 And welcome to condo insider it's Thursday at three o'clock and this is our typically show our where we try to educate board members and people who live in a condominium on the various issues going on here in Hawaii and elsewhere. You're probably going to get sick and tired of hearing about this over the next year or more. But we're going to talk about reserve studies. The next frontier. This has become a very hot topic across the United States. Community Association Institute, the national trade organization recently issued new public policy on reserve studies, almost every legislature across the country that has any kind of condominium in it. Invested in passing laws to tighten up the safety for condominiums for residents. This all stems from the building collapsed champagne towers south in Florida surf side Florida be exact often it's called surf side. And 98 people lost their lives because the building call. It collapsed because allegedly for years. The board of directors had tried to get the owners to approve a special assessment. So they could repair the cracks and the structural failures, you know, and as you may or may not know and concrete buildings. The concrete embedded in his rebar that's the structural strength. All concrete is porous water gets into the concrete, the rebar rust deteriorate the structural integrity is lost. And depending on circumstances. In this case, the building collapsed, killing 98 people. This has caused all sorts of interest and panic throughout the United States, and legislatures across the country have enacted laws, but in addition CAI without new public policy, saying this is what Association should do with respect to its reserve study. I'm going to talk about that today can I give you my crystal ball what's going to happen in the future, and a little bit of what's already happened here in Hawaii. So you can understand how important this is. I would tell you I'm predicting now that you're going to see more lawsuits, more claims, more problems coming down because of the fact of an association, not maintaining its property. There's going to be a result in a collapse in death, but there's going to be all sorts of problems that I'm going to give you some examples here shortly. Let's talk about Florida just briefly. Okay, the building collapsed people died. Work wasn't done this board had tried for several years. He's tried so long ago that the original estimate to repair the building was 9 million. At the time of the collapse. They had an estimate for over 15 million to fix the building. The building deteriorated further which required more work, but inflation certainly took hold of respect to that. The issue is we look at Florida the biggest problem. I want you to pay attention to this in the Florida law the condo statute. You have to have the owners approval to assess the homeowners for the repair. So that means that $9 million or 15 depending when you were looking at the number needed had to go to a vote of the homeowners. And the homeowners would never approve the assessment, because they were going to have to borrow the money and raise the maintenance fees, a couple to $300 a month to fix the problem. So every year the board or throughout the year would try to get the homeowners to approve the loan. And they couldn't get the owners approval. And finally just before the collapse. My understanding, they did get the homeowner approval but it was too late. Even the roof that needed to be repaired the regular roof. The contractor had refused to go on the property, saying that the property was too dangerous to work on. Now, in some ways you can say well, we tried the board that they can be tried but the owners wouldn't approve it. Well, it kind of ignores other things the board could do like go to court because of the safety and conditions and get an order and, and those types of things but that's kind of relate this to Hawaii for a second. Under Hawaii's condominium law. The board has an obligation to maintain the property period. And the law provides that in Hawaii. You can assess the owners, if it's $100 million a billion dollars whatever it is, the board has the right to assess the owners to make the repair and has an obligation to make the repair. If you have time to not when you get to these mega numbers, the board goes and wants to borrow the money if they don't have enough reserves which is more times and not the case. The board to borrow the money versus assess the owners, they have to have 50.0% exactly half of the owners consent to the loan. More people approve the loan that don't approve the line so it's pretty easy to get to 50%. But think about this way from a liability point of view, as you as a board member you have an obligation to maintain the property. If you have reports from engineers and experts saying you have a serious problem, and you have the authority to make the repair, you just have to assess the owners which nobody wants. Do you expose yourself to liability if you haven't take action under your fiduciary duty as a board member to fix the building and I think you probably do. I think more of those losses will come to bear. Now, I'd be the first to admit that some of the structural design is unique to the champagne tower itself. I don't think structural failure is going to be a commonplace thing, but people buy and sell property and expect unit to be in good shape, and to say there won't be litigation arriving out of this would not be true. Well, let's just review the fact that on Hawaii, Board of Directors has the unlimited authority to assess the owners and have the legal obligation to maintain the building. And so if they don't do that and there