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Is Your Association Complying Financially?
A review of Civil Code requirements and tips on how to navigate them.
By Stephen M. Levine, Esq.
What does the Davis-Stirling Act require for annual disclosures, financial reviews, and large money transfer approvals? This article will go into financial compliance and offer best practices and red flags.
Annual Financial Disclosures
Certain financial disclosures must be made to all homeowners, while others are made to only members of the board. Civil Code §5300(b)(1) requires that an annual operating budget be distributed to the membership annually. The law requires associations to prepare pro forma operating budgets that include all estimated expenses and revenues using the accrual basis method of accounting.
The accrual basis of accounting is vital, ensuring a more accurate depiction of the association’s financial status and enabling direct comparisons between actual and budgeted figures. The annual budget report is a consolidated disclosure statement that must include all basic financial information and any additional requirements under the association’s governing documents. Financial disclosures must be provided 30 to 90 days before the start of the association’s fiscal year. They must include all the requisite documents enumerated in Civil Code §5300(b)(1), (i.e., the entire budget or a summary of the pro forma budget, a summary of reserves and the reserve funding plan, outstanding loans, a summary of the association’s insurance, etc.).
The annual budget report must be distributed to all members by individual delivery. It can be distributed as either the whole annual budget report or as a summary (Civil Code §5320). The summary must include a general description of the content of the annual budget report, and instructions on how the member may request a complete copy of the complete budget report. Those instructions must be printed on the first page of the summary. Upon written request under §5260, an additional copy of those notices must be delivered to a member’s secondary address (Civil Code §4040).
To meet these requirements, managers need to maintain detailed records of financial transactions, board meetings, and budget related decisions. Accurate and transparent record-keeping is good governance and essential for demonstrating compliance with California law during audits or inspections.
Management of Association Funds
Property managers must set up association bank accounts separate from their own funds and separate operating and reserve funds into different accounts (Civil Code §5380(b)(3)). Boards may not expend funds designated as reserve funds for any purpose other than those enumerated in Civil Code §5510(b). However, without a membership vote, boards are allowed to borrow from reserves to meet short-term cash flow problems or other expenses (Civil Code §5515(a)).
If a board intends to borrow from its reserves, it must list it as an agenda item in its board meeting notice. The meeting notice or discussion must include the reasons the reserve transfer is needed, options for repayment, and whether a special assessment may be considered. If the board authorizes the transfer, it must issue a written finding, recorded in the minutes, explaining the reasons for the transfer, and describing when and how the money will be repaid to the reserve fund (Civil Code §5515(c)). Borrowed monies must be repaid to the reserves within one year of the date of the transfer, except that the board may, after giving the same notice required for considering a transfer, and, upon making a finding supported by documentation that a temporary delay would be in the best interests of the association, temporarily delay the repayment (Civil Code §5515(d)).
Managers should also note that pursuant to Civil Code §5502, transfers from reserve or operating accounts shall not be authorized without prior written approval from the board unless the amount of the transfer is less than the statutory requirements of Civil Code §5380(b)(6). This section of the code provides that no approval is necessary if the amount transferred is the lessor of $5,000 or 5 percent of the estimated income in the annual operating budget for associations with 50 or less separate interests, or the lesser of $10,000 or 5 percent of estimated income in the annual operating budget for associations with 51 or more separate interests. It is important to note that this approval requirement cannot be delegated to management.
Review Of Financial Statements By A Third Party
An association must have a financial review if its gross income exceeds $75,000 (Civil Code §5305). This review shall be prepared following generally accepted accounting principles by a licensee of the California Board of Accountancy. It is based in part on management representations, includes disclosures regarding litigation that could have an unfavorable outcome for an association, and is done on an accrual basis.
A copy of the annual financial statement review shall be distributed to the members within 120 days after the close of each fiscal year, by individual delivery according to §4040 (Civil Code §5305).
Review of Association Finances
Managers must ensure that the board regularly reviews the budget and financial documents. Periodic reviews help identify potential issues early on, allowing the board to make informed decisions and adjustments. Further, Civil Code §5500 requires a monthly review of the association’s financial documents by all board members or a subcommittee consisting of the treasurer and at least one other board member. This review is then ratified at a subsequent board meeting and noted in the board minutes (Civil Code §5501).
The monthly review must include a reconciliation of the operating and reserve accounts, actual operating revenues and expenses compared to the budget, operating and reserve account bank statements, an income and expense statement for the association’s accounts, and the check register, monthly general ledger, and delinquent assessment receivable reports.
Money-Saving Tip
A number of the above statutory requirements necessitate that documents be distributed by individual delivery which means “First class mail, postage prepaid, registered or certified mail, express mail, or overnight delivery by an express service carrier” (Civil Code §4040). This “individual delivery” can cost associations significant money and burden the management office with the copying and mailing of documents. To avoid this burden, associations can distribute these documents and disclosures electronically if provided with written consent. Managers should solicit written consent from members to deliver documents to them electronically. A simple form should be prepared and sent out in a separate mailing a few months before sending out the Annual Financial Packet and Policy Statement. This simple action can save associations significant money and make them appreciate their manager even more.
