March, 20 2018 Published by Toronto and Area Chapter - By Allan Bishop
Financial Transparency and Building Trust with Owners
From the Spring 2018 issue of the CCI Toronto Condovoice Magazine.
Each year, no later than six months following a fiscal year-end of a condominium, the Condominium Act, 1998 requires audited financial statements to be included in the notice of the annual general meeting sent to owners. At a minimum, these statements must include an auditors' report, a statement of financial position (balance sheet) at the fiscal year-end date and statements of operations, reserve fund and cash flows for that year. Notes are also included to support disclosures in the main statements and to cover certain requirements of the Act. Other than reserve fund study and insurance disclosures, these annual statements represent the primary reporting of the financial affairs that a board of directors is currently required to provide to condominium owners.
An important fundamental principle in financial reporting is timeliness. This principle states that for financial statements and reports to be useful and relevant they should be presented to users soon after the period to which the information relates. While fulfilling a statutory requirement, presentation of annual financial statements to condominium owners, perhaps up to a year or more after important financial transactions have occurred, does not likely achieve this principle.
Stewardship of financial affairs often ranks at the top of concerns expressed by condominium owners. "I don't know where my common element fees are going"; "what is my money being spent on?"; "the corporation must be running out of money, look at what this big project just cost"; "my common element fees just keep going up and I don't know why". These are just a few of the concerns and questions owners often express when timely and comprehensive financial reporting is lacking. These concerns can foster rumors which, as we know, can take on a life of their own.
In our society, trust is the foundation of how we interact with one another. We trust others to obey our laws. In a condominium community, we expect others to follow the rules and bylaws, respect our right to quiet enjoyment of our suites and we put trust in the board of directors to act and make decisions in the best interests of owners and residents. This trust is particularly applicable to how the board oversees the finances of the condominium. No law or legal framework can set out all of the requirements and related decisions that a board and management must consider to properly administer the affairs of the corporation. Each condominium is unique with a different set of challenges and circumstances to face. As owners, we are relying on the experience and judgement of those we elect and appoint for these roles to properly manage the affairs of the condominium corporation on our behalf. Financial management is a key component of this. Transparency is an important part of demonstrating to owners that their board and management are properly looking after the financial affairs of the corporation.
When owners start to worry about the financial health of their condominium corporation, often due to infrequent and/ or incomplete communication from the Board and management, trust begins to erode and concerns develop about how the affairs of the corporation are being administered. This is the fundamental case for financial transparency. This is not to suggest that it isn't important to communicate other events in the community's affairs, but that financial transparency is high on the list of communication priorities.
What is financial transparency and what is good communication of a condominium's financial affairs? The short answer is- it depends. The size, complexity and demographics of the owners of a condominium will have a lot to do with how much financial transparency is required. Financial transparency is the extent and frequency of communication of financial information to owners. Each of these factors will depend on the needs of owners for this information but the key point is that the requirements of the Ontario Condominium Act are just the minimum, and likely not enough. For some owners, the annual audited financial statements may be sufficient (or even too much). For many others, more frequent feedback is required to build trust. This feedback can be in the form of presentations at meetings of owners or in written reports. This latter method is the focus of the suggestions that follow.
As mentioned in the introduction above, audited financial statements are required by the Condominium Act as part of the information sent to owners at least fifteen days in advance of the annual general meeting. This meeting must be held no later than six months after the fiscal year-end of the corporation. As also mentioned above, this may not meet the needs of many owners for more timely feedback. What, then, is more timely feedback? Again, that depends on the needs of owners as determined by the board but the suggestion here is that at least semi-annual or preferably quarterly communication of financial results is desirable.
The annual audited financial statements for a condominium corporation must be presented in accordance with Canadian accounting standards for not-for-profit entities and must also include additional disclosures as specified in the Condominium Act. These statements can be extensive and complex likely requiring some minimum amount of financial knowledge to understand them. In our complex financial world, the presentation of financial information cannot likely be simplified for the needs of all readers.
Interim financial reporting (semi-annual or quarterly) presented to owners should provide sufficient information to convey an understanding of the corporation's results to date. To meet the timeliness test, this information should be available to owners within thirty to sixty days after the period end.
Communication of Interim Financial Information
"Our auditors prepare the annual financial statements and we do not have the expertise to do this. It will cost too much to have the auditors prepare this interim information." This is a legitimate concern that many boards will face. But, this is not a reason to shy away from better financial transparency.
What financial information, then, should be communicated for interim periods? Firstly, while auditors may, as a practical matter, prepare the annual statements, these statements are still the responsibility of management and the board. Secondly, to fulfill its fiduciary responsibility, the board should regularly review financial reports, usually prepared monthly by the management company. These reports, or a summary of them, could then be the basis of the communication to owners. At a minimum, this communication would usually include a statement of financial position (a balance sheet), a statement of operations and a statement for the reserve fund. To have reasonable accuracy and completeness, the board must ensure that all revenues and expenses that relate to the reporting period are included in these statements. The most extensive reporting would be preparation of a full set of statements, including cash flows, and notes that have a similar presentation to the annual audited statements. While this more extensive presentation may be useful to many owners, including the minimum suggested information will meet the needs of most others.
Another Trust Building Communication
In addition to annual and interim financial statements, a communication that builds further trust with owners is a report from the board providing a short summary of key highlights from the period covered (annual or interim) by the financial statements or it could be a detailed review of the significant components, changes and transactions in each of the statements. This report can be particularly helpful in explaining major variations from budgets and the previous year's actual results. Such a report demonstrates to the owners that the board understands the finances of the corporation and is actively managing these affairs to achieve desired outcomes.
Another possible feature of this report is projecting results to the end of the year for operations and the reserve fund. This informs owners as early as possible if budgets are likely to be achieved or not and, if necessary, the steps the board is taking to hopefully get back on track. Looking into the future is full of challenges so it is important to have a statement right at the beginning of a section communicating projections that warns the reader that predictions of events and outcomes could be very different in both timing and amounts from what will actually happen.
Some Final Thoughts
Financial transparency through reporting to owners is not the only key to building trust. Prudent budgeting and effective controls over operations with an appropriate level of common element fees with predictable and reasonable increases are likely more important factors. This is a topic for another time.
Financial transparency can contribute to trust building. While it may not work with every owner, as we know that pleasing everyone is impossible, increased communication can meet the needs of most for information about finances.
Finally, perhaps the most important reason for greater financial transparency is the preparation itself. As teachers know, to present a lecture requires thorough knowledge of the topic. Preparing communications for financial reporting, whether in a written report or in an oral presentation, requires a thorough understanding of the financial affairs of the condominium. This perhaps is the real value of financial transparency.
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