is a catastrophic problem, or even a problem down the road. Is the board member going to be safe from the good faith argument that well, I did the best I could I don't think so, because I'm an expert a lot of lawsuits. I can tell you now that there's more and more lawsuits coming about, which I'll discuss them later in the show regarding reserves. What happened with the legislature in Florida, after they had this catastrophic problem, 98 deaths, a $1 billion lawsuit settlement. The legislature had a fixed their problem with regard to owners. Having approved the assessment. So let me ask you the question, what did the Florida legislature do. They talked to the person in Florida, who was my counterpart, who gave me the answer what the legislature did. They did absolutely nothing. They took the position of the legislature in the last legislative session that this is a one off situation. It's not going to happen easily and often. So they don't need to do anything about it. Now that's what they did, but then the bad news is the public everybody went nuts over this. They, they address this problem that's serious. So they went back into a special session, believe it or not, and they passed one law. And the one law basically said that associations over a certain number of years of age, had to have a structural inspection of their building and have a file with the building department. There weren't any changes to the authority to borrow the money, but there were requirements that the building be inspected by a structural inspection, which I guess brings government involved if it fails the inspection and what's going to happen next. And so that's kind of what happened in Florida but let me tell you what happened in Hawaii. We have with act 62 act 62 has five parts to it, of which one of the five parts has to do with reserves. I would tell you as a preface to this, one of the other bills offered this year was to mandate structural inspections for building. And I can tell you I bet that's back next legislative session, and you're going to see more efforts to require associations of a certain age and size or whatever it may be. To have structural inspections. And so that's coming it's not here today but what are the act 62 do to us with regard to reserve studies. Now, effective January one 2023. It did basically three things. There's always been an argument and developer putting out a public report new building underestimate reserve funds to theoretically and intentionally reduce the maintenance fees to make it easier to sell the units. Well, developers have previously relied on the FHA 10% minimum requirement. Be towards reserves and the maintenance fees. It's kind of their scapegoat to say, well, we took 10% of the maintenance fees. Well, the new law act 62 says developers have to do a reserve study. They just use some artificial number based on the HUD guidelines and the FHA guidelines for for maintenance fees. And frankly, I would have to tell you I've read those guidelines that's not exactly what they say when they say 10% is adequate. But either way, let's just say, and now developers have to do a reserve study. And many don't know we've always heard the level one, two and three for existing projects for reserve studies. There's a level four reserve study for developers. So this law says that as a part of those public reports that in fact, developers must do a reserve study. So that number becomes more accurate. I hate to use the word accurate because it's a forecast anyway but because more reliable for determining what the maintenance fees would be. Number two, it changes. If you know there's two methods of doing reserve studies. Two funding methods, one of the percent funded basis, others called a cash flow basis. If you were doing the cash flow, you would project out 20 years and the administrative rule said that any component that had a remaining life more than 20 years didn't have to be in the reserve study. Well, what x 62 did was change it to 30 years. So that rule of the 20 years no longer exists. Certainly when you have large items with long lives like elevator modernization that have a life of 30 years, you're going to have to include that in your calculations now from day one and not wait 10 years to do it. It's going to be better for you in the long run. It's easy to pay for it over 30 years and 20 years of the cost should stabilize the reserve contributions in the future but act 62 basically said that if you choose to cash flow which about 99% of all the condos and why choose, you have to do a 30 year project in effect in January 123. You have to do your budget in the fall of 2022 so you got prepared to amend your reserve study to look at a 30 year cycle. But the third thing they did that was frankly a post to this. Primarily because of the language. Basically it says if you do your reserve study and it's not done by reserve professional. And you must have that reviewed by a reserve professional. At least every three years. So if you're in house doing one or your management company that doesn't have accreditation and doing reserves, and you have to do a reserve study. You could go to someone who's a reserve preparer could be an architect engineer could be a CI reserve specialist could be a member of the association professional reserve analyst was lots of people to do this. And you're going to have to review your reserve study to determine the sufficiency of the reserve study. That's interesting because the language was so vague didn't really decide who a really reserve state professional is. Basically it calls a reserve state preparing and doesn't really put any real requirements on that. But then it