In large developments, phasing the sale outs is inevitable, to avoid exposure to HOA assessments. Most likely, the first few phases will have the majority of the common area due to the structure of the subdivision map, causing the HOA to be “front-loaded.” This front-loading of amenities results in the first phases having unusually high HOA assessments – heavy common areas with few homes to spread the costs over.
If you deed the common areas to the association in the early phases, the assessments will go up, period. To avoid a spike in the dues, one solution might be to subsidize the buyer’s dues (cash subsidy), so the lot buyer pays a lower amount, and the seller makes up the difference. Another option might be that the seller can provide the required maintenance of certain common areas or amenities, such as landscaping, which virtually eliminates those costs from the HOA Budget for a prescribed period of time (also known as an “in-kind” subsidy). A third option might be that the subdivider enters into an agreement with the HOA to allow them to maintain the road, and only give the buyers an easement for use until more homes sell. This is known as a maintenance agreement.
A Subsidy Agreement is an easy way to reduce HOA dues. A Subsidy Agreement establishes the type and amount of the subsidy (assessment reduction) for a specific period. The subsidy agreement must stipulate clearly the term of the subsidy arrangement, and specify the value of the subsidization. The subdivider’s performance under the subsidy must be financially secured by providing a bond or other form of security in an amount based on the following equation:
(# of lots being subsidized) x (amount of subsidy) x (# months) = security amount
A Maintenance Agreement is one of the most commonly used approaches to reduce front-loading the HOA. The Maintenance Agreement documents allow the subdivider to retain ownership and maintain the roadways and whatever additional common area improvements are available for use, but not conveyed to the HOA. This is particularly effective if the private roadway consists of a single large lot on the subdivision map, which would create a spike in HOA dues if the entire road is conveyed to the Association too early in the development phasing. To avoid the spike in dues, the subdivider deeds only an easement to the HOA in the early phases and uses a maintenance agreement to retain ownership and maintenance obligations.
Since the maintenance agreement in this scenario effectively reduces dues, the Department of Real Estate treats it similarly to a subsidy arrangement and requires performance security to ensure subdivider’s performance. The security required for the maintenance agreement is calculated as follows:
(monthly maintenance & reserve expenses attributable to the amenity) x (# months retained by subdivider) = security amount
Another benefit of a maintenance agreement is that once the homes sell and the agreement is extinguished, the developer has two choices to make the HOA whole: they either pay only the reserve costs based on how long the property was maintained or give the common area to the HOA in as-new condition. Often, this is beneficial to the subdivider because they can usually get the work done less expensively than the reserve costs would be for the HOA.
So… how do you know which of these options might be best for your development? Sometimes it is difficult to see the advantages and disadvantages of each type of agreement. Should you subsidize and pay out of pocket until more homes are sold, so buyers aren’t stuck with an unreasonable HOA fee rate? Alternatively, should you enter into a Maintenance Agreement with your HOA to maintain the property yourself?
An analysis should be done to evaluate the cost of paying the higher dues, and its impact on the sale-ability of the property with the higher dues, versus carrying costs for the subsidized dues and the comparison of costs associated with the financial security and obligations under the Agreement.
At California Builder Services, this analysis is what we do best, and it’s included in our services! Now with our Phasing Predictor, we can run different scenarios to make sure you’re saving the most on your development!