While inflation may be a boon to some in the economy, it can be highly problematic for condominium corporation budgets and condominium boards, especially where reserve funds and maintenance-related costs are concerned. Recent inflation hikes of 8 per cent or more should serve as a wake-up call to condominium communities, many of whom have been budgeting for a 2 per cent inflation rate for about the past five to 10 years.
What’s more, the posted rate of inflation may not paint a true picture of the escalating costs associated with condominium management. This is the case even as inflation begins to wane. Those costs could include equipment purchases, repairs and maintenance, as well as the increasing costs of security, cleaning, and other necessary services. At the same time, the Building Construction Price Index shows the cost of building materials continued to rise in the fourth quarter of 2022, and there appears to be little sign of those price hikes slowing.
What inflation means for condominium communities
According to a recent white paper issued by the Canadian Institute of Actuaries, one of the biggest inflation-related challenges for condo unit owners is the potential for large annual maintenance fee increases and lump sum special assessments as reserve funds are steadily depleted.
What’s more, newer condo buildings often have lower reserve fund contributions in dollar value compared to older buildings. This can lead to new owners facing a sudden, dramatic jump in fees to help bolster the reserve fund post-purchase. While older condos may be more expensive in terms of repairing and replacing common elements, data has shown that the yearly average percentage increase of reserve fund contributions for newer buildings over a five-year period is substantially higher.
The challenge for condo corporations is how to reasonably save for repair and replacement of common elements and systems, while setting adequate reserve fund contributions. Expenses coming out of this fund may be incurred over years and sometimes decades, which means planning ahead to ensure the right amount is contributed annually is imperative.
How inflation impacts reserve funds
These contributions are controlled by the condo board, which is responsible for managing the financial stability of the corporation. This level of responsibility has set the stage for governance issues, with all jurisdictions in Canada (except PEI and Nunavut) having mandatory minimum reserve fund requirements. Only Ontario stipulates mandatory management education for directors—typically condo owners, who may lack asset management experience.
The cash flow that fuels reserve fund growth comes in the form of condominium fees, which are collected monthly. Interest earned on a fund can be invested in legislated tools such as bonds and other fixed income assets—and can be an important source of income that can help reduce fees or the risk of special assessments.
That said, with expenses unlikely to dip to previous levels, communities are more likely to find themselves with insufficient reserve funds to accommodate current inflationary costs. As such, they will need to take immediate steps to mitigate any associated financial risk and impact on their condominium corporation budgets.
In addition to the aforementioned special assessment risk for residents, under-funded reserve funds can result in long-term and more costly debt accumulation, delayed maintenance and, ultimately, degradation of property and corporation assets. Inadequate reserve fund disclosures can also lead to fewer unit purchase offers and lower sale prices. In addition, future unit owners may be burdened with unexpected financial obligations.
Steps to take now
. The most important first step is to establish a realistic condominium corporation budget and reserve fund that accounts for future inflation and interest rate increases, while setting condo fees at a level that will support both
. Review and update engineering estimates of major repairs and replacements. Existing building studies may be based on outdated pricing assumptions. New estimates based on current information will provide a reality check on the finances necessary to maintain critical areas of infrastructure. This is key for buildings about to embark on a capital repair project
. Renegotiate existing contracts, especially those nearing expiry. Negotiating with vendors for longer service periods may lead to better terms
. Avoid emergency repairs. As with any asset, a high price is often paid for emergency repairs. Plan ahead to avoid immediate special assessments due to larger-than-expected reductions in the reserve fund
. Seek longer-term solutions such as operating efficiencies, retrofits, and green energy solutions that help reduce expenses over time. Government incentives may help cover a percentage of costs in this area
Rising costs are hard to predict, especially during these inflationary times. Seeking advice from an experienced professional can help balance the interests of condominium owners and their boards. Obtaining the right strategic insights now can ensure sustainable condominium corporation budgets, adequate funding for essential repairs and maintenance well into the future.
Christina Ajith-Brandford, Partner
For more information on managing inflation across your condominium community, contact a member of our team today.