The Annual Audit—Taking Your Association’s Financial Pulse
The health of your association’s finances can have a dramatic effect on the board of director’s ability to effectively maintain the property’s assets and value. In order to keep the property’s assets in good order and keep home sales on the rise, it is crucial that the board understand its financial position.
In today’s common interest community environment, the health of an association’s finances is being increasingly scrutinized as lenders make the decision whether to loan the funds necessary to purchase a home. Recent changes in FHA guidelines require lenders to look at the status of the reserves, cash assets, delinquency levels and other financial indicators if they a lender wants FHA to underwrite a mortgage. Even in private lending situations, many lenders will use the same guidelines in their decision making process.
There are many tools that can help the board understand the financial position of the association. While the monthly financial report is extremely useful, arguably the most important tool is the annual audit of the association’s financial records, often referred to simply as “the audit.” This document is usually required to be provided in home resale disclosures and can affect the ability of an owner to sell his or her home.
If you are serving on a board of directors, you have probably seen the audit or had it included in your management package. If you haven’t read it thoroughly, make a point to pull it out and review it. It is really not as complicated as you may think. Further, as a board member, you have a fiduciary obligation to understand the financial condition of your association, and only an audit can ensure that the financial reports you receive monthly actually reflect the true financial status of your association.
Now that you’ve started reading the audit, what should you look for? Here are a few items that will tell you a lot:
The Auditor’s Opinion – Your auditor should provide an opinion on the association’s financial reporting ability. If things are running smoothly, the auditor’s opinion will be that the financial records are maintained appropriated and the reports are presented fairly and in accordance with accounting standards. This is referred to as an unqualified or “clean” opinion. If, on the other hand, the audit is qualified, it means that the auditor has some concerns about the association’s financial reporting and perhaps its financial condition as well. Details of the auditor’s concerns will be spelled out in the audit’s letters and notes.
The Balance Sheet – The balance sheet will show the association’s cash assets (cash and investments), non-cash assets (money owed to the association and sometimes real and personal properly), liabilities (financial obligations for which the association is responsible) and members equity (assets minus liabilities).
A quick look at the cash and investments categories (in the assets section) and the amount of reserves the association should have (in the equity section), compared to the Reserve Analysis Report, will provide a good indication of whether your reserves are fully funded with cash. Simply put, if the association is supposed to have $600,000 in reserves and has less than that in the specific reserve fund, the reserves are not fully funded.
Finally, look under the assets section to find assessments receivable; this is the amount the association has billed but not yet received. If you divide that number by the total assessments budgeted for the current year, you will have your association’s delinquency percentage, an indicator of how well the association is collecting assessments. Five percent or less is the standard most auditors like to see. However, in today’s recovering housing market, ten percent or more is more the norm.
The Income Statement – This is the statement most board members scrutinize. Budgeted amounts for the year are compared with actual performance for the year. Look for significant variances between what was budgeted and what was spent. The previous year’s reporting is also included so you can see how the budget performed this year compared to the year before. Significant and continued losses year-to-year need to be addressed.
The Notes – There will be a section of the audit in which the auditor identifies areas of interest that he or she found while reviewing and analyzing the financial records. The notes may also contain general information about the community – where it’s located, what financial or physical challenges the board may have faced, and a general description of the community. The notes are more “plain English” and usually pretty easy to read, making them a great way to absorb financial information.
Letters to the Board and Management – Most auditing firms include plain English letters directed at the board and management that spell out the good and not-so-good accounting practices they found. If you are not good with numbers, this is a good place to get the details.
Ignorance is not bliss. If the numbers seem complicated, you need to ask for help. A visit by the auditor to your board meeting each year will help board members understand the association’s financial position as well as bolster the board’s comfort level with the financial reports. The same principles used in reviewing the audit can be applied to the monthly financial reporting.
Your community manager is a valuable resource in understanding your financials. He or she works with the accounting department on a monthly basis and can help the board understand what is going on financially month-to-month and what to expect at the end of the year, as well as how board decisions will affect the future of the association.
Now that you know what to look for, take the association’s financial pulse. Whether the results are good or disheartening, consult with the professionals and decide what needs to be done to establish and maintain a healthy financial posture.