The ins and outs of HOA reserve fund accounting

If you talk to an association and ask them about their HOA reserve fund accounting, you may hear some pretty unfortunate stories that happened before you arrived; reserve funds that were too low to cover repairs, treasurers who were spending reserve money to cover other bills, or HOAs with no reserve fund at all.

A healthy reserve fund that’s handled properly is an essential component of a well-run HOA or community association. It gives residents peace of mind that larger maintenance projects and emergency repairs are covered, and it prevents an HOA from falling into the red.

And in an unpredictable economy, it ensures that an association can operate and keep its properties safe for its residents.

We know that reserve fund accounting shouldn’t be taken lightly. How do you, then, set up set up and keep track of an HOA reserve fund?

In this article, we’ll explore all the ins and outs of HOA reserve funds and reserve fund accounting practices for community association managers.

What Is an HOA Reserve Fund?

If you’re just starting off as a community association manager (CAM), a reserve fund is a savings or other account where an HOA keeps a predetermined amount of money to cover the cost of non-routine repairs. Reserve funds are managed by a board of directors for the HOA, as part of their duty to keep properties up to the expectations and contractual agreements in place with its residents.

What Can HOA Reserve Funds Be Used For?

An HOA reserve fund can be used for any repair or upgrade that isn’t done regularly, from fixing a crack in the side of a pool to replacing an old water heater. The repairs can be expected or a surprise.

Let’s say, for example, a passing storm knocks a sizable tree onto the roof of an apartment building. The HOA can dip into the reserve fund to remove the tree and repair the roof. They can also use the reserve fund for anticipated repairs, such as re-shingling an older roof.

What’s important is that HOAs keep enough money in the reserve fund and use it for nothing but non-routine repairs.

What’s the Difference Between HOA Reserve Fund Accounting and an Operating Fund?

HOAs also maintain an operating fund, which is used to pay for day-to-day expenses. When a resident pays their monthly HOA fee, a portion of it goes to the operating fund, while another portion (probably smaller) should go to the reserve fund.

Operating and reserve funds are kept in two separate accounts.

How Much Money Should Be in an HOA Reserve Fund?

HOA reserve fund amounts vary by property size and assets. The ideal funding level is 70-100% of projected needs.

Common funding approaches include:

• Fully funded: 70-100% of reserve study recommendations
• Partially funded: Lower reserves to keep fees down
• Repair vs. replace: Budget for repairs rather than full replacements
• Minimum requirements: FHA/Freddie Mac/Fannie Mae properties need only 10% funded

What Is a Special Assessment?

When there isn’t enough money in a reserve fund, an HOA has to conduct a special assessment. An HOA’s governing board will assess the cost of a needed repair or replacement and then divvy that cost up among residents. Some HOAs require all residents to pay an equal share, while others base the portion a resident pays on the square footage of their unit.

When and how the HOA can call for a special assessment should be laid out in its governing laws. For example, the association may need to vote on whether a special assessment should be levied beforehand.

How Do You Determine Fees for HOA Reserve Funds?

Collecting money for reserve funds should be built into the fee structure for residents of the HOA. In other words, the monthly fee that’s charged to residents should include enough money for regular maintenance and services, as well as some money to set aside for the reserve fund.

To determine how much money they need for reserve funds and, therefore, what to build into the fees, HOAs must conduct a reserve fund study.

What Is a Reserve Fund Study?

If an HOA is creating a reserve fund for the first time, or if they’re reassessing an existing one, they conduct a reserve fund study to determine how much money they should put away.

How Do You Conduct a Reserve Fund Study?

A reserve study involves hiring professionals to assess your property and project future repair needs. The study process includes:

• Property inspection: Evaluate current condition of major components
• Lifecycle analysis: Determine when items need replacement
• Cost projections: Calculate funding requirements
• Financial planning: Set contribution amounts and investment strategy

Studies should be updated every 2-3 years. FHA/Freddie Mac/Fannie Mae properties require updates every two years.

HOA Reserve Fund Accounting

HOA reserve funds must be held in a separate account from operating funds and other amounts the association collects. This is called “fund balance accounting”. It allows an HOA to manage and allocate funds for specific uses and keep clear records of where every dollar goes.

Fund balance accounting for HOA reserves is very important for two reasons. First, if reserve money is not in a separate account, the IRS can look at it as taxable income to the HOA. Second, it’s absolutely essential to keep track of what comes in and goes out of the HOA. Residents want to know where their money is. And, should the HOA be audited, the treasurer will have to account for every dollar the HOA has earned and spent.

