9 Tips for Better HOA Financial Reporting and Management
You're not alone if you're a condo or homeowners association board member who doesn't regularly analyze financial reports.
"The range of the experience among board members really varies," says Elizabeth White, a shareholder and head of the community associations practice at the law firm of LeClairRyan in Williamsburg, Va. "So many of our board members—even professionals running businesses—aren't used to tracking budgets the way we do in the association world. A lot have in-house accounting departments, and what they're used to is what's teed up to them on a silver platter."
But it's critical to be consistent in tracking your HOA's financial data so you can compare apples to apples each year. So what financial information should you track, and how should you track it? Here are nine tips for creating and understanding the association financial statements that help you monitor and control your association's financial health.
- Know what kind of accounting you're using. If you're not familiar with accounting, you must first know what kind of accounting method—cash or accrual—your association uses. With a cash accounting method, you record income as you receive it and expenses as you pay for them. With an accrual method, you record expenses when you incur them—even if you haven't made the payments yet—and you record income when you've earned it even if you haven't received the money yet. "It's a little confusing until people get the hang of it," admits White.
- With cash accounting, take a long view. If you're using a cash accounting method, be sure you can cover big expenses down the road. "If you're doing financials on a cash basis, which is just like a checkbook where you track money as it goes out and as it comes in, you need to have some way of reviewing your upcoming expenses so you're not making decisions based on what's in the bank but on what large expenses are coming down the pike," says Debra A. Warren, principal of Cinnabar Consulting in San Rafael, Calif., which provides training and employee development services to community association management firms and training and strategic planning sessions for association board members. "Also be realistic about your budget, and don't bank on collecting income you may not collect."
- Understand your state law. Be sure you're following your state's law; it may require you to produce reports using a certain method. "Under Virginia law, associations have to present financials on an accrual method in their property disclosure packages," explains White. "If you have to make the transition from a cash to an accrual system in any association of any substance, you'll have to redo the accounting for the entire year. Some developers prefer to use the cash method, and then there's a push-pull when they transfer power over to the board."
- Be clear in the budget categories you track. "Have a pretty specific general ledger account with categories for such expenses as professional fees, landscaping, maintenance, and any other categories you need," says Duane McPherson, the San Rafael, Calif.-based division president at RealManage, an association management firm that oversees properties in Arizona, California, Colorado, Florida, Louisiana, Nevada, and Texas. "You should also be able to add subaccounts to enable you to get into further detail. Subaccounts are important if you're tracking specific projects. Say you have legal fees because you have some sort of condemnation issue. You want to track those, and a subaccount can help you monitor them."
Make sure you categorize income just as closely as expenses. "You might have things like assessment income, income from the administrative fees you can charge for property disclosure packages, architectural review application fees, and even newsletter advertising," says White. "All that income needs to be broken down so you can see the various categories."
- Make sure categories will make sense in the future. Be sure you've included income and expense categories that are understandable over time. "It's really important to think about the categories you'll use for income and expenses and to make sure those are going to work for you year after year," says Warren. "Occasionally, you have expenses that won't happen every year, but when they do, they should always get categorized in the same place. If you have a volunteer treasurer doing the books, that's when it gets really difficult. If that role is transitioned from volunteer to volunteer, make sure each is using the same type of spreadsheet or Quickbooks to have that consistency."
That may not be as easy as you think. "One of the things we struggle with is the category of professional fees because you have the attorney-client privilege issue," says White. "Let's say you're in litigation with one or more of your members. You don't necessarily want them to be tracking those fees, but at the same time you don't want to be hiding the ball from your members on what you're spending. The owner you're in litigation against could argue, 'This is how unreasonable our board is; look how much it's running up in professional fees!' At the same time, the owners' attorneys are running the meter up as high as they can on the fee side."
- Add and deduct funds from the proper accounts. If you miscategorize expenses or income, you can skew your entire accounting system. "One association had been contributing to its reserve fund for years, but rather than spending out of reserves for projects, the board was spending out of its operating fund," explains McPherson. "Sometimes expenses aren't maintenance items but reserve expenses. At that association, assessments were larger than they needed to be."
- Make monthly and yearly analyses. "I recommend a 12-month spreadsheet to show you what expenses and income are in any given month compared to the previous month and year," says McPherson. "That shows you when something's out of whack. Amounts could be off because an expense is seasonal, or it could be that previous bills weren't paid."
White agrees. "When you read your association's budget on a month-to-month basis, often things jump out at you," she says. "For example, you may find there's a large amount of accounts receivable. If so, ask tough questions of your management company."
- Know what to ask. If you're not comfortable reading financial statements, the only way to change that is by not giving up. "Have a really good advisor, and ask questions," suggests White. "A lot of people are afraid to ask questions. Just say, 'Help me understand why these numbers are where they are.' A lot of board members are so intimidated, but as they progress in their understanding, they're less shy about asking questions—and that's when they really start exercising their fiduciary duty."
- If you run into problems, don't panic. "One of the most common challenges board members have is recognizing that budget line items are good-faith estimates based on history, but they're not etched in stone," says White. "We have some board members who don't realize that if they're overbudget in one line item, it may not be a complete disaster for the association. But they may need to cut back in other areas. There will always be categories that go overbudget, so it's a good idea to budget for some extras."