Sinking Funds & Sinking Fund Forecasts
A sinking fund is set up by the owners corporation of a strata titled development, to cover the costs of future capital expenses, which include for example, painting the building, driveway refurbishment, replacement of common property items like carpets, roofing and guttering and lift overhauls.
WHAT IS A STRATA TITLE?
Put simply, Strata Title is a system for handling the legal ownership of a 'portion' of a building or structure. These 'portions' can be made up of many different styles ranging from units, townhouses, villas, commercial offices, factories, retail shops, etc.
Strata titles exist in many different types of developments, including;
Mixed use - i.e. retail and/or commercial and/or residential;
The owners corporation is responsible for protecting the development assets by ensuring all maintenance and repairs are carried out when needed.
Ultimately, the responsibility of the Owners Corporation is to look after all aspects of the Common Property of the Strata Scheme.
This is something that must be determined from the beginning. The NSW Dept of Fair Trading states that the owners corporation must repair common property whilst owners are responsible for any repairs within their unit or 'lot'.
WHAT IS USUALLY CONSIDERED COMMON PROPERTY?
As we all know, repairs and defects can develop at any time and, as a building ages, repairs will be needed.
Careful planning is essential from the beginning to ensure that appropriate allowances for replacement and repairs have been accounted for.
Many Strata Schemes, for a variety of reasons, may find themselves in the position where money is desperately needed to pay for essential repairs or renovations but the bank account is 'empty'.
An example of some of the common ‘common area’ items are:
Concrete driveways and paths;
Fire safety equipment;
Building facade repairs;
Cracking to walls and subsidence;
Common property painting and maintenance;
Rendering the building's façade;
Landscaping (fencing, plants, etc);
HOW TO ENSURE THAT SUFFICIENT FUNDS ARE RETAINED?
In past years, it was very common for many owners corporations to avoid looking to the future or minimising their sinking funds to the eventual detriment of all the owners in the scheme.
Therefore the outcome was that when the time would come when something had to be either replaced or repaired, there were no funds in the sinking fund to do the job. The Owners Corporation therefore had no other option but to raise a Levy asking for money to fix whatever had to be fixed.
Now, when this situation occurs there are a couple of options open to the Owners Corporation including:
Don't do anything and wait until repairs are required and raise the funds via a ‘passing the hat around’ or applying for a Strata Finance loan or raise a special levy. (not recommended). Implement a Sinking Fund Levy (Sinking Fund Forecast) so the works can be completed when required. (recommended).
TYPES OF STRATA LEVIES
Strata Levies must be determined and administered by the Owners Corporation with levy notices being issued on a regular basis.
Strata Schemes should impose a regular strata levy, recommended to be collected quarterly, on all the lot owners.
The money collected is deposited into the strata scheme's trust account and is then used to fund the running and maintaining of the strata scheme.
There are three types of Strata Levies:
1. Administrative Fund Levies - to cover the day-to-day running expenses;
2. Sinking Fund Levies - for long term repairs and maintenance;
3. Special Levies - for all those unexpected expenses where no funds were allocated.
SINKING FUND LEVIES (Sinking Fund Forecasts)
The Sinking Fund, also under the control of the Owners Corporation, is essentially a large capital expenditure fund that pays for both expected (long term) and unexpected replacement, repairs and maintenance.
MCG Quantity Surveyors have noted some of the usual items requiring replacement above.
Working out just how much to allocate towards these unexpected events is not an easy task and this is where the help of some experienced and knowledgeable people is required to ensure the Sinking Fund does what it's supposed to. It is recommended that Quantity Surveyors provide a detailed cost account and lifecycle for the forecast replacement of the item.
By handling the sinking fund properly, the owners of the scheme may never have to face the dreaded Special Levy, since sufficient funds should always be available.
It is NSW law to have a Sinking Fund Forecast!
Thankfully, due to increasing pressure from a number of areas, legislation was passed to 'phase in' mandatory 10-year sinking fund plans beginning from July, 2006 for all NSW Strata Schemes. Essentially all NSW Owners Corporations now have to have 10-year sinking fund plans done for their Strata Schemes in an effort to eliminate the problems of insufficient funds for capital works.
By now, every scheme in NSW should have done their 10-year plans with many now having to revisit these (and amend them if required) as per the legislation.
You can read the details about this requirement in the NSW Strata Schemes Management Act 1996: Schedule 75A - Owners Corporation to prepare 10-year sinking fund plans.