Reserve Funds and Reserve Fund Studies
What Causes a Special Assessment?
From the Volume 34 issue of the CCI Eastern Ontario Condo Contact Magazine
Condominium corporations have mandatory longterm planning. Why, then, are there so many special assessments?
Condominium corporations in Ontario are legally obligated to contribute to reserve funds for major repairs and replacements of their common elements and assets. Furthermore, condominium corporations are required to hire experts – reserve fund analysts – who prepare predictions about long-term major repairs and replacements (at least every three years). These predictions, which include assumptions about inflation and interest and provide recommended contributions to the reserve fund, are “reserve fund studies”. As noted in Section 94 of the Condominium Act, a condominium corporation that receives a reserve fund study is then required to prepare and implement a “plan for the future funding of the reserve fund that the board determines will ensure that, within a prescribed period of time and in accordance with the prescribed requirements, the fund will be adequate for the purpose for which it was established”.
A condominium corporation’s reserve fund plan does not have to be identical to the corporation’s latest reserve fund study, but the study and plan are usually identical. The reason is that condominium corporations and Boards are generally protected from liability if they follow expert advice (such as a reserve fund study). Furthermore, the expert’s advice is usually the best available evidence of the required contributions.
So again, if condominium corporations are all doing this long-term planning, why are there so many special assessments?
In my view, there are two basic reasons:
- Reserve fund studies and plans are only predictions, based upon the available evidence at the time. Actual circumstances often do not turn out as predicted.
- Reserve fund studies and plans only cover major repairs and replacements which are predicted to occur over the reserve fund study period. Some expenses are not covered by these predictions.
Here are some examples:
ACTUAL COSTS HIGHER THAN PREDICTED
In many cases, the actual costs for a particular project turn out to be higher than predicted.
ACTUAL COSTS INCURRED SOONER THAN PREDICTED
Sometimes, the common elements or assets may not last as long as predicted. In other words, some features may require repair or replacement sooner than predicted in the study and the plan.
REPAIRS OR REPLACEMENTS NOT PREDICTED
Some repairs or replacements may not have been predicted at all. This would apply, for instance, if a roof has a hidden defect (not detected during the reserve fund study) and the roof subsequently requires unexpected replacement.
UNEXPECTED OPERATING COSTS
Operating costs are of course not covered by the reserve fund (because they are not major repairs or replacements). [NOTE: In my view, if something repeats annually (or is part of a group of expenses that repeat annually), in most cases that expense is an operating cost which should be covered by the annual budget. As a general statement, the reserve fund is for repairs or replacements that repeat less often than annually.] If operating costs exceed predictions in the operating budget, this can of course trigger a special assessment.
REPAIRS OR REPLACEMENTS OUTSIDE OF THE STUDY PERIOD
Some repairs or replacements may not have been predicted in previous studies or plans, because they were outside the study period. Then, when those repairs or replacements “come into a subsequent study period”, this may well “knock the reserve fund off track”.
HIGHER THAN PREDICTED INFLATION
If the actual inflation rate turns out to be significantly higher than the assumed inflation rate (for common element repairs and replacements), then the actual costs can exceed the predictions.
LOWER THAN PREDICTED INTEREST
If the actual interest rate turns out to be significantly lower than the assumed interest rate (for reserve fund investments), then the actual amounts in the fund may be lower than predicted.
As a general statement, upgrades or additions do not qualify as “major repairs or replacements” and may also require owner involvement under Section 97 of the Condominium Act. This is something to be considered on a case-by-case basis. [An upgrade or addition that is necessary in order to properly maintain or repair the common elements or assets may well qualify as a proper reserve fund expenditure. But again, this is something to be carefully considered on a case-bycase basis (perhaps with the assistance of experts like the corporation’s engineer and/or legal counsel).] Anyway, the key point is as follows: If a condominium corporation is considering upgrades or additions, they might not be predicted by the reserve fund study and plan. If they are not predicted, they could result in a special assessment (or annual increase).
Any of these “unpredicted” expenses could of course trigger a special assessment or an increase in the annual common expenses (such as an increase in the annual reserve fund contributions).
SOME GENERAL COMMENTS
In my view, the key point is that reserve fund studies and plans are only “best effort predictions” for some – often not all – of a condominium corporation’s future expenses.
Actual expenses can often exceed, or fall outside of, the predictions. If the actual expenses exceed the predictions (and therefore the condominium corporation’s financial planning), an increase or special assessment may be necessary.
If you have any genuine reason to suspect that your actual upcoming expenses may exceed, or fall outside of, the predictions in your reserve fund study / plan, I caution as follows:
- Remember that your reserve fund plan works “hand-in-hand” with your status certificates. A key purpose of reserve fund studies and plans is to help condominium corporations with their status certificates (particularly Paragraph 12). As long as you don’t have any reason to suspect that actual expenses may significantly exceed your predictions (and could therefore result in an increase or special assessment), Paragraph 12 of the status certificates can likely say that the “corporation has no knowledge of any circumstances that may result in an increase in the common expenses for the unit”. But as soon as there is any genuine reason to suspect that actual expenses could exceed the predictions, you very likely need to include a “warning” in Paragraph 12.
- In some cases (if you feel that your reserve fund planning is significantly “off track”), you might also wish to consider arranging for an early next reserve fund study (earlier than the normal threeyear deadline) because this may be the best way for you to make any required adjustments to your reserve fund planning (by way of lump sum contribution or increase in annual contributions), in order to “come back on track”, and hopefully clear out Paragraph 12 of the status certificates.
In summary, the reserve fund study and plan are living documents that try to predict upcoming costs to allow condominiums to be prepared for the eventual repair and replacement of the common elements and assets of the Corporation. Condominiums do the best they can to prepare for the future, but occasionally, special assessments happen. In those circumstances, condominiums need to remember its status certificates.
James Davidson is one of the founding partners of Davidson Houle Allen LLP. Jim has been practicing condominium law for over 35 years. He represents condominium corporations, their directors, owners, and insurers throughout Eastern Ontario. His experience also includes building deficiencies, shared property interests, coownership and construction law. Jim is proud to be an associate (ACCI) and also a fellow (FCCI) of the Canadian Condominium Institute.
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