You arrive home after very hard week, picking up the letters in the mailbox as you walk past.
You notice a letter from the strata manager. Opening it with some reluctance, as it generally means an invoice. While reading it, a cold sweat appears on your brow as you identify that it is an invoice for a Special Levy of $20,000.
It seems that there are major works required in the 20 unit complex in which you own an investment unit that is only 15 years old, costing $400,000.
Then just as sweat is about to drop from your brow, you shout with joy as you remember that you sold that unit three months ago. The strata manager has not got the updated details yet.
Then your partner of 10 years walks through the door. You grab them and shout, “let’s go out to dinner tonight”.
Being a bit guarded at the site of your joy, your partner asks “why what’s happened”. Well it seems we have just saved $20,000 and effectively ripped off our old Owners Corporation.
You explain to your partner, with a smile on your face, that over the 15 years that you owned the investment unit, everyone wanted small Strata fees, and it now it turns out that there is no money in the sinking fund after the external repaint. Therefore all unit owners now need to cough up a special levy to pay for major works.
What a great saving this owner has made.
What a strange statement coming from a person who has devoted their life to saving unit owners money. But the majority of unit owners are complicit in the crime of allowing others to effectively steal money from the Owners Corporation and Bodies Corporate.
I have spent the past 25 years specialising in Asset Management ranging from Public Housing, Major Government Buildings, Schools and Strata Complexes. From my level of experience, I find that the Sinking Fund used in the Strata Industry is the most effective tool for Asset Management.
It is hard to understand why unit owners deliberately under-fund the asset management of their buildings to their own determinant and allow other unit owners to benefit financially from the majority of owners.
Sinking Funds are a legal requirement under strata law in both NSW and Qld.
I have completed many thousands of Sinking Funds over the past years and the one constant, is the wish of unit owners to “keep the levies low”. In fact you will see strata units being advertised by Developers and Real Estate Agents with “low strata fees”. This is just a method of allowing a few to effectively steal from the majority.
Let me explain.
All buildings have a certain life cycle. Buildings are constructed of products that wear out and require maintenance and replacement over time. In simple terms, a Sinking Fund report is designed to identify that life cycle and estimate the cost of such replacements and maintenance. The total amount for a 10 year period is then split over the number of lot entitlements, thus giving the Sinking Fund levies payable by each unit owner.
The below graph shows the life cycle of a new 20 lot complex over a 50 year period.
You will see that there are clear spikes on a regular basis. These coincide with major expenditure items common to most strata complexes, such as repainting, roof repairs, and lift upgrades. What then generally happens is that the Committee is forced to raise a Special Levy or obtain a commercial loan. Both are major cost imposts to the current owners.
The Sinking Fund
Wikipedia defines a Sinking Fund as follows.
Sinking funds can also be used to set aside money for purposes of replacing capital equipment as it becomes obsolete, or major maintenance or renewal of elements of a fixed asset, typically a building. Such a fund is also commonly called a reserve fund, however the distinguishing feature of a sinking fund is that the payments into it are calculated to amortize a forecast future expenditure whereas a reserve fund is intended to equalise expenditure in respect of regularly recurring service items to avoid fluctuations in the amount of service charge payable each year.
This definition is very clear that the fund is to pay for “replacing capital equipment as it becomes obsolete”. To again clarify this, assets within a Strata scheme become obsolete through age and use. The assets which include all common areas of the complex and all plant and equipment, plus finishes such as painting, are used on a daily basis by those persons residing and visiting the complex.
How is a Sinking Fund Developed?
A Sinking Fund is developed by a building professional who has experience in the planning, costing, construction, and maintenance of buildings after a site visit to identify the construction details of the complex, the current condition of building elements and the particular items of plant and equipment on site.
A full listing of building elements, fixtures and finishes will then be developed together with a current condition or effective life span for each. This will provide the year in which each element or finish will require replacement or upgrade. Detailed estimates of the planned works will then be developed. This information is then correlated into a report for use by the strata for planning and funding decisions.
