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Excess Assessments

Started by BruceF1 • 19 replies • 4970 views

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BruceF1 (Connecticut)
Posts: 2,535
Posted:
A few times in this forum people have asked what should be done when the annual assessment exceeds the amount needed for the year's expenses. That is, you end the year with a surplus. After all, the association is not supposed to make a profit, right? Well, the IRS wants you to either return the surplus to the homeowners or pay taxes on it.

You might find this article from the home page of HOATalk.com interesting.
SusanW1 (Michigan)
Posts: 5,202
Posted:
The article sums us as:

"The major area of error appeared to be that Sun City Anthem had overcharged annual member assessments and failed to refund the surplus to members, and failed to pay income taxes on the retained surpluses."

It's not clear how this happened.

This could have even been a bookkeeping or billing error that resulted in excess revenues coming in that weren't refunded. In that case,the HOA should not have kept the money.

RogerB (Colorado)
Posts: 5,067
Posted:
Bruce, don't be misled by this article. The annual assessment should exceed the year's OPERATING expenses. IMO, there should be funds placed in a RESERVE ACCOUNT every year to the extent that a special assessment should not ever be required. The details of the IRS review were not given, however, if an HOA is qualified to use IRS form 1120-H this problem should not occur.
JohnC46 (South Carolina)
Posts: 14,265
Posted:
I find the article to be very incomplete. Several have said an HOA can/should have a surplus every year to fund the Capital Reserve and there are methods to deal with it.
BruceF1 (Connecticut)
Posts: 2,535
Posted:
I'll agree the article does not provide details on how the IRS arrived at their conclusion. It could be a bookkeeping issue. It could be that the association filed 1120 instead of 1120-H. It could be that an audit revealed that the association wasn't qualified to file an 1120-H because the 60/40 income and/or the 90/10 expenditure tests weren't met. One should ask, however, what triggered the audit in the first place? Audits are usually triggered when something on the return appears to be outside the norm. I also agree that the association should be putting money into reserves, but that contribution should be a line item in the budget. It shouldn't be "whatever we have left over at the end of the year goes into reserves." My guess is that anything much over 10% of the annual budget going into reserves will likely draw suspicion unless there's a solid reserve study to support a greater annual reserve contribution.
EllieD (Vermont)
Posts: 446
Posted:
Bruce,

As RogerB just posted – any “left over” money should go into reserves.

Also State Statutes and/or the Declaration or CC&R’s may prevail.

From the Vermont Statute: (emphasis added)
§ 3-114. Surplus funds
Unless otherwise provided in the declaration, any surplus funds of the association REMAINING AFTER payment of or provision for common expenses and any PREPAYMENT OF RESERVES shall be paid annually to the unit owners in proportion to their common expense liabilities OR CREDITED TO THEM to reduce their future common expense assessments. (Added 1997, No. 104 (Adj. Sess.), § 3, eff. Jan. 1, 1999; amended 2009, No. 155 (Adj. Sess.), § 33, eff. Jan. 1, 2012.)
--------------------
And from the 2008 UCIOA
SECTION 3-114. SURPLUS FUNDS. Unless otherwise provided in the declaration, any surplus funds of the association remaining after payment of or provision for common expenses and any prepayment of reserves must be paid annually to the unit owners in proportion to their common expense liabilities or credited to them to reduce their future common expense assessments.

Comment (from the UCIOA drafters)
1. Surplus funds of the association are generally used first for the pre-payment of reserves, and remaining funds are thereafter credited to the account of unit owners or paid to them. In some cases, however, unit owners might prefer that surplus funds be used for other purposes (e.g., the purchase of recreational equipment). Accordingly, this section permits the declaration to specify any other use of surplus funds.

2. The requirements of this section track the requirements of the current Internal Revenue Code; see Rev. Rul. 70-607. The unit owners, of course, may vote to reverse this outcome. As a practical matter, in the everyday activities of the unit owners association, the matters addressed in this section will rarely arise.
---------------------------
And this should be from CT (BRUCE – do you a “up-to-date” link to a pdf version of the current CT Statute?)

Sec. 30. Section 47-256 of the general statutes is repealed and the following is
substituted in lieu thereof (Effective July 1, 2010):

Unless otherwise provided in the declaration, any surplus funds of the association remaining after payment of or provision for common expenses and any prepayment of reserves shall be paid annually to the unit owners in proportion to their common expense liabilities or credited to them to reduce their future common expense assessments.
LarryB13 (Arizona)
Posts: 4,099
Posted:
Just to clarify the article. Sun City Anthem received a large percentage of its income from sources other than HOA assessments. Greens fees, restaurant sales, and commercial space rentals accounted for much of its revenue. Not being a tax person and based on memory, the IRS guidlines are that an HOA pays taxes on its income if a certain percentage was not from assessments. Sun City Anthem is atypical for most HOA's.

Check the older news reports because there was a more extensive article about Sun City Anthem's tax problem just recently.
LarryB13 (Arizona)
Posts: 4,099
Posted:
The article I had seen can be found
by clicking here.

This article is actually about Sun City Summerlin, which has the same issues as Sun City Anthem.