doesn't address the things that you go and you have a reviewed and the guy reviews it says your reserve studies no good and you say well thank you for your opinion. Thank you for reviewing it. We're going to keep the one we got we're not going to do anything about it. And that's kind of the problem didn't really give much destruction or specifics to condominiums and what they have to do. I want to talk about this some more and we're at the halfway point. So we're going to take a one minute break and come right back, and I'll give you the rest of the story. Back to condo insider talking about the next frontier reserve studies and before we took the break I talked briefly about this issue that the in the reserve study that. Well, lost my train of thought for a second that you have this three year requirement to have a review and it didn't really specify what that really means and so what it means to board this potential liability. Think of it this way. If in fact you have an obligation to maintain the building. If in fact you have a reserve study. You did yourself. If in fact I would prepare who qualified said, your research studies no good. And you do nothing about it now there's an assessment down the road, or a new buyer down the road says how come you have to raise my fees 25% you didn't collect enough in the beginning. Have you potentially exposed yourself to liability. Well, I know this is all brand new but I would say that there's going to be some lawyer out there who's going to say look, you have an obligation to the statute to fix the building you didn't fix it. You did a reserve study, your reserve study was not any good according to a reserve preparer who looked at it, and you didn't do anything about it. So you have some personal liability with respect to this because it could be considered gross negligence or intentional and willful conduct. And of course, there's defenses for that. But the say that you're free and clear from this because nothing is going to protect you better than doing a reserve study and doing what it says. Well, what I find is that the future is very clear to me. Next year you're going to see structural requirements. I hate that because every time there's a problem. Everybody wants to pass a requirement. So you had the sprinkler fire safety requirement. Now you have the structural requirement. Now you have the city and county how little wanting you to have to do all these studies on electricity usage requirement. You know, then you have the proposed study that all associations have to evaluate the EV charging station needs a requirement. You know, it gets to be this is expensive. It doesn't mean that we shouldn't do some of these things, but to try to litigate this or should legislate this into a mandate, all this has to be done by a certain amount of time is foolish. You know, first of all, look at the number of buildings under the new city ordinance, where you have to have this study of your electricity using this is commercial and residential buildings. I don't know enough people are in town to do this in the timeframe they've established itself. I'm not a big fan of government mandating some of those issues. I do think we do need to clean up the reserve study issue a little bit because the practice has been we'll do a reserve study. We've got that task done we're not raising maintenance fee and kick the can down the road to a future board or a future set of owners but I can guarantee you what you're going to see in the next year or two structural inspections be mandated. You'll be required at some level to have a professional reserve study prepare. Do your reserve study, and you will have an obligation to implement that study versus this greatness we have within the statute today, and it's going to become a bigger item so I would say to you upfront that I'm going to talk a minute about the common mistakes. I'm not going to make a reserve study and a common problems and some of the litigation but if you if you're honest about it, and you accept the fact you live in a condo and you have to maintain the building. If you accept the fact statute requires you to maintain the building. You may not like the answers and what you need to do to maintain the building. You really don't have an excuse not to maintain it. The property values are going to be affected by how well you maintain it. And I've seen so much misuse of the reserve study concept, because people were kicking the can down the road. And let me tell you, my number one belief in future litigation. My number one belief of the major mistake that condominium is making their reserve study, and they do it every day they blame it on inflation. Here's an example. I'm an expert on matter with the condominium was a fight over the reserve study. I've been now managed by arbitrator, I'm going to say a person who agreement was to have the arbitrator manage the final decision. Well, here's the problem. So if you look at the annual contributions of that reserve study. Rounding it off. It was about $100,000 a year, which would be divided by 12 by the number units or percentage of common interest, whatever it may be. Well, if you look at it because that 100,000 year didn't give them sufficient cash in future years, they would go into the negative which they can't do by law. What they did is they proposed an increase the reserve contributions every year of 3%. So when you look at that over 30 years, that 100,000 a year becomes 600,000 a year. Now think about that that means the reserve study contribution, which in that case was about $100 a month per unit would now be $600 a month per unit, plus the maintenance increases which are going to