What is an HOA?
- An Introduction to CID's
Prior to the mid 1960s, the typical family home in the United States was almost exclusively the single-family detached house located in a neatly arranged subdivision. There seemed to be an unlimited supply of land. Each house was built on a separate lot. Construction costs were moderate and stable. The sidewalks, streets, lighting, other basic services (the infrastructure), and any parks or recreational facilities in the neighborhood were provided and maintained by the local government through taxes.
In recent years, land in desirable areas for home building has become much scarcer and, consequently, more expensive. Construction costs have continued to rise along with everything else. Government can no longer afford to provide the same level of service and variety of amenities to enhance the quality of life as it has in the past.
In order to continue to produce affordable housing and maintain an adequate housing supply for the population, land use had to become more efficient, and construction methods more economical. Ways to relieve local government of the burdening costs of infrastructure had to be discovered.
One response to the challenge came in various forms of group or cluster housing coupled with shared ownership of the land which, today, are collectively referred to as CIDs. Currently, it is estimated that more than 31 million Americans live in some type of CID. There are about 20,000 CIDs in California alone, with new ones being built every day.
A CID is descriptive not only of a certain type of real estate and form of home ownership, but also of a life-style that is becoming more and more common to the American way-of-life. To understand the concept, it is important to know that there is no one structural type, architectural style, or standard size for CIDs. They come in a variety of types and styles, such as single-family detached houses, two-story townhouses, garden apartments with shared "party walls," and apartment-like, multi-storied high rises. While recent studies indicate that the average-size CID in California is made up of 88 units, CIDs may, in fact, range in size from a simple two-unit development up to a large complex having thousands of units, many commonly owned facilities, and multiple associations under the auspices of one overall master association. However, despite the wide range of differences that may exist among CIDs, all CIDs are similar in that they allow individual owners the use of common property and facilities, and they provide for a system of self-governance and some degree of service for the benefit of the homeowners.
Something in Common
CIDs have distinct legal characteristics that distinguish them from other forms of home ownership. One important feature is that the ownership in a CID combines individual ownership or the right of exclusive occupancy of a residential unit with the shared ownership of the common area within the development. Another distinguishing trait is that owners in a CID are automatically members of a homeowners' association that is responsible for the operation and maintenance of the common area. This association also provides for a system of self-governance. Finally, to pay the costs of the operation of the association, CID owners are assessed dues to cover their equitable share of the association's expenses.
Comparing and Contrasting
Four types of CIDs are common in California: condominiums, planned developments, stock cooperatives, and community apartments. Condominiums and planned developments, two of the most common CIDs, are similar to each other in that both provide the owner with title (ownership) to a residential unit and the right to use the common area within the development. The main difference between condominium and planned development ownership lies in the way title to the common area is held. In a condominium, each homeowner has an undivided interest in the common area with all the other owners in the development, whereas, in a planned development, the homeowners' association usually owns the common area.
By comparison, in the community apartment form of ownership the homeowner owns a title interest in the development. In the case of a stock cooperative, the homeowner owns a share of stock or a membership interest in the corporate entity that owns the structures and land comprising the CID. Coincidental with either of these two forms of ownership, the homeowner has the exclusive right to use a specific residential unit within the development.
Basic Structure and Early Operation
When a subdivider develops a CID, the subdivider must simultaneously structure an association of the CID owners that will be responsible for the ongoing management, operation, and maintenance of the common area. In creating this association, the developer must establish reasonable arrangements for the total operation of the association, to include: levying assessments; member and governing body meetings; voting and elections; governing body duties; and rights and responsibilities of the association. Initially, these arrangements must meet the requirements of the Real Estate Commissioner's Regulations administered by the DRE.
The DRE's regulations constitute the standards by which DRE evaluates the governing instruments for subdivisions, however, they do not constitute substantive requirements in and of themselves. DRE's role with regard to CIDs is primarily one of seeing that the initial subdivision offering is made under reasonable arrangements.
The Declaration, By-laws, and Articles of Incorporation are the documents used to establish the framework for the operation of the association. They form the legal basis for the "mini-government" of homeowners that is created. These documents are generally enforceable in a court of law, if the need ever arises. Once the original subdivider or his or her successor in interest holds title to less than 25% of the lots or units in the project, the association is free to change the governing instruments as it sees fit as long as the changes are consistent with the Common Interest Development Act. (See Civil Code Section 1350 et seq.) Case law mandates that the developer operate the association at all times in the best interest of the homeowners throughout the marketing phase, up until such time as the developer is no longer in control and the management and operation of the association passes to the homeowners and their elected representatives. Once this transition of power is complete, sales by the developer cease and the homeowners are in charge. The association becomes a totally independent entity answerable to its membership.
