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  • Contribution Easing

    Posted by Neil on August 14, 2022 at 9:47 am

    Contribution Easing

    Everyone wants a pool to some degree… If a Corporation is well managed and fiscally responsible, then it’s easier to afford luxuries when we divide the total costs by unit factor.

    Why is it then, that a Condominium Corporation, which has no end to its lifecycle, isn’t easing its financial burden through a managed portfolio? We all know that we personally need a Pension and RRSP to maintain quality of life in retirement. So, why then do our Corporations not aim to stabilize or reduce contributions? Shouldn’t we be taking real-life successful funding approaches into our community homes if it would lead to better quality of life for all…

    It’s because there is no line item in our budgets to fund a portfolio that uses the interest earned to offset the annual budget. A portfolio fund would increase property value when divided by the contributors. Your asset value would rise with the fund because the capital is attached to the land. The same premise is already in motion with a Reserve Fund, which is tied to the structural repair and maintenance of the asset.

    We cannot confirm the market impact of a fully funded Reserve, so why should we budget to attain it? One could say fully funded Reserves have an impact on closing prices, but the metrics are not calculated, compiled, peer reviewed, or even available… There are many Condominiums with fully funded Reserves, but what about over funding? What’s a goal afterwards?

    My manager says a healthy condo has some money in Reserves and 2-3 months of contributions in the Operating Account… So, not currently broke!

    I’m of the impression we need to elevate our standards and create long-term funding horizons like Actuarial Studies perform for pensions plans.

    Adding a line item to your Annual Budget for investing purposes should be mandatory for all newly constructed condominiums, they don’t face early maintenance issues and can easily afford funding an investment strategy. Low condo fees are a trap for new owners and don’t provide long-term stability.

    Using Schedule 2 of the Condominium Property Regulation every Corporation can find an institution to manage those funds accordingly and start earning an income stream other than contributions… Most condominium financial structures are one-trick ponies running a race with no finish line. Each time this Equestrian analogy faces a Trakehner, we jump shouting “Special Assessment”, and hope we clear the ditch.

    The buck stops at the Owners so don’t expect this strategy to be discussed by a Property Manager, who probably doesn’t – nor ever wants to live in your condominium!

    As far as a strategy for funding goes, you can take a percentage of your current budget and add a line to contribute that amount. I would recommend 5%, and as the budget grows, so does the contribution amount; or you can take a static annual approach where you add a fixed amount each year to the portfolio. The safest strategy would be to purchase GIC’s. Each year you would purchase a GIC for a long enough term that capitalizes on returns.

    Some larger investing firms require a minimum of 2 million dollars or more to open an account. Those investing firms may deviate from Schedule 2 and thus you’d need to refer to Section 4 in Schedule 2. Understanding Schedule 2 will require professional assistance and I caution all Corporations before investing to fully understand what requirements must be upheld by your financial manager.

    Math warning.

    I’ve taken our previous history of contributions and determined that in the past 20 years (2002-2022), our condo fees have risen 232%, the primary factor for such a rise was the mandatory inclusion of the Reserve Fund Study. I will explain more below but we’re still not funding what we should be!

    Using 2.45% inflation, if we don’t do anything today but rise with inflation for 20 years, we’ll be 162% higher than this year. With a benchmark return of 4.25% annually and splitting our Reserve contribution 50/50, in 20 years our condo fees will have risen 171%. The primary difference is doing nothing today vs. a $1,500,000 portfolio earning us over $65,000 in interest annually. Please note that the annualized return remained at 4.25% and that will not be the reality of each yearly return.

    Included with this strategy is funding 1% of the average asset value (Upkeep Factor) over the next 8 years, which is then split between Reserve and Easing. That’s the reason why we have an increase over the next 26 years that’s higher than doing nothing, We’re still not correctly funding our Reserves according to an Upkeep Factor or the Insurable Amount.

    The downside is that we’ll be contributing less to Reserve for the next 10 years then we do today. We’ll experience a downward trend to the Reserve portfolio as we maintain the property and an upward trend to the Easing portfolio. While investments within the Reserve will help maintain the contribution split, we’ll aim to spend less than the contributed amount plus interest earned annually. Thus, achieving more of a plateau in the Reserve portfolio.

    Best case scenario for over funded Reserves is that you can reduce or stop funding them annually and reduce your condo fees of that burden. This can only be done though by earning returns greater than expenditures within the Studies Horizon. I very much doubt any of us are in such a position (100%). We must continue funding appropriately, but also build a structure that provides a return without the restrictions of how it benefits the Owners!

    With this strategy we can achieve (more or less than) what The Canadian Institute of Actuaries (CIA) recommends the Reserve Fund contribution to be, and we achieve what they call a “Financial Cushion” on Page 85 of their “Longevity of Infrastructure – Reserving and Risk Management in Condominium Maintenance in Canada”. I say more or less than because using 1% of the average closing price of my condominium is lower than using 1% of my total insurable value that the CIA uses. When introducing funding goals and discussing these topics that would increase contributions without a physical reward, it’s best to start small and slowly work towards an outcome that can be visualized.

    We can work towards 1% insurable value once the ball starts rolling and the advantages become apparent to the contributors. Your property value will increase along with the portfolio, a Corporation is not allowed in the Act to pay the Owners. If Owners choose to sell for less than their contributed capital to Reserve and the Easing Fund, then those are great Return On Investment (ROI) metrics for new buyers.

    The “Financial Cushion” aspect is where the Board will direct the purchase of GIC’s and can predict a requirement for additional project funding through the Easing Portfolio. You may not have the appropriate funding within Reserves and may require more capital, thus you’d have the Easing Portfolio to hedge against Special Assessments. The CIA also suggests a Mutual Fund approach for Condominiums to decrease the liquidity risk.

    Another inclusion to the Actuarial lens would be how much capital is required to stop contributions through interest earned? Through compounding returns this is an achievable horizon strategy, although it’s doubtful our generations will be alive to see it. Does this mean it’s not worth pursuing to some degree? Or even understanding when it’s attainable?

    I built a 100-year model, it’s a blend of contributions, interest income, and Reserve stability, that maintains the old-guard approach with a millennial F.I.R.E.

    We cannot sit idle anymore and nor should we settle for the financial status quo. Had my property funded itself according to the above strategy in 1976, we would most likely not have contributions today of $475, the property I paid $225,000 would be valued at +$350,000, the Reserve would be a fully funded framework for future projects, and we would have a large portfolio with managers discussing returns at the AGM…

    We need to break the vicious cycle of Special Assessments being used to fund poorly planned budgets. Our homes will sell regardless of the contribution amount when we’re transparent and actively following professionally sound strategies. In fact, your level of community engagement will rise because people will be paying more, thus becoming more vested, and active in their community ownership. Remember why we purchased our homes… It wasn’t because the bylaws and financial documents provided us shelter, we loved the layout and felt like a community home was where we could lay our heads.

    Neil

    Neil replied 1 month, 3 weeks ago 1 Member · 0 Replies
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