What is a good amount of condo reserves? How do I know if my condo building has enough cash reserves?
Q: How does your rule of thumb for condo reserves factor in the condo building’s location?
For example, the exact same building on Miami Beach and Fort Pierce would have the same reserve items and costs to replace. But the condo units on Miami Beach average $1,500,000, while those in Fort Pierce average $200,000.
Is there a difference? And, what is a good amount of condo reserves for a building to have?
Condo reserves: Separate property value from cost to repair and maintain the property
A: We wish there was an official rule of thumb for how much cash condominiums should have in their reserves. Unfortunately, there is nothing official right now.
That doesn’t mean condo buyers (and owners) can’t make an educated guess as to how much should be available. When evaluating cash reserves, separate what a local real estate market says about how much the property is worth and the actual cost to repair specific items. These are two separate issues.
Expensive properties may cost slightly more to maintain but not a lot more
For example, if you have two 10-story buildings of a similar age that have been taken care of reasonably well, it should cost about the same to repair the mechanics or components of the elevators, no matter whether the units in the property cost $250,000 or $2.5 million.
The same principle applies to replacing roof shingles. A single family house in Boise, ID is worth twice what it was 10 years ago, but replacing the same size roof using the same shingles shouldn’t cost twice as much as in a less expensive suburb.
Condo Reserves: Why some properties need more
There are several reasons why some condo buildings may keep more in cash reserves:
- Cost of labor. Someone working on elevators in New York City may charge a higher hourly rate than someone doing the same work in Houston or South Florida. So, repairing or replacing an elevator’s mechanicals might cost more (perhaps even a lot more) in a high cost city. The difference in the cost of labor can echo through a variety of issues, from repairing and replacing flooring to plumbing and even pest control issues.
- High end finishes. There may also be higher costs in an expensive building that has more amenities or high-end finishes than a building with less expensive homes. If a marble floor is damaged, it might cost more to replace a broken piece than repairing or replacing a less costly flooring material, like carpet.
How does this translate into condo assessments and cash reserves?
If the property was designed and built to offer the amenities, look and feel of an expensive community, and has a number of employees (door people, maintenance engineers, building manager), the assessments owners pay will be higher than in a building without personnel or amenities.
But regular assessments also need to cover building insurance, cleaning crews, groundskeepers, utilities, water, garbage and regular servicing of mechanicals and heating and cooling equipment. And, they need to cover irregular costs, some of which may occur annually: window washing, painting, tuckpointing, elevator repair, and pest control. That’s where cash reserves come into play. You don’t want to have a special assessment every time the elevator goes out.
Condo assessments should cover daily costs of running the property. Condo reserves cover irregular repairs
Assessments are designed to cover the costs of running the property every day. Condo reserves are designed to cover costs that are truly irregular: replacing windows, common area redecoration, or roof replacements, etc. Assessing these irregular costs has little to do with how much money sellers are getting for their homes. Instead, they have everything to do with age and condition of the property.
Condo buildings in Miami that are 40+ years old, will likely face similar issues of wear and tear. The costs to make necessary repairs will vary due to the building’s location, condition and how well they’ve been maintained through the years.
Many aging condos don’t have enough cash reserves
Clearly, some aging condo buildings don’t have enough cash reserves to do the work that’s necessary to keep these properties in excellent condition. Perhaps most. These building’s associations should consider any and all options available to pay for urgently need repairs.
Given these factors, you might expect to see the same amount in reserves for the two buildings you mentioned. Especially when the buildings are identical and in the same condition. And, in an ideal world, that might be true. But the point we’re making is that buyers should be on the lookout for buildings that have little or no cash reserves. Bid with caution. Determining the correct reserve amount for a specific property is hard absent a lot of experience and information that wouldn’t be readily available to an average buyer.
Use this Formula to calculate a “good enough” amount of condo reserves
But you should still try to figure out what is a “good enough” number. To get there, you might want to start with the purchase price. Then, ask to see what percentage ownership that unit has in the association. Calculate how much of the reserves are allocated to that unit. You’ll be able to see whether the cash reserves are miniscule compared to your purchase price or if there is enough allocated to cover the irregular, if not extraordinary, repairs.
Let’s say you use this formula and calculate the cash reserves allocated to the unit you want are $1,000. To us, that number would be low in all circumstances other than a newly built condominium building that is still under warranty.
Given the complexity of the issue, our suggestion is to think about the value of the condominium. Take a percentage of that value, say one percent or more, to come up with an amount for what you’d want to see in condo reserves.
5 steps to understanding if your condo has enough cash reserves
Today, calculating whether condo reserves are enough to cover most property needs over the next five years is art, not science. Instead:
- Think carefully about the building’s physical and financial condition. Tour the property and scrutinize the condition
- Ask questions: of the condo board and building management
- Read the building minutes
- Evaluate existing cash reserves in light of planned repairs and maintenance issues
- And, then ask yourself what those reserves mean with respect to the condo you want to buy
Every buyer of a home understands that they must foot the bill for all expenses going forward. Condo buyers should think about it the same way. Then, they won’t be surprised when they get a special assessment. But many buyers automatically assume that condominium buildings are managed in a way that will avoid special assessments. Sadly, that’s not always the case.
Read more about condo reserves:
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