The homeowners' association is unique to CIDs. It exists only to serve a particular CID. Each owner in a CID automatically becomes a member of the association on taking title to a lot or interest in the project. Membership automatically terminates on the transfer of title. Only owners are association members and all owners must be members.
With the exception of associations in which the developer is in control, each member of the association, generally, has one vote for each subdivision interest owned. When a lot or unit is owned by two or more persons as co-owners, the governing documents usually provide for a method of determining how the one vote can be exercised on behalf of the various owners.
Rights and Powers of the Association
The association must be given sufficient authority to effectively manage, operate, and maintain the common area which typically includes the landscaping, recreation facilities, private streets and driveways, outdoor lighting, structures, roofs, fences, and any other components of the common area of the CID. Powers adequate for this purpose are set forth in the CID's governing documents.
These powers are usually delegated by the association to a governing body that must be elected by the membership at an annual or special meeting. The procedures for the election and for the removal of the members of the governing body are provided in the governing documents.
Although the governing body is given the power and responsibility to act on behalf of the association, if an action contemplated by the governing body will have a material effect on the rights of the membership, prior approval by at least a majority of the association is sometimes required. Examples of actions requiring such a vote are:
Levying a regular assessment on each unit or interest that is more than 20% greater than the regular assessment for the preceding fiscal year or special assessments which in the aggregate exceed 5% of the budgeted gross expenses for that fiscal year. These limits do not apply to increases necessary for emergency situations. An emergency situation is defined as an extraordinary expense: required by the court; or, necessary to repair or maintain common areas or other areas for which the association is responsible, which could not have been foreseen; or, to remedy a threat to personal safety. The limitation set forth above also does not apply to a special assessment to reimburse reserves transferred temporarily by the governing body to meet short-term cash flow requirements;
Where necessary, extending the term of the Declaration of Covenants, Conditions and Restrictions.
The Governing Body
Powers and Duties
The powers of the association to manage the CID are normally exercised by a board of directors or similar governing body that is elected by the homeowners. The governing body is usually delegated the complete authority to manage the affairs of the entire project, subject to the control of the homeowners. The specific duties and powers of the governing body, generally set forth in the governing documents, normally include, but are not limited to the following:
• Enforcement of the governing documents and any other instructions necessary for the management of the project;
• Collection of assessments from association members for the payment of taxes, insurance, and operational costs related to the common area;
• Contracting for goods, services, and insurance on behalf of the association, subject to some limitations;
• Delegation of powers to committees, officers, and employees appointed and hired by the governing body to assist in the management and operation of the association;
• Preparation of budgets and financial statements as called for in the governing documents or as prescribed by law;
• Adoption and enforcement of rules for the operation and control of the common area;
• Ability to take disciplinary action, including fines, interest, and late charges, against association members who violate the governing instructions;
• The right to enter a privately owned unit or interest in connection with construction, maintenance or emergency repair for the collective benefit of the owners;
• Election of officers of the governing body and filling vacancies, except for one created through a removal by the association membership; and
• Repair and maintenance of the common area.
Funding the Association
The sole source of income for most associations is assessments levied on all owners in the project, including the developer, for each interest or unit owned. (In CIDs where some owners may receive greater services or benefits, assessments may be determined by a formula or schedule that is based on the proportional value of common area services provided.) Regular assessments cover the day-to-day costs of running the association, which include the management and operation of common area recreational amenities such as swimming pools, clubhouses and tennis courts, and services that include landscape maintenance, security guards and scheduled social activities.
Regular assessments for all units or interests, including those owned by the developer, in a single phase CID, or in a phase of a multi-phase project, generally begin, for each phase, on the first day of the month following the first completed sale. (A single phase project is one completely developed at one point in time; a multi-phase project is developed in increments at different points in time.)
Additionally, the governing body has the authority to levy special assessments against all CID interests or units for major repairs, replacements, or new construction on the common area or for a one-time, unanticipated expense which cannot be covered by the regular assessment (for example, insurance premiums that unexpectedly "sky rocket").
The special assessment should not be confused with a monetary penalty levied by the association against an individual homeowner to reimburse the association for an expense such as damage to the common area, or imposed as a disciplinary measure for a violation of the rules and regulations.
Some CIDs establish user fees or special charges for uncustomary services and activities. Typically, they are imposed on an owner specifically benefiting from the service, such as an owner who wants to use the common area pool, club house, or tennis courts to entertain private guests. The fees are usually on a pay-as-you-go basis, and they generally cannot become a lien on the owner's unit or interest.
