Things fall apart. While in an ideal world, residential associations will have adequate reserves set aside to pay for repair and replacement of big-ticket items for which they have responsibility—things like pavement projects, roof replacement, siding replacement, etc., the reality is that, for whatever reason, when the time comes to replace roads or roofs, communities often find reserves inadequate to pay for necessary repairs to or for replacement of those major items. When that happens, or when other avenues of financing outside of reserves are desirable, what are the options available to residential communities?
Generally there are two financing options to consider. And, depending on the type of project in the community that needs to be done, there could also be a third option.
I. Additional Assessments. The first and most conventional route is for the association to levy an additional assessment on the members to fund the needed work. An additional assessment does not usually require the approval of co-owners if the project involves repair or replacement of something that already exists in the community. While it is always best to give co-owners advance notice of anticipated projects and funding, an additional assessment is not “outside of the box.” An additional assessment can be levied quite quickly, and there are usually no significant transaction costs involved in levying the assessment. Downsides of funding major projects through additional assessments can be related to concern for financial strain on membership. There is often a tension between a need to get a project done as quickly as possible and the fact that getting a project done quickly can mean a very large assessment to the membership all at once to pay for it. While smaller additional assessment installments may make the assessment more affordable or palatable to members, it also usually means that the work/project itself must be completed in phases over a longer period, which often results in a smaller potential contractor pool, greater contract cost than if it were all done at once, longer periods of disruption for the community, and, potentially, a longer time for something to go “wrong”.
II. Loans. Another option for Association looking for major project financing is to secure a loan. One of the main advantages of getting a loan is that the Association can have all the money necessary to fund a project up front, but it can spread the cost of the project over an extended period—years if needed. Having all the money to pay for a project up front means that a contractor can be paid to complete roads or roofs or other major projects in one season, which minimizes disruption and potentially creates some contract cost savings. On the other hand, there are transactional costs and interest associated with doing a loan. Whether that makes a loan more expensive overall in the long term requires financial analysis. Also a loan usually requires membership approval and will likely require a certain amount of communication with and/or education of the membership. Therefore providing a loan as an option usually takes at least a few months of planning.
III. Special Assessment District (SAD). While it will certainly not work for all projects, if the community needs financing that involves such things as roads, sidewalks, or water systems (see, e.g., MCL 41.722 for a list of eligible improvements in a township), it could consider petitioning its municipality for the creation of a special assessment district whereby the cost of the project is defrayed through special property tax assessments in the district (which could be a residential community). While such processes do take time, are more complex, and governed by statute, one of the major pluses, if a SAD is approved, is that the entire project will be managed by the municipality rather than the Association, which alleviates stress and can provide peace of mind regarding quality control.
Dealing with major projects is one of the most important (and, unfortunately, stressful) things that residential communities have to do. While securing financing is crucial, it equally important to engage trusted contractors and to have Association counsel review proposed contracts in advance to maximize protection for the community in the event that something goes wrong. The attorneys at Tilchin & Hall, P.C. have extensive experience advising residential associations on all aspects of major project construction contracting and financing, including loans, and are available to assist your association in these matters! Please reach out to us at (248) 349-6203 or email us using the form below.
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