I asked our resident HOA expert to write a few words about HOA issues for today’s post. The author has served on the board of his large HOA for 16 years,
worked for one of the largest HOA management companies, and was also on
the Fountain Valley City Council for six years. Lately he’s been
working to expose the scandal behind the sale of the Orange County
Fairgrounds with this link. He’ll be responding to comments.
Irvine Home Address … 360 East YALE Loop 15 Irvine, CA 92614
Resale Home Price …… $608,000
{book2}
Do you remember the good old days before the ghost town?
We danced and sang as the music played in any boomtown
This town (town) is coming like a ghost town
Why must the youth fight against themselves?
Government leaving the youth on the shelf
This place (town) is coming like a ghost town
No job to be found in this country
Can’t go on no more
The people getting angry
Ghost Town — The Specials
High HOA fees can make a ghost town out of a good neighborhood. This cost is unique among our cost estimates because there is a high degree of uncertainty about the future of HOA fees — and worse yet, the possibility of assessments — that are not in a point-in-time analysis like the IHB Property Valuation Report.
Today is part 4 in the ongoing series on Ownership Cost:
Ownership Cost: Income, Payments and House Prices
Ownership Cost: Interest Rates and Downpayment Requirements
Ownership Cost: Property Taxes and Mello Roos
Ownership Cost: Homeowners Associations
Ownership Cost: Taxes and Opportunity Costs
Four Major Variables that Determine Market Price
Over the last three days we looked at the four main variables that determine home price:
- borrower income,
- allowable debt-to-income ratios,
- interest rates, and
- downpayment requirements.
Today we are looking at homeowners associations because this expense (1) reduces your payment to the lender, (2) reduces the
amount you can borrow and bid, and thereby (3) reduces the value of real
estate. People can persuasively argue that HOAs add more value than they cost, and I believe this is true, but that value is reflected in market comps. When you examine the details of cashflow, HOAs are a cost, nothing more.
The following is the words of our guest author OC Progressive.
Avoiding the toxic condo association
As the housing crisis continues, some condo associations can
be dominos lined up to fall.
This is not to say that you should avoid any
property with
a Homeowners Association, and in large swathes of Orange County,
it’s very hard to have a property that doesn’t have an HOA. As a best
example, let’s
look at my large scale HOA in Fountain Valley. This is a master
recreation association which
maintains 20 acres of parks, three pools, and some buildings in a forty
year
old neighborhood with 1,048 homes. The association runs a swim team,
picnics,
kids’ events at holidays, and doesn’t get involved in telling people
what color
to paint their homes. The city maintains the streets, street
lighting, sweeps the streets, writes parking tickets, and has code
enforcement officers to keep properties maintained.
Properties don’t turn over very quickly here, but we’re
still seeing the results of the borrowing binge. Our assessments over 90 days
past due have tripled in the last year, and the money we will write off as
uncollectible could be in the $10,000 range next year, versus less than $1,000
last year. It doesn’t make the directors happy, but our budget is over $750,000
a year, our capital reserves are fully funded at close to $500,000 and we have
operating funds in the bank of over 100,000.
So a ten-fold increase in uncollectible assessments is a
blip on our balance sheet. A couple more years like this and we might have to
raise assessments another dollar or two a quarter.
Los Condos Diablo
Let’s take the reverse of this scenario, with a condo
association somewhere in South
County we’ll call Los Condos
Diablo. It’s a 200 unit association where everything is a common asset – not just
the land, but the sidewalks, streets, street lights, the roofs and walls of
every building, the trash enclosures, stairways, patios and decks.
Builders threw the place up quickly and there have been
serious ongoing maintenance problems which have been handled with band-aid type
repairs. The board of directors has been very reluctant to raise assessments,
so the reserves are funded at around 20% . Emergency safety repairs, collapsing
stairways, remediating mold problems from roof leaks, and other expensive problems
keep preventing them from catching up on maintenance. Exterior second story
decks that should have had a new surface coating, new paint and gutters now needs to
be torn down and completely rebuilt.
So instead of being like my HOA, where we are current on all
of our maintenance and have $600 in the bank for each homeowner, Los Condos Diablo
has net deferred maintenance liabilities of $5,000 a unit, and is struggling to
pay their bills every month. Because so many structural elements have been
compromised, to bring this set of buildings to good condition would take over a
million in reconstruction, money they don’t have and can’t save or borrow.
And here’s the kicker for that condo association. They were
upside down on their maintenance before people started defaulting on their
loans, and people are defaulting like crazy. These were entry level condos, and
when prices started rising, lots of folks cashed out and moved up. Over half
the units turned over close to the peak, and probably two thirds of them are
underwater.