Limitations on Governing Body Authority
Procedures for establishing and collecting regular and special assessments, late charges, interest, and fines are usually set forth in the governing documents. Even if the governing documents are more restrictive, the governing body may not, except in unusual situations or with the vote of a prescribed percentage of owners, impose a regular assessment that is more than 20% greater than the regular assessment for the preceding fiscal year, or special assessments which in the aggregate exceed 5% of the budgeted gross expenses of the association for the current fiscal year. The association must give owners notice, by first class mail, of any increase in regular or special assessments. Current law states that a late charge may not exceed 10% of the delinquent assessment or $10, whichever is greater. However, the governing instruments may specify a smaller amount. Also, any interest charged may not exceed 12%, commencing 30 days after the assessment is due. (See Civil Code Section 1366.)
Once levied, the assessments, any late charges, reasonable collection costs and interest assessed according to the law become a debt of the owner of the separate interest. The amount of the assessment plus the other described charges becomes a lien on the owner's interest at the time the association files a notice of delinquent assessment with the county recorder of the county where the separate interest is located. The lien can be enforced in any manner permitted by law, including the sale of the property in order to recover money owed the association. If and when the owner pays the amount for which the lien was filed, the association must record a notice releasing the lien.
A statement describing the association's policy regarding lien rights and other legal remedies must be delivered annually by the governing body to the membership. (See Civil Code Section 1365.)
Budgeting for Today and Tomorrow
Prompt payment of assessments by all owners including the developer is essential, not only to cover the costs associated with the day-to-day operating costs, but also to build a reserve fund for future repair and replacement of major components of the common area. The reserves are an important part of the association's annual pro forma operating budget. They are generally collected with the regular assessment and set aside in a separate reserve account for the years to come. Ideally, all major repair and replacement costs will be covered by funds in the reserve account.
As the governing body is charged with the responsibility for maintaining the association's property, it is important that the accumulated cash be available when it is needed. Unlike an independent homeowner who can cause a repair or replacement to be made and pay for it out of his or her own pocket, the governing body is dependent on the membership for funding.
An insufficient reserve fund at a time when a major repair or replacement is needed usually results in the governing body levying a potentially burdensome special assessment, borrowing the money in extreme situations, or in some cases, deferring the work. A decision simply not to perform the needed repair or replacement might also be the response of a governing body afraid of the consequences of making an unpopular decision or of one operating at the "whim" of the electorate.
Such thinking and the failure of the association to adopt a "pay as-you-go" plan for the future can create an environment of declining property values due to the increasing deferred maintenance and the association's financial inability to keep up with the normal aging of the common area components. This, in turn, can have a serious negative impact on sellers in the project by making it difficult or even impossible for potential buyers to obtain financing from an institutional lender.
By contrast, a well-funded reserve goes a long way toward maintaining property values within a CID. Not only does it help eliminate the need for special assessments, but it spreads the costs of predictable repairs and replacements over time. Healthy reserves do away with the inequitable concentration of costs for anticipated major repairs and replacements on the owners in the project at the time the repair or replacement is required.
The law now allows the governing body to borrower from the reserve fund to meet short-term cash-flow requirements or other expenses. The money must be returned to the reserve fund within one year unless the governing body can document that a delay in repayment is necessary. Ultimately, a special assessment may be required to repay the money. That special assessment would be subject to the (5%) aggregate limitation discuss above. (See Civil Code Section 1365.5.)
A reserve study prepared by the association or professionals hired by the association gives a current estimate of the cost of repairing and replacing major common area components over the long term, commonly thirty years. A reserve study generally consists of an inventory of all the major component parts of the common area, an estimation of the remaining useful life of each component, as well as the cost of replacing each component at a predicted time in the future. A well-prepared reserve study allows the association, the owners, and potential buyers to compare estimated required reserves with the reserve funds on hand, and thereby serves as a guide to their respective future actions. If the replacement value of the major components which the association must maintain is equal to or greater than one-half of the association's gross budget, the association must, at least once every three years, cause a reserve study to be completed and review that study annually in order to make any necessary adjustments to the analysis of reserve account requirements.
The DRE has two publications that would be useful in preparing a reserve study: the "Operating Cost Manual," for budget preparation; and "Reserve Study Guidelines for Homeowner Association Budgets". For information on these and other DRE publications, write to: Book Orders, P.O. Box 187006, Sacramento, CA 95818-7006.
