Associations across the country are aging. Maturing HOAs are sparking booms in expensive deferred maintenance projects. Sadly, many of these associations do not have adequate reserves to fund the work. Years of poor financial planning have left boards in precarious situations. Fortunately, there is a solution. With more frequency, HOA boards are turning to HOA loans for salvation. These financing solutions are gaining in popularity nationwide. Fortunately, current interest rate conditions make HOA loans more attractive.

HOA loans are nothing more than a loan made to a Homeowner or Condo Association. An HOA loan is between a lender and an Association. They are not between individual unit owners. The collateral for HOA loans is typically limited to future cash flows like dues and special assessments.

Aging HOAs

Let’s face it HOAs are not getting any younger. Sixty percent of communities are over 20 years old.

Lots of roofs are nearing the end of their useful life. Windows, boilers, and plumbing components also need replacing. Cement walks, roads, and parking lots are examples of other maintenance projects. And, clubhouses and community pools are receiving much-needed facelifts.

Under best-case scenarios, boards allocate portions of annual budgets into long-term savings accounts or reserve funds. These funds are set aside for specific capital projects that will inevitably need financial resources. If reserves are healthy over time, an HOA will have money set aside. They can use these funds to pay for repairs or large-scale capital projects as they arise. Sadly, this isn’t always the case.

Changing Priorities

Few politicians run campaigns that are focused on “higher taxes.” Similarly, HOA boards are reluctant to increase dues. They are often slow to raise dues even as annual costs increase.

Boards and priorities can change over time. Original board members may have had good fiscal intentions. But at some point, subsequent directors opted to reduce or eliminate contributions.

Skipping or eliminating reserve fund contributions may have gone unnoticed for years. This strategy ultimately results in long-term problems in exchange for short-term budgetary relief. Many of these problems are coming to light as large unfunded projects need attention.

Boards and unit owners have several options to deal with expensive unfunded capital expenditures. The most straightforward alternative is to assess each unit owner a cash payment. A few fortunate unit owners may not be happy, yet, they can liquidate assets or move cash around to meet this obligation. This solution can place an unfair burden on other unit owners.

This approach pushes unit owners to fund an unplanned expense that previous boards did not plan appropriately. These assessments may not have been necessary if prior leaders properly contributed to reserve funds over time.

To meet assessments, individual unit owners may need to take out personal loans or 2nd mortgages. Unfortunately, there are obstacles to this alternative as well.

Personal loans may be inefficient and expensive. Some unit owners may not have enough equity to take out a 2nd mortgage. Second mortgages increase leverage on unit owners’ assets. These alternatives require individual unit owners to risk their credit. Often, any potential tax advantages are not worth the risks involved in going down this path.

A board may decide to delay a project. The board can use that time to collect and accrue assessments. There are other problems with this approach.

Higher costs are typically associated with project delays. Delaying a process depresses property values. Repair-related liability could become an issue due to delays.

HOA Loans

Many boards view HOA loans as an ideal solution for funding large capital projects. These instruments fill the gap between quick funding and helping unit owners stretch payments into more manageable increments

Who is the Borrower?

Most associations organize as non-profit corporations. With HOA loans, lenders loan money to the HOA or non-profit corporation. They do not delve into the profile of each unit owner.

Federal regulations require lenders to understand their borrowers. To comply with these laws, lenders will identify one or two board members. This action does not mean board members are not personally liable for HOA loans.

Collateral?

HOAs may have valuable assets such as a clubhouse or swimming pools. However, most lenders view this type of collateral to be of little value outside of the HOA. Most lenders define their loan security as the future cash flow of the HOA. They are looking for repayment of their loan from the future cash flows like dues and ongoing assessments.

Payments Allocations

Associations have flexibility in how they choose to allocate principal and interest payments between owners. Some HOAs, allot loan payment percentages based on square footage. Others divide the total monthly principal and interest payments by the number of units.

Some associations allow unit owners the option of participating in the loan or paying their assessments up-front. If unit owners opt to pay their pro-rata obligation up-front, the board can reduce the loan request by a like amount. Once a unit owner has met their assessment, they can be relieved of their ongoing share of debt service.

Lenders are looking to the HOA for repayment. Therefore, they do not need to investigate individual unit owners. They typically don’t micro-manage individual allocations among unit owners. An experienced lender will want to understand projected cash flows. They will defer to the board or management company for the administrative work.

HOA Loan Advantages

  • HOA loans allow boards to fund projects quickly and efficiently. Upfront assessments can be hard to collect and tend to trickle in. Loans are funded immediately after closing.
  • HOA loans allow unit owners to spread more manageable incremental payments over time.
  • Property values can be lower when a property is in disrepair. An HOA loan can help facilitate repairs to stabilize or enhance values.
  • Efficient borrowing structure. Associations can usually secure long-term low- interest “unsecured” credit much more efficiently than individual unit owners.
  • Loans are highly customizable. Some lenders allow for “interest-only” draw periods that then convert to longer-term loans. Payment terms are often customized.
  • No personal guarantees. Loans are with an association versus individual loans or mortgages.
  • Underlying units can continue to be bought and sold. Since the lender is looking at the association rather than each owner, units are unencumbered

HOA Loan Disadvantages

  • The application process can be intimidating. Each lender can have its peculiar underwriting standard.
  • Repayment may cause increases in monthly dues/assessments.
  • Interest costs may be a factor.
  • Delinquent owners present a drag on others. Loans require the remission of monthly payments. Money shortfalls due to payment delinquencies may cause the diversion of other funds to debt service.

Conclusion

As with any debt, there is an opportunity for the misuse of loan proceeds. If loans and repayment plans are not fully understood, these instruments can cause stress on unit owners and future boards.

If properly used, HOA loans can provide a solution and much- needed relief to expensive problems facing associations throughout the country.