In case my html does not work, the link is
http://www.lvrj.com/business/banked-cash-may-create-tax-trouble-for-summerlin-hoa-group-137844563.html?ref=563
JohnC46 (South Carolina)
Posts: 14,265
Posted:
Quote:
Posted By LarryB13 on 01/25/2012 12:00 PM
The article I had seen can be found
by clicking here.

This article is actually about Sun City Summerlin, which has the same issues as Sun City Anthem.

In case my html does not work, the link is
http://www.lvrj.com/business/banked-cash-may-create-tax-trouble-for-summerlin-hoa-group-137844563.html?ref=563

Larry

Thank you for taking the effort to do this. The original linked article was at best, misleading.
RogerB (Colorado)
Posts: 5,067
Posted:
So the income in question are not assessments, rather they are taxable "outside" income.
BruceF1 (Connecticut)
Posts: 2,535
Posted:
Larry,

Thanks. If a large portion of their income is outside income then it is likely they filed 1120 instead of 1120-H because by filing 1120-H all taxable income is taxed at 30%. Thus, there would be a tax advantage to filing 1120. My guess is their difficulties probably come from not following the IRS guidelines with respect to what constitutes capital reserve accounts and what the IRS considers as capital expenditures. Likely, what the association is considering capital reserves the IRS is considering as "surplus." Also, I expect most HOAs, like us, do not have significant non-exempt (outside) function income and should not run into this difficulty.
DavidW5 (North Carolina)
Posts: 565
Posted:
Our HOA has had a budget surplus in excess of $100,000 in each of the last 4 years. This income is all from dues. The surpluses are after contributing over $400,000 per year to reserves. Our overall operating budget is $2.3 million and our reserves are over $2.8 million. The CPA firm that does our annual audits also does our taxes and assures us we are in compliance with the IRS rules.

I have read alot about IRS revenue ruling 704. It is pretty confusing. I have to trust that our CPA is correct.
BruceF1 (Connecticut)
Posts: 2,535
Posted:
Ellie,

Thanks for the info. Yes, I have the latest PDF of Chapter 828, which is based on the UCIOA. I make it a point to keep up with pending CT legislation each year, and, at the invitation of our local legislator, have prepared testimony for submission to legislative committees considering proposed legislation.

Our declaration, by the way, basically follows Chapter 828 and was updated as a result of the changes in the law. The part that reads "unless otherwise provided in the declaration" is meaningless because our declaration doesn't provide otherwise.

It appears, from the posts above, that the funds at issue are not assessments, but other income sources.
BruceF1 (Connecticut)
Posts: 2,535
Posted:
Quote:
Posted By DavidW5 on 01/25/2012 2:09 PM
The CPA firm that does our annual audits also does our taxes and assures us we are in compliance with the IRS rules.

Since you're being advised by a professional, I would expect so.
EllieD (Vermont)
Posts: 446
Posted:
Bruce, I assumed you would have a pdf copy of Chapter 828 – and I do also – but the problem is my pdf copy is “broken” – I can only search part way through and then it gives error messages.

The last time I searched I could not find another source, so I was hoping you could post a link – so that I could download a “good” copy of Chapter 828. Thanks.
BruceF1 (Connecticut)
Posts: 2,535
Posted:
Quote:
Posted By EllieD on 01/25/2012 2:47 PM
Bruce, I assumed you would have a pdf copy of Chapter 828 – and I do also – but the problem is my pdf copy is “broken” – I can only search part way through and then it gives error messages.

The last time I searched I could not find another source, so I was hoping you could post a link – so that I could download a “good” copy of Chapter 828. Thanks.

Ellie,

Actually, what I have is a PDF copy of Public Act 09-225 which is the final legislation that amended the CT CIOA effective July 1, 2010. A copy is attached.

You can browse or search all CT statutes by going to: http://www.cga.ct.gov/asp/menu/Statutes.asp?ctportalPNavCtr=|27589|#45157

The most recent version of Chapter 828 can be found at: http://www.cga.ct.gov/current/pub/chap828.htm

Hope this helps.
BruceF1 (Connecticut)
Posts: 2,535
Posted:
Ellie,

Sorry, 09-225 is over 700kb. The max attachment size is 200kb.

EllieD (Vermont)
Posts: 446
Posted:
Bruce, Thank you.
BonnieG1 (Nebraska)
Posts: 1,186
Posted:
I will go back and read more replies later. I want to keep this thread in my forum.
We recently decided to increase the fees. I made the statement that we could return excess if we had any to the owners that option was shot down fast. I doubt that we will have any excess so I don't think it will be an issue. But I don't think we can't have an extreme excess without returning some to the owners.
BruceF1 (Connecticut)
Posts: 2,535
Posted:
Quote:
Posted By BonnieG1 on 01/25/2012 7:54 PM
I will go back and read more replies later. I want to keep this thread in my forum.
We recently decided to increase the fees. I made the statement that we could return excess if we had any to the owners that option was shot down fast. I doubt that we will have any excess so I don't think it will be an issue. But I don't think we can't have an extreme excess without returning some to the owners.

Raising fees is like raising taxes. Homeowners generally don't like it unless you can really justify it, and even then it's a bitter pill to swallow. It can make a board really unpopular.

What homeowners want is good, responsible budget planning.

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