A Reserve Study is made up of two parts, as defined by Community Associations Institute (CAI) and the Association of Professional Reserve Analysts (APRA) – the Physical Analysis and the Financial Analysis of the common elements.
Physical Analysis
The physical analysis includes a component inventory, condition assessment and life and valuation estimates.
To prepare a reserve study, it is prudent that the reserve specialist conduct an information gathering meeting with the property manager or a board member, or both. The meeting allows the reserve specialist to secure important background on the property. It’s also an opportunity for the property manager or board member to describe any problems the property is experiencing.
After the meeting, the reserve specialist performs a property inspection to record, measure and assess the current condition of each common element and will pay special attention to problem areas.
As part of the physical analysis, the reserve specialist takes photos to document the condition of the common elements. Based on the inspection of each element, he or she estimates a remaining useful life and recommends when repairs or replacements need to be done.
At the end of the condition assessment, the reserve specialist will have:
- Developed the Component Inventory – Identification of the common elements and their quantities, such as square feet, square yards, number of street lights, etc.
- Completed a Condition Assessment – Evaluation of the current condition of each component based on the observation of the reserve specialist or reported characteristics.
- Conducted Life and Valuation Estimates – This is where the reserve specialist determines the useful life, the remaining useful life, or better stated, how much longer the component will last and when it will have to be replaced, and what is the repair or replacement cost of each component.
Financial Analysis
The financial analysis has two components:
- The Fund Status – That’s the current amount of money in the reserve fund when the reserve study is conducted. It will be as of a specific date, often the beginning of the fiscal year for the association. This is a starting point for the reserve specialist as he or she conducts the financial analysis portion of the reserve study.
- Funding Plan – This is the plan that assesses the unit or homeowners monies that go into the reserve account to offset the anticipated future capital expenditures and pay for those capital projects as they become necessary. The funding plan goes out a minimum of 20 years into the future, and more commonly, are developed as 30-year forecasts.
Reserve Funding Methods
There are two industry-accepted methods for calculating a reserve funding plan – the component (or straight-line) method and the cash flow (or pooling) method. Both methods are approved by Community Associations Institute and the Association of Professional Reserve Analysts.
The component method divides the current replacement cost of each common element by the number of years before replacement (remaining life) to arrive at the necessary annual funding amount for each common element. The component method results in annual reserve budgets which vary from year to year. As such, the annual funding amount must be recalculated each year. Component method reserve funding typically results in higher than necessary reserve balances.
The cash flow method pools all of the future replacement costs of the common elements and determines a funding plan that is designed to offset the collective (or pooled) future costs from the reserve fund. This method utilizes reserve funds more efficiently and provides a relatively stable level of reserve funding.
