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Don't Budge When it Comes to Budgeting



Budget season is upon most associations, and while many boards are understandably focused on getting their budgets right and properly setting their regular assessments for the year, there are equally important legal concerns associated with adopting (and distributing) a budget.


An association’s budget is just one part of the annual disclosures required to be distributed annually by an association. California Civil Code Sections 5300 and 5310 provide a laundry list of specific items, statements, and documents that must be sent out 30 to 90 days before the end of the association’s fiscal year. For associations with a calendar fiscal year, this means that disclosures (including the budget) must be distributed to all homeowners by December 1. It’s also worth noting that for those associations that want to get ahead, the law actually limits associations from sending out disclosures earlier than 90 days before the end of the fiscal year. We all tend to think that the earlier you do something and the more notice you provide, the better – in this case, there’s a limit to how early boards can act.


The most notable legal consequence associated with the distribution of annual disclosures applies to budgeting. Specifically, under Civil Code Section 5605(a), associations forfeit the right to increase annual assessments if various budgetary disclosures are not made as a part of the annual disclosures that are required. Under the law, associations are allowed to increase regular assessments up to 20% from the prior year’s assessments without a membership vote; however, if the budgetary disclosures are not distributed, even regular assessment increases below the 20% threshold would be prohibited. Despite this rule, and even if the budgetary disclosures are not made, associations are still permitted to increase regular assessments with a membership vote, but this is not what associations should rely on for obvious reasons. Boards need to work with their management and financial experts to ensure they are reviewing and adopting all necessary budgetary documents required under the law, as well as distributing to them to the membership in a timely manner.


It’s always a good idea to provide a simple, easy to understand cover letter with the annual disclosures that focuses on the budget and why certain changes (usually increases) are occurring. We all know that, at a minimum, inflation, insurance costs, and wages/labor costs for vendors will continue to generally trend upwards over time; further, with the emphasis on structural and building safety issues by lenders and lawmakers, reserves need to be built up responsibly. These are points that the board can educate homeowners about, so homeowners do not in turn believe that their assessments simply go up because the board consists of dictators who like to spend money just for the sake of it.


On a related note, failing to understand the division or allocation of assessments is another key pitfall to avoid when budgeting. Things are easy enough when assessments are equal and uniform for all homeowners within a community. But not all associations equally assess their members. Some associations levy assessments on a variable basis based on square footages of units/homes, and some use a hybrid model where assessments are comprised of a combination of equal contributions for certain maintenance items, as well as variable contributions for other maintenance items, presumably the ones where certain owners get more benefit from the common area maintenance compared to others.


Some associations have “cost centers,” which is a fancy way of earmarking certain assessments only for a specific group of homeowners that derive a specific benefit from the association that other homeowners do not. For example, if only certain owners in a community have access to a particular elevator, or if painting certain common areas only impacts some owners and not the rest, only certain owners may be assessed for those budgetary expenses. This seemingly makes common sense; however, many associations try do to this without having any authority to do so in the CC&Rs and this leads to years of budgeting inaccuracies.


Unless an association’s CC&Rs very clearly allow for this unique method of budgeting/levying assessments, this is not allowed. Unfortunately, there are too many instances of associations levying assessments/basing their budgets based on what is practical or common sensical, as opposed to what is in the CC&Rs. This exposes an association to potential legal action and financial problems; because association budgets are not built to withstand legal challenges based on years of incorrect financial management. Boards are ultimately responsible for reviewing and adopting the budget and understanding how assessments must be levied; management and other experts can help, but the board is legally responsible to know what is in the budget and ensure it is consistent with the governing documents and the needs of the community.


Written By: Cyrus Koochek, Partner with SwedelsonGottlieb


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