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2022-05-14 23:06:42 By : Mr. Edison Wong

Q: How does your rule of thumb for condo reserves factor in the condo building’s location?

For example, the exact same building on Florida’s Miami Beach and Fort Pierce would have the same reserve items and costs to replace. But the condo units on Miami Beach average $1.5 million while those in Fort Pierce average $200,000.

A: Let’s start by saying that we wish there was an official rule of thumb for how much cash condominiums should have in their reserves. Unfortunately, there is nothing official right now.

That doesn’t mean condo buyers (and owners) can’t make an educated guess as to how much should be available. When evaluating cash reserves, we believe you need to separate what a local real estate market says about property valuations and the actual cost to repair a specific item in a property. These are two separate issues.

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For example, if you have two 10-story buildings of a similar age that have been taken care of reasonably well, it should cost about the same to repair the mechanics or components of the elevators, no matter whether the units in the property cost $250,000 or $2.5 million.

The same principle applies to replacing roof shingles. A single-family house in Boise, Idaho, is worth twice what it was 10 years ago, but replacing the same size roof using the same shingles shouldn’t cost twice as much as in a less expensive suburb.

Where you may see a difference is in the cost of labor. Someone working on elevators in New York City may charge a higher hourly rate than someone doing the same work in Houston or South Florida. So, repairing or replacing an elevator’s mechanicals might cost more (perhaps even a lot more) in a high-cost city.

There may also be higher assessments in an expensive building that has more amenities or high-end finishes than a building with less expensive homes. If a marble floor is damaged, it might cost more to replace a broken piece than repairing or replacing a less costly flooring material, like carpet.

How does this translate into condo assessments and cash reserves?

If the property was designed and built to offer the amenities and the look and feel of an expensive community, and it has a number of employees (door people, maintenance engineers, building manager), the assessments owners pay will be higher than in a building without personnel or amenities.

But regular assessments also need to cover building insurance, cleaning crews, groundskeepers, utilities, water, garbage and regular servicing of mechanicals and heating and cooling equipment. And they need to cover irregular costs, some of which may occur annually, including window washing, painting, tuckpointing, elevator repair and pest control. That’s where cash reserves come into play. You don’t want to have a special assessment every time the elevator goes out.

Assessments are designed to cover the costs of running the property every day. Condo reserves are designed to cover costs that are truly irregular; for example, replacing windows, common area redecoration or roof replacements. Assessing these irregular costs has little to do with how much money sellers are getting for their homes and everything to do with age and condition of the property.

Condo buildings in Miami that are 40 to 50 years old, are likely to be facing similar issues of wear and tear. The costs to make necessary repairs will vary due to the building’s location, condition and how well they’ve been maintained through the years.

What is clear is that some aging condo buildings, perhaps even most, don’t have enough cash reserves to do the work that’s necessary to keep these properties in excellent condition. These building’s associations should consider any and all options available that will allow the work to progress as soon as possible.

Given these factors and your example, you might expect to see the same amount in reserves for the two buildings you mentioned, especially when the buildings are identical and in the same condition. In an ideal world, that might be true but the point we were making in our column is that buyers should be on the lookout for buildings that have little or no cash reserves and bid with caution. Determining what the right cash reserve amount for a specific condominium building is hard absent a lot of experience and information that wouldn’t be readily available to an average buyer.

But you should still try to figure out what is a “good enough” number, and to get there, you might want to start with the purchase price. Then, ask to see what percentage ownership that unit has in the association and figure out how much of the reserves are allocated to that unit. From there, you can see whether the cash reserves are minuscule compared to your purchase price or if there is enough allocated to cover the irregular, if not extraordinary, repairs.

Let’s say you use this formula and figure out that the cash reserves allocated to the unit you want to buy are $1,000. To us, that number would be low in all circumstances other than a newly built condominium building that is still under warranty.

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Given the complexity of the issue, our suggestion is to think about the value of the condominium and take a percentage of that value, say 1 percent or more, to come up with an amount for what you might want to see in reserves for the building.

Right now, calculating reserves and deciding whether they’re enough to cover most needs over the next five or 10 years is art, not science. Our goal is to help our readers think carefully about the building’s physical and financial condition, looking at the existing cash reserves and then asking themselves what those reserves mean with respect to the unit.

Every buyer understands that all expenses going forward with that home will be paid by the homeowner. If the condo buyer understands it the same way, they won’t be surprised when they get a special assessment. The problem is that many buyers automatically assume that condominium buildings are managed in a way that will avoid special assessments, but that’s not always the case.

Ilyce Glink is the author of “100 Questions Every First-Time Home Buyer Should Ask” (Fourth Edition). She is also the CEO of Best Money Moves, an app that employers provide to employees to measure and dial down financial stress. Samuel J. Tamkin is a Chicago-based real estate attorney. Contact them through her website, bestmoneymoves.com.

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