CM Magazine
Michael Hagarty
July 14, 2015
CONDOMINIUM BOARDS are entrusted with the critical duty of ensuring financial resources are available to provide for the repair, ongoing maintenance and eventual replacement of their condominium common elements and assets. This becomes an especially difficult task when large, unexpected expenses arise, such as a roof replacement or building envelope repair. Often, adequate reserve funds are not available to cover these unplanned costs and the board must determine how the corporation will pay for the work. Our corporation overcame a serious funding shortfall in the face of a critical infrastructure repair by obtaining a loan to finance a portion of the necessary work, completing the project while the resources were at hand, and with knowledgeable board and property management supervision.
I became board treasurer of a 60+ unit common element condominium in Ontario vacation country with some hesitation, however I felt confident that my experience earned in commercial finance would benefit our board. Fortunately, we did have a strong board, and personal expectations did not extend too far beyond auditing the monthly reporting, and the presentation of the financial statements at the AGM. Our condominium was created in the 1960s, and was built upon rolling terrain, connected by a network of underground sewer and water lines, and punctuated with dozens of remotely located manholes. Picturesque no doubt, but it also represented an engineering challenge at the time.
Our first test as a board arose with the review of the recently commissioned Class 1 reserve fund study, the first following the proclamation of the new Condominium Act in 2001. The study concluded that the corporation reserves were substantially underfunded. Fortunately, as this had been a first reserve reporting of a condominium registered before the Act was proclaimed, we had ten years to bring reserves in line. A series of special assessments were budgeted to restore balance in the fund; not entirely popular, but necessary, and for the most part, understood by the unit owners.
The situation would change, the water system began to lose pressure in certain areas, and sewer issues arose affecting individual units that apparently had originated in the common infrastructure. Moreover, as these issues were obvious to all, and becoming more frequent, those units listed for sale were subject to speculation about the integrity of the common water and sewer lines. Action was necessary, and after interviewing three firms, an engineering partner was retained, geo-technical analysis completed, and closed circuit video monitoring of the extensive water and sewer lines undertaken. Results confirmed that our dated system, installed some 45+ years earlier, needed to be significantly replaced, and that we would need reserve funding at an accelerated rate.
A Phased-in Approach
Proposed remediation was divided into two phases to be completed over consecutive seasons, using a variety of techniques ranging from trenching to directional drilling in order to allow for the unique terrain. The most urgent work would be addressed in Phase I of the project, with the second phase to be completed the following year. The overall budget was established at a level that could be largely funded through existing reserve contributions, with a manageable assessment for the following year. Accordingly, our engineering firm prepared the request for tenders.
Upon receipt, the tenders varied widely, but were uniformly in excess of the engineering estimates. The board accepted the lowest of Phase I quotations at an amount 25% greater than anticipated. With Phase I well over budget, it became cost prohibitive to proceed with the necessary Phase II work scheduled for the following summer. It was also clear to the board that there was special assessment fatigue among the unit owners, and a significant increase would not be greeted with enthusiasm.
Still, the engineering report was on hand, and a knowledgeable contractor on site; failure to proceed would result in losing critical time, but also present the risk of more failures in the Phase II system. The board was ready to proceed, and had the necessary tools, but it did not appear to be a feasible option without funding.
The Financing Plan
Fortunately, there was a solution. We learned from our property manager that the corporation could potentially finance the second phase of the work in its entirety, and arrange a floating rate loan throughout the construction period. The funds could be drawn as needed, and interest would only be payable on the amounts outstanding. When the project was substantially complete, the construction loan would be converted to a term loan, and amortized over a longer period of time, at a fixed rate of interest.
Better still, the loan would be advanced to the condominium corporation as a whole, and would not encumber the individual condominium units, so that any existing mortgages would not be disturbed. The unit owners would pay on a pro-rata basis as part of their common element fees. No personal information would have to be provided by the individual owners as the loan was granted to the condominium corporation as a whole.
An application was made with a local financial institution. The lender reviewed the financial statements of the corporation, the recent reserve fund study, the reserve fund history and position, and the overall feasibility of the project. A preliminary offer of financing was provided, subject to formal approval. The proposal was put forward at a special meeting of the corporation with the lender in attendance to answer any questions, and a special borrowing bylaw was approved by the majority of unit owners, authorizing the proposed Phase II financing.
The financing was subsequently approved by the lender, accepted by the board, and the tender of the Phase II works proceeded. There were legal and lender charges to consider, but the project was completed on schedule using the construction draw financing. Upon completion, each unit owner had an option to either pay their pro-rata share of the financing, or participate in the term financing and pay monthly over the seven-year amortization of the loan.
Overall, with the guidance of our property manager and the assistance of condominium corporation financing, the project was judged a complete success, the common elements were restored, and future reserve requirements anticipated by the annual budget process. Perhaps most importantly, there was no further speculation regarding the integrity of the common services and the marketability of the units improved.
Michael Hagarty is assistant vice president with Pacific & Western Bank of Canada located in London, ON.