have inflationary things put on it. But people don't realize or people refuse to admit or people look the other way is when you do a reserve study the software itself is using the future value of that component to be replaced that roof with a paint shop. So since it's using the future value and administrative rules define the future value is $20,000 it's got a 20 year life you'd be putting $1,000 spread evenly to all the owners and the multiple calculations you do to create the reserve study. Well, if you say well I'm not going to do that like this 3% does, I'm only going to collect 800 this year that 850 next year whatever it may be, you're really kicking the can down the road to force yourself to meet these components that you're not addressing now that 30 year elevator job, you're kicking that can down the road. So you're going to cost you a whole lot more in the future is evidenced by the example of 100,000 to $600,000, where the if in fact, they were today put 130,000 a year into the reserves, that number would stay constant for 30 years. Now, what I see is happening is that I was involved as an expert on a lawsuit on this, where, in fact, the lawyer argued that that's unfair you're not collecting the amount you're supposed to according to administrative rules, it's supposed to be a straight line even number. And what you're doing is taxing future people. So the old people are people want to buy and sell get out before the damage is done. I think there's a lot of legitimacy to that. I think you're going to see, particularly as reserve studies have to be more perfect with better data, you're going to see more people trying to kick the can down the road which is going to result in lawsuits. The example of that, I was an expert on a Maui project, where a new owner bought a in a project and made that argument saying hey I just moved in, and I'm getting an assessment because reserve study was inaccurate. Why should I you should have been collecting that from my buy my seller or from some other owners is sold prior to me buying into this. So, in that case, it's going to be an argument that's going to come forward and as much as it may be a bitter pill to swallow. I think it's important we all recognize we have an obligation to collect on a even basis for 30 years amount of money projected to fix the building and maintain the building. And part of that has got to be that you do a good job of looking at the components remaining lives through replacement cost. It doesn't make any sense to argue that we have a good reserve study if you've left out the central air conditioning system or the roof or, or something else you need to, as the statute requires you to identify all the components actually over $1,000 in value. You need to put some energy in as most boards get through their budget and the reserve study look at it quickly. Are we raising the main disease yes no, and they pass it without much discussion on the individual line items and components within the reserve study. It's important that the board do that that they really take a look at that and as I said I'd be hiring a professional from a larger scale, kind of any of them to give me a base. It doesn't mean you're screwed because even if you find you haven't done the best job, you're better off changing it over the next two or three years to get it to where it should be, because you have time over 30 years. Let's try maybe to do it all the first year. There are ways and techniques you can use quickly and early in the reserve study, bring the number up to where it should be, and give the owners notice that over the next three years we're going to do the following in my example to get us on an even keel but I don't think for a moment this reserve state thing going to hit the fan. It's going to hit the fan because of the fact that I do a lot of reserve study work and I countlessly look at buildings that have deferred maintenance that the reserve studies are inadequate, and they're not thinking it through. And that's why I'll get off the board this year and up next year's board and worry about it. Well this is going to come back to affect all of us because I think this is going to be the new frontier is going to be condos have to do a reserve study over some number of units will say 50 units has to be done by a professional that has one of the following qualification reserve specialist apra architect engineer. The board has to implement the reserve study on an even level basis. I think there's going to be more and more requirements in there. I think more that will erode your good faith argument where you're not obligated to do personally for any of the damages that may result on this. And that's kind of my message today we have about 50 seconds left it looks like the new frontier reserves is something that the boards and homeowners need to look at carefully. That's going to affect your property values. It will affect your maintenance fees because you're going to have to get in line with the real requirements are. At the end of the day if you don't do that. I think you're going to see litigation, you're going to see claims of personal liability, and you're going to see all sorts of stuff that are not going to be something you're going to want to be involved in. So, anyway, a who we hope and always nice sharing with you my thoughts, or I have to bring you bad news but this reserve study is the next frontier and next challenge or condominium association. Thank you so much for watching think tech Hawaii. If you like what we do, please like us and click the subscribe button on YouTube and the follow button on Vimeo. 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