When someone loses a job or just gives up, they stop paying
their HOA fees. The HOA starts adding penalties, filing liens, sending notices,
and running up legal costs. Ultimately, some day, the bank forecloses and the
property changes hands. At that point all of the past due assessments get
written off. The bank is only responsible for paying from the date they assume title. Worst of
all, a management firm or collection firm might now be owed late fees and legal
fees that were assessed.
With assessments of $250 per month past due for 18 months, plus another $500 in fees the
condo association is out $5,000 that they need to collect somehow from the rest
of the owners. If ten percent of the 200 units go belly up, the remaining 180
owners each now has another $555.00 apiece in debt that they share with the
remaining owners.
Now let’s add another kicker. The Directors of the Condo
Association, volunteers who have stepped up out of civic duty, see all of this
coming and can see it getting worse and worse. Their neighbors rise up in anger
when they try to raise assessments, cursing and threatening recall. Instead of continuing to take abuse from their
neighbors, they resign or sell out and move on, leaving the community without a
board of directors. The management company tries to hold a new election, and
nobody volunteers. They send a letter to all the owners, resigning their
contract.
So the State Department of Real Estate ….. Oh wait, there
isn’t any agency with responsibility to pick up the slack for a failed condo
association. What happens next is anybody’s guess, but it will most likely
involve lawyers and the Superior Court, adding another layer of debt to each
owner.
So if you think you’re getting a bargain in a low-end bank
owned condo, you might in fact also be buying a big liability that you will
have to pay for somewhere down the line.
Never, ever make an offer on a condo without getting a copy
of the last year’s budget, and seeing the state mandated disclosure from the
reserve study. If you can’t get it, walk away. WALK AWAY, and if an agent tells
you it’s not important, he’s either a fool or a scoundrel.
Reserve Studies
A reserve study is a document that is updated every year as
required by state law. It’s fairly complex, yet also pretty simple.
We know
that woodwork on buildings needs to be painted every four years and stucco
every eight years. We know the pool needs re-plastering every twelve years. We
know that the life on the flat roof is around fifteen years, and that the
playground equipment should be replaced after every fifteen years. So an
analyst assigns a cost and a life to each major component of an association.
Then they figure out how much the association should be saving for each
component, and plug it all into a big spreadsheet. That shows how much should
be available every year for major maintenance and replacement items, and how
much the association should be setting aside so that money is available. The
idea is that the level of assessments remains very stable as long as the
association doesn’t have to pay for several major components all at once from their
monthly assessments.
There’s a big catch. The state requires that you do a study,
disclose the results, and have a plan if there’s a deficiency, but the
association doesn’t actually have to appropriate the money, and most fall
short.
So a smart buyer has to look at the summary of the reserve
study has to be mailed with the budget, and the calculation that is required by
state law.
Here’s what it looks like for a fully-funded reserve from my
own association.
Based on the method of calculation in paragraph (4) of subdivision (b) of Section 1365.2.5,
the estimated amount required in the
reserve fund at the end of the current year is 452,933 based in whole or in
part on the last reserve study or update prepared by Advance Reserve Solutions,
Inc. as of January 1,2008. The projected
reserve fund cash balance at the end of the current fiscal year is $433,225,
resulting in reserves being 96% funded at this date, The current deficiency in
the reserve fund represents $18.81 per ownership unit.
This is a source of pride. For every one of the 1048 units, there is $413.38
in funds dedicated to replace everything. That money is set aside in separate
accounts that can’t be used for operating expenses, and there’s an annual
contribution to maintain the counts at close to the ideal level.
Let’s say you have another association, where the
association hasn’t funded their reserves. That line might show reserves funded
at 50% and a deficiency in the reserve fund of $1153.41 per unit. Is that bad?
Not necessarily. But you better budget for your HOA assessments to increase by
20% per year, which is the maximum allowed by state law without a vote of the
members.
Although it’s improbable, even an association with reserves
funded at 10% might be financially solid if they have just completed re-roofing
every building and replacing every piece of deteriorating wood work.
Where does the red flag go up, where you should just steer
clear of a condo?
As a rule of thumb, less is more, but bigger is better. The
fewer parts of the individual units that are maintained by the association, the
less likely you are to face significant issues from underfunded reserves and
deferred maintenance. And also, the larger the association, the more likely you
are to have professional management, and the more units you have to divide
fixed annual costs like the corporation filing fees, d&o insurance policy,
cost of the reserve study, et cetera.
