In the past several years I have had many Board members ask about their options when it comes to funding shortfalls in a community, or how to fund projects without depleting reserves. While the obvious options are to raise annual assessments, special assess, or use reserves. Taking a loan is becoming an even more popular option for community associations. The question then becomes can the association take a loan? This is going to depend on many items such as the governing documents for the community, the delinquency rate, financial strength, and the ability of the property management company to perform.
How lending to community associations has changed:
Many years ago if a Board of Directors wanted to take a loan, often times the bank would require a member of the Board to put their personal guaranty on paper to obtain a loan for a community, or require a community to mortgage the common elements as security/collateral. As you can imagine this was not a very popular option, as a volunteer in a community should not have to risk their personal assets for the benefit of the community. And in many cases, the association is not allowed to mortgage the common elements. Today a few community association banking specialists have found it is a very secure option to provide a loan to a community association for the assignment of assessments. So what does that mean? Ultimately it means that if the community association defaults on the loan, the assessments that are usually paid to the property management company are directed to the bank. The bank then pays themselves prior to paying the associations other expenses. There could be more, but the point is that it is lending to a community is at little risk to the bank. In an HOA if the community needs more money to pay the loan installments the community will raise assessments to meet the financial demands.
Can my community association take a loan?
The Colorado Revised Nonprofit Corporation Act applies to all common interest communities. Within this act, there is a provision that provides a general authority to borrow money and incur liabilities. The Colorado Common Interest Ownership Act (a.k.a. CCIOA – Pronounced “Kiowa”) has language specific to the continuation of economic prosperity through vehicles such as borrowing money.
Just because CCIOA and the Nonprofit Act have language that allows for communities to borrow money does not mean that is where a Board and property manager should stop looking. The Board and management should also review the governing documents for the community. First, it is important to point out that managers and property management companies are restricted from providing and legal recommendations. It is considered the unauthorized practice of law, therefore ACCU, Inc. always recommends that the community associations Board of Directors contact their attorney to ask them to review the documents and provide a legal conclusion regarding the association’s authority to take a loan.
Some documents will complicate the process and require not only owner support but also that of the mortgage holders. Each set of documents including the Declarations, Articles of Incorporation, and the Bylaws may have language in them regarding the ability to take a loan. Some allowing for a loan to be obtained, but providing language restricting what the association is allowed to obtain a loan for. Again it is our recommendation to have the attorney for the community look and make recommendations to the Board.
Section 312 of CCIOA states that an association that was created after July 1, 1992, must obtain sixty-seven percent (67%) of the total votes in an association to obtain a loan.
Plan the payback:
Be sure the community has a plan on how they are going to pay the loan back to the bank. First, consider if the savings the association will obtain by repairing the issues will save the community enough money to make loan payments. This can often happen when the issue is a leaking building. However, there are times when the repairs do not save income such as repairing a road in the community. Next, if the association determines that they will need additional income to pay the loan back it would be best practice to raise assessments prior to taking the loan. Most lending underwriters will catch this and make it a requirement of the loan.
As the association is able to use a special assessment to take a loan, you may want to consider the impact that may have on real estate values. It may be frowned on to have both a loan and a special assessment. Real estate agents may pass the community and recommend a neighboring community to a potential buyer.
If you have questions regarding taking a loan for your community please contact me: