Written by Spectrum AM
Keeping the association in good financial standing is one of the most important duties of an HOA board. Poor HOA financial management can have lasting consequences, so it’s crucial for board members to understand the basics of association finance. In doing so, they will know how to properly manage community funds and ensure the continued success of their community.
Terminology – The Basics
A good understanding of the following commonly-used financial terms can go a long way in improving communication between board members while working together to manage association finances.
Accounts Payable – Payments the HOA owes to vendors or other expenses
Accounts Receivable – Payments owed to the HOA, including fees and assessments.
Financial Statements – All official records detailing HOA economic activities
Audit – Regularly conducted comprehensive review of HOA financials
Assets – Anything the HOA owns, including buildings, furniture, equipment, as well as funds in the HOA’s bank accounts and all of its investments, such as the checking/operating account, reserve account, and any investments such as certificates of deposit
Liabilities – Anything the HOA owes, including loans, prepaid assessments, unearned revenue, or other outstanding expenses
Balance Sheet – Statements listing the liabilities, assets, and equity of the HOA
Equity – The monetary value of the HOA, often represented on the balance sheet as retained earnings or losses, or as a current year income or loss
An annual budget is formulated through standard costing. To do this, a unit cost is multiplied by estimates for the coming year to calculate the total estimated costs of labors and services. Budgeting makes it possible to determine which costs are reasonable and which are not,.
Ultimately, a budget provides critical guide for the HOA board in making decisions and policies for the upcoming year. Budgets are based on reserve studies and planned community projects and will vary from year to year. “Budgeted versus actual” or “standard versus actual” costs compare budgeted costs and the amount of recorded costs.
Used as a baseline to determine owner assessments and plan for needed upgrades, repairs, and activities, a budget allows the board to more closely control its finances. Furthermore, budgets help the board most effectively maintain the HOA while offering the best quality of living for its members.
An HOA reserve study gives a detailed analysis of the condition of the association’s capital components, such as swimming pools, foundations and siding, air-conditioning, elevators, and roofs. The reserve study is used to calculate the strength of the reserve fund (essentially a “rainy day” fund) and predict how much it will cost to replace those components down the road. Reserve studies should be conducted every few years to ensure that the reserve fund is able to completely pay replacement costs and to avoid imposing owner assessment increases.
Fidelity bonds are insurance policies put into place to provide the HOA with protection from fraud and theft by the people handling the association’s money, including board members and HOA employees. The coverage should also extend to the management company.
Federal guidelines require that associations carry this coverage in order for properties to be purchased using Fannie Mae- or FHA-backed mortgages.
In order to meet FHA standards, HOA fidelity bonds should cover at least three months of assessments in addition to, the HOA’s reserve funds.
An HOA has positive equity if it has more savings, funds, and cash that it may collect than it has money owed. On the other hand, if the association owes more money than it has and can collect, it has negative equity. Ideally, the board should never spend more than it is receiving, and the balance sheet should always reflect positive equity. In the case of negative equity, the board may need to consider increasing owner assessments or readjusting the HOA budget to avoid depleting its reserves.
HOA Accounting Best Practices
Know the Law – Board members should familiarize themselves with their state laws in regards to managing association finances. Rules and regulations differ by state, so this knowledge will save time and may protect the board from potential legal issues.
Prevent Fraud – Precautions should be taken to protect association finances and avoid fraudulent activity. One single person should not have control over every financial department; for example, the person handling receivables should differ from the one in charge of writing checks.
Be Specific – Although it may seem tedious, it’s important to be as specific as possible when tracking accounts and expenses. Use specific categories for each account and use the same labels consistently year after year to avoid confusion.
Managing HOA finances is a responsibility that should never be taken lightly. It takes time, effort, and some trial and error to master. Understanding the basics of HOA financial management and accounting is the first step in helping the board to make sound decisions, improve the bottom line, and gain trust and confidence from homeowners.
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The post Your Guide to HOA Finance, Accounting, and Budgeting first appeared on Spectrum Association Management .