Reserves for deferred maintenance (performed less frequently than yearly, to maintain the asset’s useful life) and capital expenditures (purchasing or replacing assets that have a useful life over one year, or extending the useful life over one year) are required for certain building components, unless the membership votes annually to waive or reduce reserve funding.

Condominium associations must reserve funds for roof replacement, building painting, concrete maintenance, as well as for any other item for which the replacement or deferred maintenance is required.

The amount required to be annually set aside in reserve is computed by a formula that takes the estimated cost of deferred maintenance, or the replacement cost, and divides it by the remaining useful life of the asset.

As an example, assume the estimated cost to replace the roof of a condominium building is $100,000, and it is also estimated that the roof will have to be replaced in 10 years. Therefore, the current annual contribution that must be placed in the roof-replacement reserve account is $10,000.

The primary purpose of establishing and funding reserves is to spread the costs of major expenditures over the lives of the assets to be maintained or replaced, in order to avoid large annual assessment increases or the need to levy special assessments, which some owners may be unable to afford all at once.

Who Is Liable for Under-funded Reserve Accounts?

The failure to adequately fund association reserve accounts can be costly to homeowners and could potentially result in legal action against owner-elected directors of the association. When there are budget shortfalls and inadequate reserves for a capital or deferred maintenance expense, the first step generally is imposition of a special assessment against the unit owners. This means that, in addition to regular monthly or quarterly assessments paid by unit owners, the unit owners are required to make additional special assessment payments to the association to cover the expense. In some cases, the association needs to borrow funds, if such loans can be obtained by the association, to supplement the revenue obtained from the special assessments. Borrowing funds, if they are available, adds the cost of financing to the cost of the underlying expenditure. In addition to the obvious financial risks to the association and the unit owners, there are also risks of legal liability. Owner-elected boards are at risk for breach of fiduciary claims for failing to cause the appropriate funding of reserve accounts. A verdict against a director for a breach of fiduciary claim could result in personal liability of the director.