Reserve Loans
I am on a board and we needed to borrow $20,000 from our Reserves bank account to make Operating expenses. Our community manager said this can be done and should be considered a loan. They said it happens all the time and we do not have to pay it back because all of our accounts are Association money.
1. We made this DECISION to borrow from Reserves to pay Operating expenses OUTSIDE of an Open Meeting. We now have a homeowner questioning why it was done without homeowner input. Did we need that?
2. They are also questioning the ‘loan’ aspect of the dollar move. Since the HOA is a corporation, should there be some kind of loan repayment plan in place? If so, we were thinking it could be interest-free, with an unlimited term loan. Will this flag anything for the auditors or the tax agencies and therefore expose the HOA to avoidable and unnecessary risk?
Thank you.
About Post Author
2 Responses
Leave a Reply
You must be logged in to post a comment.
Katkendall11,
Borrowing money from your reserve account to pay operating expenses without paying that money back in the next fiscal year would be a breach of your fiduciary duty to the association. You took money from the homeowner to pay for future long-term maintenance on your capital assets and as such those monies can only be legitimately used for that purpose. Because you failed to properly develop an operating budget does not give you any freedom to ignore that fiscal duty. Depending how exactly you organization is classified under IRS code could also cause you significant tax issues and consequences if you co-mingle operating and reserve accounts.
If you have a shortfall in your operating budget, you can do two things legitimately. Establish a supplemental assessment that will raise the necessary funds to satisfy your shortfall based on unexpected operating expenses. This simply changes the monthly assessment for the rest of the year for all homeowners. Other than the restriction in your declaration on increases in annual assessments or in state law for that subject than you can do this without homeowner approval. The second thing that you can do is borrow from your reserve account this year and pay it back next year by adjusting your assessment next year to pay of that short term loan.
All of this is simple common sense and if your community manager actually had any, and any rudimentary knowledge of the state and tax law, you could have gotten that advice from them which is what you pay them for. I’ll gladly provide you the true answer to any question relative to your community free of charge.
One last point you actually had no authority to discuss and take this action in a closed board meeting and in doing so directly violated the open meeting laws for these communities. The law is clear you can discuss only five topics in closed sessions and can never take any action in any closed session. Closed sessions are allowed to enable the board to “consider” confidential subject matter but all actions by the board must be taken in open session and allow homeowner comment prior to a vote by the board. The law is also very clear in the policy statement that established that if the board has any doubt about whether an issue can be addressed in open or executive session you as a board, and the community manager must address that issue in open session.
This statute is in place to ensure transparency in the business of the community and is the only way to ensure trust in the board and to ensure that the board is working in the best interest of the community as a whole. No matter what you do someone won’t like it, but that is simple human nature. Your job is not to make everyone happy but rather to act in the best interest of the community as a whole. To do that you need to be able to get some input from engaged homeowners and hear both sides of the matter than make your decision from there. This builds better and stronger communities with less adversarial issue and more harmony.
Ignoring the transparency of the open meeting laws just build a lack of trust in the board and a dysfunctional community.
Dennis
The IRS tax issue depends on how exactly you are classified by the IRS. common interest communities can be classified as either 501(c)4 or 7 organizations and are tax exempt but still must file a form 990. This classification is very rare and any organization that was fortunate enough to get this classification on initial application needs to ensure that they still qualify periodically. If audited and the IRS discovers that you no longer qualify you could face significant tax consequences and penalties for the last three years of returns. The Majority of these communities are classified under Section 528 of the tax code where they are not classified as tax exempt, but a significant amount of their income is exempt from taxation while other portions of income are not. Under that code these communities have the annual option to file their return using form 1120 or 1120H that classifies their income differently and applies different tax rates to non-exempt income. This is very complicated, and I would venture to bet that most if not all associations have no clue of the tax implications and are doing this wrong.
Dennis