Questions from readers
Q: I’m hoping you can help us. We have 12 privately owned condos where I reside – Lakewood, Calif. – and we are in need of financial assistance for painting, exterminating termites, etc. We don’t have enough monies in our reserves, and I’m wondering if you have ever heard of homeowners’ association’s having credit cards for such use. Please let me know if you can assist us with some type of information on obtaining funds/loans for much-needed repairs.
No, traditionally banks do not offer credit cards for homeowners’ associations because this funding option does not deal with the real financial problem facing the community. A credit card only increases the debt of the association; it fails to create a budget schedule to repay the money, and it does not provide a method of monitoring fund usage in accordance with an association’s organizational documents. However, there are financing options that function like a credit card and are a better choice for these communities.
For associations like this California condominium, a line of credit (LOC) is a great solution to meet its financial needs. This option allows them to borrow funds and, similar to a credit card, pay only interest on the borrowed money, not the entire credit line. The utilized funds can be prepaid with no penalty on terms that generally carry for up to five years. By drawing only the money needed, they would be able to make the necessary capital improvements without using reserve funds.
As any association can attest, capital improvement projects are challenging and often costly undertakings. Since the financial security of an association is always paramount, an examination of different funding options – special assessments of unit owners, using reserve funds or financing the projects through external sources – helps determine the best payment approach.
The first option, special assessments, is difficult in the current credit market. Individual home equity loans or LOCs are often used by homeowners to offset special assessments. However, this type of individual borrowing is tougher to arrange and could create problems for residents. Since large assessments create tremendous financial burdens on individual homeowners, associations often try to avoid this option.
The second choice is using reserve funds. However, like this California condominium, many do not have the money to cover the cost of projects. Even for associations with substantial reserve funds, most will vote on saving these funds for unforeseeable repair needs rather than planned undertakings.
The third choice, funding the capital improvements through a bank loan, is often the most popular, as it allows the association to finance the project without huge assessments or depleting reserves. Countless associations across the country are benefiting from borrowing funds for these projects, as it offers flexibility and stable interest rates, so monthly payments are affordable. In addition, communities are able to select a long-term fixed or shorter-term variable rate loan to coordinate with the length of the project and needs of the association. Another important distinction is these loans are self-amortizing, meaning the “balloon risk” typically associated with adjustable rate mortgage (ARM) loans to individuals prevalent in today’s market are not an issue when associations borrow funds.
For many associations, the ideal financial package will utilize a term loan, an LOC or combination of the two. Unlike the LOC, term loans provide access to the entire borrowed amount from the moment the financing is approved and have either fixed- or variable-interest rates. One benefit of a term loan is it allows the association to make all repairs and improvements right away, while repaying the loan over an extended period of time. For some communities, the ability to spread the payments over a multi-year period, rather than one lump sum, is the most advantageous approach.
While term loans and LOCs are both popular options, most organizations utilize a combination of the two for the best financing package. Generally with this approach, during the first year an association pays interest only on the funds drawn down, and at the end of those 12 months the balance of the LOC is converted to the permanent term loan. Key advantages of this tailored financing package are that funds are immediately available to pay for projects and the association is able to draw the exact amount necessary to complete the proposed projects.
Even in today’s market, the ability to borrow funds for capital improvements is still a readily available and popular option. The majority of banks does not view this type of lending as high-risk and continue to follow the underwriting guidelines that were established many years ago with the onset of lending to community associations, such as good collection history, board and membership support and the ability of the association to pay the monthly debt service of the loan.
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Author : Karyn Mann
Company : NCB
Karyn Mann is the vice president and Director of Community Association Loan Program at NCB.
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