Before you start looking, find a real estate agent to represent you who
understands what you’re talking about, and knows that you’re going to need a
copy of the last budget before you make an offer. Just as there are HOA’s where
you’re actually getting a valuable share in cash assets as part of your
purchase, there are professionals out there who will help you gather the
information you need to make a good decision.
Then use some common sense and use your eyes.
Look at the numbers in the budget and the reserve study. How long would it take the association to
catch up on under-funded reserves? How
much is the deficit in relation to the value of the unit and the current
monthly payment? Underfunded reserves are frequently associated with
dysfunctional condo politics, deferred maintenance and serious rates of
delinquencies. Politics? Yes, some associations have repeated recall elections,
with warring factions wasting money on attorneys while their finances fail, or
they have idiots elected to their boards who are more interested in the
neighbor’s dogs than preserving and protecting assets.
So if the numbers don’t look good, they may in fact be far, far worse.
Also, look for signs of deferred maintenance – rust on
wrought iron fences, peeling paint and dry rot, missing roof tiles, cracks in
asphalt are the most obvious, but with a sharp eye you can look at the edges where
the decks meet stucco, where the eaves meet the roof and see if these most
vulnerable areas look as if they’re tightly sealed and well-maintained.
Whatever you do, steer clear of Los Condos Diablos, the nightmare association
where everything is going wrong. At its worst, it’s broke, internally at war,
and unable to find a way out of the hole that its owners have been excavating
for years. Every dollar you put into a part of a failing condo association is at
risk.
[end of quote]
HOA Analysis Service
The author of today’s post has been in contact with me via email for quite some time. He is contemplating offering HOA analysis as a service, and I told him it is a great idea. IMO, getting an HOA analysis is just as important as getting a home inspection.
Both HOA analysis and home inspection are insurance against unknown expenses you may face in the future if you acquire property. A cracked foundation can cost you tens of thousands of dollars — an underfunded HOA can cost you even more. Both are equally important.
Unfortunately, to my knowledge, nobody is providing HOA analysis as a service. The documents are hard to get (HOAs are not keen to display their dirty laundry), and the initial review is time consuming, but such a service would cost no more than a home inspection, and perhaps even less.
In a post-Great Housing Bubble era, we will see a financial wasteland on HOA balance sheets. Many have always been underfunded, but even strong HOAs will suffer when the payments stop coming. Most readers of the Irvine Housing Blog will buy in a community with an HOA. Without this service, it will be a crapshoot whether or not you find a stable and well-funded HOA.
If any readers care to comment on whether or not you consider this service to be valuable, perhaps we can convince the author to offer this service to everyone. I think it would be great.
{book2}
Irvine Home Address … 360 East YALE Loop 15 Irvine, CA 92614
Resale Home Price … $608,000
Income Requirement ……. $113,182
Downpayment Needed … $121,600
Home Purchase Price … $526,500
Home Purchase Date …. 6/24/2009
Net Gain (Loss) ………. $45,020
Percent Change ………. 15.5%
Annual Appreciation … 15.5%
Monthly Mortgage Payment … $2,641
Monthly Cash Outlays ………… $3,450
Monthly Cost of Ownership … $2,600
Redfin Property Details for 360 East YALE Loop 15 Irvine, CA 92614
Beds 3
Baths 1 full 2 part baths
Size 2,187 sq ft
($278 / sq ft)
Lot Size n/a
Year Built 1986
Days on Market 4
Listing Updated 10/20/2009
MLS Number S593399
Property Type Condominium, Residential
Community Woodbridge
Tract Ge
According to the listing agent, this listing is a bank owned (foreclosed) property.
Two story end unit with 3 bedrooms and 2.5 baths. Large Living Room with vaulted ceilings and fireplace. Formal Dining Room and breakfast nook plus Family Room with another fireplace! Master suite has separate tub and shower. Upstairs laundry. Mirrored wardrobe doors in all bedrooms. Large sideyard with lots of hardscape and a fireplace.
This property was a peak purchase with an Option ARM. The owners held out a bit longer than most because they had some of their own money in the deal.
The property was purchased on 10/18/2006 for $710,000. The owners used a $568,000 Option ARM with a 1% teaser rate, a $71,000 second mortgage, and a $71,000 downpayment. The gave up in late 2008…
Foreclosure Record
Recording Date: 05/28/2009
Document Type: Notice of Sale (aka Notice of Trustee’s Sale)
Document #: 2009000272123
Foreclosure Record
Recording Date: 02/26/2009
Document Type: Notice of Default
Document #: 2009000091143
The auction price is 26% below the original purchase price. The lender is trying to recoup a bit more with this asking price. Given the state of our market, they will probably get it.
I revisited my post on 
