A reserve study is a tool for budgeting. Reserves funds are part of the budget. A reserve study will help the association manage their long-lasting assets.
Part of the Budget
Each year an association puts together a budget. Most of the budget consists of one-year-only expenses. The remaining portion is for items that will last longer than one year. Even though these items last longer than one year, they get annualized (or averaged) into a one year number in the budget. For example, if a reserve item costs $10,000 and it has a remaining life of 10 years, then $1,000 is allocated for the budget that year.
The more reserve items that an association has, the more complicated it becomes to figure out the reserve fund portion of the budget. Reserves are estimated to make up between 15-40% of the association’s budget. Some states, as well as FHA, require that reserves make up at least 10% of the yearly budget. Obviously, associations without many amenities will have reserves make up a smaller portion of their budget, while associations with many amenities will have reserves make up a larger portion of their budget.
Plan a Path Forward
A reserve study will also help an association get organized with respect to its reserve items. All reserve studies will have the remaining life, useful life when new, and the current cost of each item. Most reserve studies also show a year-by-year expense item schedule, which can be a very useful budgeting tool.
A reserve study should be kept in the important documents section of an association’s records. A reserve study can be useful retrospectively to see how items have aged compared to the estimates in the report. With proper maintenance, reserve items can outlive their expected life. Conversely, with poor or no maintenance, reserve items will not make it to their expected life. Keeping good records of exactly how long a reserve items lasts will help the association know what to expect the next time it replaces an item.
Establish a Detailed Funding Schedule of Assets
The bigger picture of a reserve study is to establish a funding schedule where all members pay their fair share to make the necessary repairs and replacements to its assets. A reserve study should really zero in on the construction costs and life expectancies of the items. Conversely, it is not really fair when associations just use a special assessment when a typical item needs to be replaced. An example might be when a roof is being replaced. If the roof lasts 20 years and a new resident just moved in, then he/she is stuck with a whole share of expenses, when the prior resident may have lived there for 19+ years and not had to contribute anything. These are the situations you want to avoid. That is why a proper reserve study is essential, so that everyone contributes monthly (or at least yearly) over a long duration.