Nevada Is Asking How HOAs Will Pay the Bills. We Should Also Ask Who Gets to Create Them.

Nevada's CICCH Commission and CIC/HOA Task Force are examining the growing financial pressure on homeowners. The Task Force's July discussion identified rising assessments, special assessments, insurance costs, reserve obligations and stricter lending requirements as threats to affordability and community financial stability. The Commission is set to discuss related rulemaking Sep 8th.

The discussion is necessary. But funding reserves is largely treating today's problem after it has already been created. There is an earlier question Nevada should be asking:

How much long-term financial obligation should a developer be permitted to attach to a home in the first place? What kinds of obligations should developers be allowed to attach to homeownership ? See our post Nevada Homeowners: Understanding the Risks of Developer-Created Amenities

Developers Don't Just Build Homes. They Design Future Expenses.

When a developer creates a common-interest community, it decides much more than where the streets and houses will go. It can create:

• elaborate landscaping;

• private streets and gates;

• pools and recreational facilities;

• clubhouses and fitness centers;

• extensive walls, lighting and water features;

• security systems;

• golf courses;

• restaurants and club operations; and

• other amenities and facilities owners may eventually become obligated to maintain.

Those amenities help market the development. They can make homes more attractive and may increase what purchasers are willing to pay. But every amenity also creates a cost. Some of those costs may not become apparent for 10, 20 or 30 years.

The developer gets to exclusively decide what is built. Future homeowners inherit the bill. A $250 HOA assessment doesn't tell you what the community costs.

For most buyers, the largest housing expense, at least at first, is the mortgage. With a fixed-rate mortgage, that expense is remarkably predictable. HOA assessments are different. So are property taxes. Both can finance services and infrastructure associated with living in a particular place. Both are mandatory. And both can continue increasing long after the mortgage payment has remained essentially unchanged—or even after the mortgage has been paid off.

That matters because buyers understandably focus on whether they can afford the home today. The more important question may be: Can they afford the mandatory cost of living there 15 or 25 years from now?

Nevada already requires a developer's public offering statement to disclose the amenities anticipated for a community and to provide association budget information, including reserves and projected assessments. But showing a buyer today's assessment is not the same thing as showing the long-term cost structure the developer has created. A new community can be especially deceptive in this respect. Its streets are new. Its roofs are new. Its pools, gates, irrigation systems and buildings are new. Major replacement costs may still be decades away.

That does not mean those costs do not exist. It means they have not arrived yet.

Reserves Help. But They Don't Answer the Bigger Question.

Much of today's reform discussion understandably focuses on reserve studies and adequate reserve funding. That is important. Nevada should not allow predictable future repair and replacement obligations simply to be ignored. But imagine a developer builds a community whose amenities will eventually require extraordinarily high assessments even if every reserve calculation is perfect.

There is nothing a better reserve study can do about that. The reserve study simply tells us how much the decisions already made are going to cost. That raises a more fundamental policy question: Should there be limits on the amount of perpetual mandatory financial obligation a developer may impose on future homeowners?

At minimum, Nevada should seriously examine that question rather than assuming that anything placed in a declaration is acceptable so long as purchasers receive enough paperwork.

Then There Is an Entirely Different Kind of Amenity

A swimming pool and a private street present principally an engineering and financing problem. We can estimate useful lives. We can estimate replacement costs. We can calculate annual reserve contributions. A golf course, restaurant or similar operating enterprise is fundamentally different.

Its future cost cannot be determined simply by calculating replacement schedules. Its viability may depend on:

• future customer demand;

• memberships;

• outside use;

• food and beverage sales;

• labor costs;

• water and utility costs;

• insurance;

• competition;

• management performance; and

• consumer preferences decades into the future.

Those aren't reserve assumptions. They are business risks.

And when an HOA is required to own, operate or subsidize such an enterprise, those business risks can effectively be transferred to homeowners.

Homeownership Should Not Make Someone an Investor

Consider a developer-created golf course. The golf course may create beautiful views, provide recreation, distinguish the development from competitors and increase the value of surrounding lots during the developer's sales period. But what happens 25 years later if the golf operation cannot support itself?

Or if the restaurant consistently loses money? Or if outside play that was expected to support the facility never develops? Or if water, labor and operating expenses dramatically exceed what anyone anticipated? The developer may be long gone. The homeowners remain.

That is different from requiring owners to repair the community swimming pool. It potentially makes homeowners the guarantors of a commercial enterprise they did not create, do not manage individually and may have no practical ability to exit.

Better disclosure does not fully solve that problem. A homebuyer should not have to evaluate a 30-year restaurant business plan or determine whether a golf course will remain economically viable in 2055 simply to decide whether to buy a house. And even the most sophisticated original purchaser cannot make that decision for every future owner who will purchase the property.

Maybe Some Obligations Should Simply Not Be Permitted

That is why Nevada should consider going beyond disclosure. A developer should certainly be free to build a golf course, restaurant or private club and operate it as a separate business. Residents can choose whether to patronize it or become members. But there is a legitimate question whether a developer should be permitted to permanently attach the operating risk of that business to ownership of a home.

A sensible distinction may be: Community amenities exist primarily to serve the homeowners and involve reasonably predictable maintenance and replacement obligations.

Commercial enterprises depend materially upon continuing business activity or outside revenue to remain viable.

For the second category, the better public policy may simply be: A developer may not impose through a declaration a perpetual mandatory obligation on homeowners to own, operate or subsidize a commercial enterprise.

If owners later decide they want to acquire or operate such a facility, that is a different matter. They can make that decision themselves, with meaningful owner approval and knowledge of the financial condition at that time. But it should not necessarily be a decision a developer can make for generations of homeowners before the first house is even sold.

A Good Question for Nevada's CIC Task Force

The CIC/HOA Task Force exists specifically to study issues affecting common-interest communities and recommend legislation or regulations that would be beneficial. It is already examining financial pressures in CICs and looking for ways to protect affordability.

That discussion should not stop with: How do we make sure associations adequately fund their reserves?

That is today's itch. The Task Force should also ask what caused it—and how much more financial risk Nevada law should allow developers to build permanently into tomorrow's communities. The questions should include: What long-term obligations should a developer be permitted to impose on future homeowners?

Should purchasers be shown the expected lifecycle cost of the community rather than merely today's assessment?

Should there be limits on unusually costly amenity packages?

And most importantly: Should Nevada allow a developer to make future homeowners financially responsible for keeping a commercial enterprise alive at all?

Nevada spends considerable effort regulating how HOA boards manage the obligations they inherit. Perhaps it is time to pay more attention to who creates those obligations—and whether some of them should ever be imposed in the first place.