Avoiding the Pitfalls of HOA Lending

By Popular Association Banking
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Spend a few minutes with any industry banker and they can in succinct fashion tell you the nuances of association lending, such as: the loan1 must be for a specific stated purpose; it is considered a commercial loan between the bank and the association as a corporate entity and not the individual homeowners; and the collateral is a first position right and assignment of assessments (the association’s cash flow).

The credit metrics may vary by bank; however, the core criteria are generally similar and include the size of the association (number of units), number of rental units, concentration of ownership, number of homeowners delinquent on assessments and the dollar amount thereof, percentage of the loan (on a per unit basis) versus the unit’s market value, percentage increase in assessments needed to support the loan, and adequate cash flow both when applying for the loan and over its term.

Many associations face challenges beyond credit worthiness when trying to procure a loan or line of credit. To help ensure success, let’s examine some of the pitfalls that homeowners associations (HOAs) should be aware of and what should be done to avoid them.

Engaging legal counsel

Having an attorney involved in reviewing the association’s governing documents is a critical first step that is often bypassed out of cost considerations. Governing documents may include provisions that require a membership vote to obtain a loan, prohibit financing altogether, or restrict the association’s ability to pledge assets as collateral—all of which will be problematic if not known up front.

One of the closing conditions imposed by the bank will be the receipt of an opinion letter from association counsel stating, among other things, that the association’s board of directors has been given authority via valid membership vote or board resolution to enter into the loan. Unfortunately, it is at this point, often just days prior to closing, that some of the issues outlined here come to light for the first time due to counsel not being involved earlier.

Project budgets for an HOA loan (H2)

At the heart of every HOA loan request is a reliable project budget, which must be submitted to your lender when applying for a loan. Its purpose is to validate the loan amount being requested and should provide line-item costs for each component being replaced, itemized soft costs as applicable for permit fees, construction management, project administration, engineering, and contingencies. It should also include the source of revenue that will fund the project such as loan proceeds, special assessment funds, existing reserves, etc.

Trouble lurks when the project budget submitted is based on costs that were simply extracted from the most current reserve study, which can result in cost overruns. A reserve study is a long-term financial planning tool and not a substitute for a well-thought-out construction budget.

The association should apply for the loan once the project budget has been solidified. If a membership vote is required to obtain the loan and pass an underlying special assessment, it is prudent to have a firm credit decision and loan commitment in place prior to your final town hall meeting and subsequent vote on the matter.

Membership acceptance

The toughest challenge of any project requiring additional funding is overcoming the political component that requires an affirmative vote from a majority or more of the association membership. To be successful, a proactive campaign to educate homeowners about the project and its funding options should be implemented.

Communicate facts early and be completely transparent. Be prepared to conduct one or more town hall meetings as another opportunity to disseminate information and, more importantly, allow for membership feedback. Assemble a panel of experts that includes association legal counsel, construction manager, banker, and selected contractor. After initial introductions, let your professionals give the presentation and conduct the Q&A session that follows. This will add credibility to the information presented and take a lot of the pressure off the board and manager.

Be forward thinking in the development of the presentation and be prepared to answer fundamental questions, like, “Have multiple bids been received?” “What are available payment options?” Finally, give the membership time to process the information being presented and avoid fast tracking a vote.

It isn’t enough for an association to simply qualify for a loan. Getting to the closing table is often a long, multifaceted process that, if not executed with a high degree of detail and care, can cause harmful delays or, in some instances, stop the process of securing a loan altogether. The difference between success and failure can often be traced to the association’s ability to avoid the pitfalls.

To learn more about how Popular Association Banking can help your association, connect with one of our specialists today


1 All loans are subject to credit review and approval. Member FDIC

The information mentioned in this article is for informational purposes only, is intended to provide general guidance and does not constitute legal or professional advice. Each person’s situation is unique and may materially differ from the information provided herein. You should seek the advice of a financial professional, tax consultant and/or legal counsel to address your specific needs before any financial or other commitments regarding the issues related to your situation are made. Popular Bank does not make any representations or warranties as to the content contained herein and disclaims any and all liability resulting from any use of or reliance on such content.

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Popular Association Banking

Grant Shetron started in the common interest development industry in 1995 as a portfolio manager prior to becoming president of his family-run management company and going on to work as a local executive for a large management company with a national footprint. In 2013, he joined Popular Association Banking as vice president and commercial relationship officer in Northern California, specializing in providing associations with financing options for building repair and capital improvement projects. He is a graduate of San Jose State University and holds a Bachelor of Science degree in marketing and economics and currently holds CMCA, AMS and PCAM designations through the Community Associations Institute (CAI).