As part of the process to develop the Sinking Fund, the total of all works over the next 10 years will be calculated. This figure will then be divided by the number of lot entitlements to produce the amount each lot will need to contribute towards the Sinking Fund based upon the number of entitlement their lot holds.
What to look for in a company doing your Sinking Fund?
- Site visit
- A site visit is critical to accurately prepare a Sinking Fund.
- No one can accurately identify all the building elements and the current condition without a site visit
- There are times that committees will not like the results of the prepared Sinking Fund. But a committee needs to know the truth about the current condition of the complex and the required funds to correctly maintain the complex. Having a Sinking Fund prepared based only on keeping levies low will not assist the strata in the long term.
- A willingness to adjust the fund without cost
- Although a true professional will prepare the forecast in an honest fashion and not be swayed by the need to keep levies low, you should still be able to discuss the forecast and adjust it to meet specific requirements of the individual strata. This may mean that some works are postponed or accelerated depending upon the plans of the individual strata.
- Always get a few prices to prepare the Sinking Fund. It is no good having all the right intentions and being prepared to adequately fund the Sinking Fund if you are going to waste money by just accepting the first quote given to prepare the forecast. If you get quotes you are guaranteed to save money.
What Happens if the Levies Are Set Too Low?
The person who sells first before major expenditure effectively steals from the Body Corporate..
Buildings and complexes are generally described as being inanimate objects. But we at QBM who are passionate about buildings, think that they can almost be described as “living and breathing” structures.
Buildings change over time and are affected by age, internal stresses within the building, the elements and usage. It is these changes that can result in significant deterioration to the complex and the buildings making up the complex.
Each year, owners of a complex are effectively using part of the life of the building’s components as all components will require upgrade or replacement over time. Thus each owner should pay their fair share of the usage of the complex.
When levies are set too low, owners are not paying for their usage of the complex. Thus when the time comes for upgrades and replacement, the then current owners have to pay for the past usage by previous owners.
So if an investor wishes to maximize their returns, they vote against levy increases and sell before the major expenditure items are due and special levies or commercial loans are forced upon lot owners.
This is unfair and could be classed as “legally stealing”.
The Other Side of the Story
There will be many who disagree with the above assumptions. In fact committees receive offers for loans on a regular basis to enable funding of major expenditure items.
Although there are limited times when urgent expenditure is required to enable a committee to meet their legal obligations to maintain common property, a loan is the only option.
However, if a committee is forced into a decision to obtain a commercial loan to fund major expenditure, it can be assumed that they and their predecessors have completely neglected their obligations to act in the best interest of the Body Corporate.
Obtaining a loan to fund recurring expenditure and major upgrades to replace capital items should be the last possible option.
Unfortunately, there are some who feel that the current owners should not pay their fair share of the usage of the building and assets, and defer such expenditure to future owners. In fact, as reported by 9 News Finance, a representative from one of the Strata loan companies stated the following:
One perceived benefit of strata finance is that when you sell your property the loan passes on to the new owner.
“Say you had a five year loan and you sold your property at the end of two years,” says Bill Debney, managing director of Strata Finance.
“You will only pay two-fifths of the loan and the incoming buyer would assume liability for the balance.”
Reported by Gillian Bullock
Tuesday, November 14, 2006
In other words, let’s keep the levies low and not pay for our usage of the assets and let the poor unsuspecting fool who purchase the property pay for the future expenditure.
This attitude in not in keeping with the principal of strata living and shared responsibilities.
One thing committees need to understand is that these loan companies are in existence to make money. They are not the “shining white knight” they make out they are.
To help ensure a harmonious environment in all strata properties, all owners should expect and be prepared to pay for their usage of the strata assets and contribute adequate levies to their Sinking Fund and not expect future owners to pick up the tab for their almost dishonest attitude towards levy contributions.