Distribution of Financial Statements
The law requires that the association prepare financial statements for distribution to its members annually so that the membership will have an accurate picture of the association's financial position and level of preparedness for the future, and so that the membership can participate in the financial decision-making process. These financial statements include:
• A pro forma operating budget which shall include: estimated revenues and expenses; a general statement describing procedures used to calculate necessary reserves; identification of cash reserves; an estimate of current replacement costs of and the remaining useful life of the major components the association must maintain; and a comparison, by percentage, of reserve funds accumulated and the current estimate of necessary reserve funds, with a statement as to whether any special assessment(s) will be necessary for any repair or replacement or to augment the accumulated reserves. (In lieu of the actual budget, the association may choose to distribute to all owners a budget summary with a notice that the complete budget is available upon request.) An association which does not distribute the required budget information to all owners may not impose an otherwise permitted increase in the regular annual assessment without a specified vote of the owners;
• A copy of a review of the financial statement done in accordance with generally accepted accounting principles by a licensed accountant for any association whose annual gross income exceeds $75,000;
• A statement describing the association's policies and practices in enforcing lien rights or other legal remedies for default in payment of assessments. (See Civil Code Sections 1365 and 1366.)
Duties, Rights and Powers of the Individual Owner
Duties and Responsibilities
In order that the association function successfully for the whole as well as for the parts, the relationship of the collective rights, duties, and responsibilities of the association to those of the individual owner must be recognized. When a person purchases in a CID, he or she assumes both collective and individual obligations that are set forth in the governing documents, California law, and rules and regulations adopted by the association. These duties apply not only to the common area, but also to the individual unit or interest that the person owns.
While the association is obligated to maintain the common area, sometimes to the extent of maintenance and repair of the exteriors of each owner's unit or interest, each owner is responsible for the maintenance and upkeep of the interior of his or her separate interest or unit. Typically, this includes the carpeting and drapes, interior walls, cabinets, counter tops, and the appliances and fixtures.
The individual owners may also have explicit maintenance responsibility for exclusive use common areas such as private yards, decks, and front doors. Sections 1351 and 1364 of the Civil Code specifically designate internal and external telephone wiring to serve a single separate interest as an exclusive use common area. The owner of a separate interest will be allowed reasonable access to the common area for the maintenance of internal and external telephone lines, subject to the consent of the association.
Each owner has the duty to pay assessments in a timely manner. Failure to fulfill this financial obligation not only places the association in financial jeopardy by creating a shortfall of funds necessary to operate the project, but also subjects the delinquent owner to potential interest charges, late fees, and costs of collection, including reasonable attorney's fees.
In addition, each owner must accept personal responsibility for his or her actions, as well as the actions of his or her guests, children, and pets with respect to the common area and/or to the other owners in the project. This personal obligation also extends to each owner's role in ensuring maximum property value for all units in the project by adhering to maintenance standards appropriate to the project. This "pride-of-ownership" is reflected in the upkeep of the individual unit or interest by each owner.
Along with the duties and obligations to the association, owners have specific protection of their ownership rights under California law, as well as through the governing documents. One of the most basic of these rights is the owner's right to the quiet use and enjoyment of his or her unit or interest, as well as the right to use and enjoy the common area, subject to the established rules and regulations, and to the rights of others.
While the association generally has the exclusive right to modify or improve the common area, the individual owner has the right to modify or improve his or her unit (accordingly to the architectural controls and procedures in the governing documents and the local building codes and standards, as applicable). However, any such modifications or improvements must not adversely affect the rights of other owners. The rights of individuals to modify their units include handicapped owners, who also have additional rights under federal and state laws to improve the accessibility and livability of their units. (See Civil Code Section 1360.)
CID owners have a basic right to be informed and to participate in the operation of the association. In order that homeowners are given this opportunity, the governing documents include specific provisions for the association's giving notice of meetings, posting and/or mailing of certain information, and disseminating required financial statements, and other related information.
Right to Vote and Approve
Many governing documents grant CID owners the right to vote on major issues affecting the association, such as:
• Election and/or removal of members of the governing body;
• Amendment and/or extension of the effective date of the governing documents;
• Approval of some third-party contracts entered into by the association;
• Approval of regular and special assessments in excess of annual amounts of increase allowed by law;
• Approval of various other decisions and expenditures such as improvement of the common area, annexation of other property to the existing project, and selling property of the association.
A successful and viable CID is generally one in which homeowners assume an active role in the association's function, not only by attending meetings, voting, and paying dues on time, but also by taking an active role in the actual functioning of the association by running for the elected offices, serving on committees, and generally participating in group activities. It is one where owners have developed and fostered a "sense of community". While the framework of the association is the governing documents, it can certainly be said that the "backbone" of the association is the active and involved membership