Homeowners associations need ample funds to perform maintenance activities, enforce rules, and provide convenient services. While HOA fees can often cover costs, they are not always enough. This is why some associations turn to HOA loans.
What Are HOA Loans?
HOAs have several income streams at their disposal to fund daily operations. The most common is through HOA dues and special assessments. Good associations also keep an adequately funded reserve account for upcoming renovations, repairs, replacements, and enhancements.
However, HOA financing is rarely easy. Everything from delinquencies to surprise expenses can make keeping the neighborhood financially healthy hard. Insufficient capital will prevent the board from fulfilling its fiduciary obligations to the community. Maintenance work can fall by the wayside, and utilities might be cut off entirely.
This is where loans for HOAs and condo associations come in. Banks and financial institutions provide HOA loans to communities like they would businesses or individuals. The HOA can use the money now and pay off the debt (with interest) over time.
Types of HOA Loans
There are four different types of HOA lending.
1. Line of Credit
Line of credit is a flexible loan with a borrowing limit. HOA lending banks and creditors will only charge interest on the amount you borrow. However, the HOA loan rate is variable. This means you have to pay different loan amounts each month.
Line of credit typically has short-term payment periods ranging from one to five years. It’s ideal for HOAs that have immediate issues they need to address. For example, it can be helpful during emergencies and natural disasters.
2. Line of Credit With Conversion
A line of credit with conversion has two parts. During the first part, it acts similarly to a line of credit. HOAs pay interest only on the borrowed amount. However, after the period has ended, the loan becomes a regular term loan. The creditor sets the rate, and the community must pay the amount until the end of the term.
3. Standard Term Loan
Standard-term HOA loans are associated with the total amount from the beginning. HOAs must pay the whole amount, plus interest, over the set term. It’s ideal for large projects, repairs, or major acquisitions. Typically, standard-term loans last from five to fifteen years. Interest rates are fixed, so the HOA can expect to pay a set amount each month.
4. Short-Term Loan
Short-term loans are the same as standard-term loans. The only difference is that the term lasts between three to ten years. Moreover, monthly payments are usually higher with less interest.
Can All HOAs Obtain a Loan?
Homeowners associations are bound by their governing documents. Hence, they can only obtain loans if the documents allow it. For many HOAs, loans will need a majority vote. HOAs also need to consider state law before acquiring a loan.
For instance, the California Corporations Code Section 7140(i) grants incorporated associations the right to borrow money. Meanwhile, the Indiana Homeowners Associations Act Section 32-25.5-3-5 prevents HOAs from borrowing money exceeding a certain amount without a majority vote from members.
Regardless of what local laws and the governing documents say, it’s better to notify residents before taking out a loan. The community can air their concerns and questions before committing to a significant financial obligation.
How to Apply for HOA Loans
Most creditors and banks treat homeowners association loans like company loans. This means HOAs must pay a principal amount and interest. Typically, HOAs take out the loan under the association’s name. The maximum repayment period is usually 15 years.
It’s essential to understand the loan terms before signing an agreement. Once you’ve chosen a specific loan, HOAs can apply for the loan either physically or online. Creditors usually need to assess risk and verify whether or not the association fulfills various HOA loan requirements. They will often ask questions about the following:
- Number of homes in the neighborhood
- Number of occupied units
- Monthly assessment charges per unit
- HOA management and capital planning experience
- Expected increase (or lack of) in monthly assessments for loan repayment
- Number of delinquencies and the amount involved
- Liquidity
The loan process usually takes six months to complete. While the process is long, most banks and creditors do not ask for collateral for HOA loans. However, they may have a right to collect the community’s assessments directly from residents if the HOA defaults on the loan.
The Pros and Cons of HOA Loans
It may be tempting to obtain a loan to solve all your homeowners association financing problems. While loans can be a quick source of funds, they also have downsides. Consider these pros and cons carefully before jumping in.
Advantages
There are three main advantages to taking out a loan.
- Quick Funding. Loans allow HOAs to obtain funds quickly without depleting reserves. This allows the community to make immediate repairs and replacements before prices increase in the following years.
- Lower Assessments. Loans reduce the number of special assessments, which can be burdensome for homeowners. While loan repayment dues may still rise, the increase may be slightly smaller compared to direct funding from assessments.
- More Effective. Increased capital allows the HOA to carry out projects immediately. It may also be used to obtain investments and discounted insurance rates, which can save more money in the long run.
Disadvantages
While there are many advantages to loans, there are also drawbacks.
- Inappropriate Use. Taking out a loan for the wrong reasons, such as to offset monthly dues or fund an unnecessary project, can devastate the community’s finances. Loans should only be taken out when necessary, or it makes more financial sense.
- Delinquencies. Homeowners may default on their monthly assessments, putting the HOA in hot water. The HOA may experience delays and even default on repayment, leading to more financial losses and debt.
- Loan Management. The bank will ask for a lot of information and requirements to determine your HOA loan interest rates. Managing the loan and how much you need to assess to make repayments is tricky. It often requires the help of financial experts, such as financial managers or HOA management companies.
- Increased Fees. HOAs will eventually need to raise assessments to make repayments.
Exercise Discernment
HOA loans can benefit communities in need of immediate funding. However, it’s important to exercise discernment before taking out a loan. The HOA should compare creditors and choose only those with experience working with HOAs. Moreover, they should consider the consequences of being in debt as it may cost more in the long term.
Landmark Community Management offers various HOA management services, including financial management, to communities across Texas. Partner with us by contacting us online or dialing (512) 569-5527 today!
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