HOAs use three main accounting methods:

• Cash accounting: Records transactions when money moves
• Accrual accounting: Records transactions when earned or owed
• Modified accrual: Combines both methods

#1: Cash Accounting

In a cash accounting situation, income and expenses are only recorded when the money actually shows up in or has left the bank account. This is a pretty straightforward way to keep records, but it doesn’t account for pending funds from uncashed checks or missing resident fees, for example.

Particularly with expenses, you should account for pending transactions so that you don’t overspend.

#2: Accrual Accounting

Accrual Accounting does account for pending income and expenses. In each situation, a third column, called the cash column, is added to the balance sheet. HOAs record money due in the first column and money owed in the second. When the money actually lands in the HOA’s bank account or is paid by the HOA, the entry shifts to the cash column to reflect the true account balance.

This method gives an HOA a more complete picture of their finances.

#3: Modified Accrual Accounting

This method takes a little bit from both the cash and accrual accounting methods. For money earned, an HOA would use the accrual method, recording money when it is due to the association and shifting it to the cash column when cash is received. When money is owed by the HOA, expenses are only recorded when the money is actually paid, like the cash accounting method.

Whatever an HOA chooses, the goal should be to keep clear, accurate accounting records of every transaction. Of course, there are software services that can help HOA’s keep the books, and ensure all income and expenses are accounted for.

Can Reserve Fund Money Be Invested?

The short answer to that question is yes. An HOA can invest at least some of the money for a reserve fund, as long as there is enough money available for immediate needs.

Let’s say an HOA’s reserve fund study comes back with two recommendations. The first is to repaint the exterior in the next five years. The second is to replace the furnace in 10 years. You won’t need that money right away, so you can invest in bonds or mutual funds, for example.

Just make sure you have enough money set aside in a regular savings account; money you can access immediately to cover emergency expenses.

HOA Reserve Funds and State Regulations

When an HOA creates, modifies, or spends money from a reserve fund, they must follow their state’s regulations for those funds.

Every state has different regulations for reserve funds and reserve studies.

For example, California has very specific rules for reserve funds to combat fund abuse. An HOA must complete a reserve study every three years, have a plan in place for repairs and replacements, and report every year whether or not the reserve fund can meet the HOA’s needs for the next 30 years.

In addition, California allows HOAs to borrow against their reserve fund to help shore up their income. The only catch is they must pay back what they borrowed within a year.

Before an HOA does anything with a reserve fund, they should look up the regulations for their state.

Every business, family, and individual should have a rainy-day fund to take care of larger projects and unforeseen fixes. The same holds true for HOAs. If its reserve fund is too low, or doesn’t exist at all, those unforeseen expenses fall onto residents, and could set them back thousands of dollars.

An HOA, following your guidance, should set up a healthy reserve fund and put into place tried-and-true HOA reserve fund accounting practices to keep both residents and their properties in the black—and allow you to deliver on what you were hired to do.

Managing Your HOA Reserve Fund Effectively

Properly managing an HOA reserve fund protects the association’s financial health and gives residents peace of mind. By conducting regular reserve studies, maintaining separate accounts, and following state regulations, you build a strong foundation for the community’s future.

Key Takeaways

• HOA reserve funds are dedicated savings accounts that cover major repairs and replacements like roofing, HVAC systems, and emergency expenses that exceed normal operating costs.
• Reserve funds require separate accounting from operating funds to avoid IRS taxation and maintain clear financial records, with three accounting methods available: cash, accrual, and modified accrual.
• Optimal reserve funding ranges from 70-100% of projected needs based on professional reserve studies that assess property condition and project future repair costs every 2-3 years.
• Reserve funds can be invested in low-risk options like bonds or CDs for long-term needs, while maintaining immediate access to cash for emergency repairs and compliance with state-specific regulations.

The right software can make tracking these details much easier, helping you keep accurate records and communicate clearly with the board. If you’re looking for a tool to help manage your association’s finances, you can try out Buildium with a 14-day, free trial or guided demo.

Frequently Asked Questions About HOA Reserve Funds

What is the rule of thumb for HOA reserves?

HOA reserves should be 70-100% funded, with 15-40% of annual budget allocated to reserves.

How much money should be in a reserve fund?

A general guideline is $2,000 per unit, but the exact amount requires a reserve study based on property age and condition.

Can HOA reserve funds be invested?

Yes, but prioritize safety and liquidity with low-risk options like CDs or interest-bearing accounts.

What are the tax implications of a reserve fund?

Reserve funds are typically not taxed as income to the HOA, as long as they are properly segregated and used for their intended purpose of major repairs and replacements. However, any interest earned on these funds may be taxable. It’s always best to consult a tax professional for specific advice.