is still confusing to many associations.  Before we answer the question, let’s define what it means to be 100% funded.

To be 100% funded means as of this point in time the association is exactly on target with its goal to be fully funded.  It does NOT mean that the association has 100 percent of the monies needed to replace all the components in the reserve study.  Example – Assume that there is just one reserve component in the study and it has a replacement cost of $100,000 and has a useful life of 10 years.  After three years have elapsed of the ten-year life, the association should have three tenths of the projected current cost set aside (3/10 x $100,000 = $30,000).  If they have $30,000 set aside as planned, they are 100% funded.  Do they have all the money they need to replace this item?  No.  But they are “where they should be”.

Let’s take an example where the association is 150% funded.  Assume the same facts and circumstances as noted above.  In year three, however, the association has $45,000 instead of $30,000.  This computes to being 150% funded ($45,000 divided by $30,000).  Does the association have the total replacement cost set aside?  No.  They are still $55,000 short.

The reserve study preparer takes into account the financial position of the association as of the date of the study.  As excerpted from National Reserve Study Standards, from that starting point, a cash flow plan is developed over the remaining useful lives of the components to ensure there is:

1. adequate cash to replace the components at their scheduled replacement date
2. budget stability for the association
3. an even distribution of reserve contributions among the homeowners, and
4. fiscally responsible behavior of the board and management with respect to their inevitable reserve obligations.

In the second example $55,000 would be divided over the remaining seven years so the annual funding would be $7,857 per year.  This is less than the $10,000 per year in the first example, as the reserve study preparer has taken into account that the association is more than 100% funded.

So, to answer your question, “No, the board should not stop funding when the association is more than 100% funded”.

This is an unrealistically simple example.  In an actual reserve study, each year the funding plan should be adjusted to meet the four objectives stated above.  Some years this means increasing the contributions, some years this means decreasing the contributions.  Adequate funds are not collected, the budget will not be stable from year to year, and owners will not share equally in their reserve obligations if reserve contributions are temporarily stopped.  Unless the reserve study states that no additional funding is necessary, the association should fund at the level recommended by the reserve study.

The next questions usually asked is “what if we do not fund in accordance with the reserve study?”  While it is true that there is no law which requires funding of reserves, we refer the association to the rules of “fiduciary duty” and the “business judgment rule” and suggest that this is a legal question that the board may want to discuss with the association’s attorney.