Steps that should be taken to protect a community association’s funds

November 16, 2012

When property management companies go out of business, they can leave behind trails of unpaid bills and large losses from community associations’ reserve and operating accounts.

There are many ways to protect your association funds.

First, if you are in the District or Virginia, before you hire a property management company, make sure it is licensed. In Maryland, where I understand that management firms need not be licensed, I strongly recommend you join with other community associations and petition your state legislators to enact a licensing law.

Second, check out the management company carefully. Perhaps you should even obtain credit reports on the firm (and the property manager who will be servicing your project; this will, of course, require the permission of the manager, who should not object if he or she wants your business.)

Third, keep control of your funds. Generally speaking, there are two pools of money in community associations: operating accounts and reserve accounts.

Regarding the operating account, require the property manager to get a co-signature of at least one board member on all checks exceeding a certain amount. This will, of course, create a burden on both the property manager and the board member who has to sign checks. But, in my opinion, if you want to serve on the board, you should be willing to assume those responsibilities that will protect the funds belonging to you and the unit owners who elected you.

Clearly, there are routine checks that have to be paid on a monthly basis — such as water bills, insurance and trash collection. If you set a dollar limit based on your monthly needs, the property manager can write checks up to that amount without a second signature. But any checks over that limit must be co-signed by at least one board member. Your bank will give you signature cards, and these signature requirements should be spelled out in those documents. The bank will then have to honor your request.

Regarding the reserve accounts, they should only be in the name of the association, and only board members should be authorized to sign checks (or transfer funds) from those accounts. Community associations do not transfer money often from reserve accounts; it should not be a hardship on anyone to require that only board members be authorized to have access to those funds.

Fourth, make sure that the property management company has adequate insurance covering your association in the event of embezzlement, fraud or other activities that may cause your association a loss. The insurance industry will write “third-party coverage” bond insurance that will give you protection in the event of a loss. The amount of the policy will, of course, depend on the amount of the reserves you anticipate you will carry. Some associations have hundreds of thousands of dollars in reserve; clearly, third-party coverage in the amount of $50,000, for example, is woefully inadequate for those associations.

Fifth, ask if the management company has a fidelity bond in place to cover any loss created by its employees. If they do, your association must be named as an additional insured. On all matters of insurance, discuss this at length — before you sign a management agreement — with your insurance agent.

Sixth, make sure that you (and not the property manager) hire an accounting firm to give you a full audit or review each and every year. Your association should give a letter of engagement to the accountant, and the accountant should report back to you; not the manager.

Seventh, make sure that your funds (operating and reserves) are in separate bank accounts in the name of the association. It is absolutely wrong for a property manager to co-mingle funds with other associations, or even with his own bank accounts.

Eighth, and perhaps most important, insist that the property manager give you and your board members a monthly financial-status report, which will include copies of the actual bank statements received by the management company. But your president or treasurer should also receive a copy of the monthly (or quarterly) bank statement directly from the bank.

Property managers have embezzled funds by creating false bank statements on their computer. In one case, a manager who left an association with only $2,000, created a bank statement every month showing a balance of more than $80,000.

Most property managers are honest and hard-working. However, one dishonest manager will unfortunately cast a broad brush of distrust on the entire industry.

I do not believe that property managers will object to the various suggestions I have made, and indeed may have more recommendations of their own.

Community association board members have the power to control — as best they can — the financial security of association funds, and steps should be implemented immediately, while it is not too late.

Benny L. Kass is a Washington lawyer. This column is not legal advice and should not be acted upon without obtaining legal counsel. For a free copy of the booklet “A Guide to Settlement on Your New Home,” send a self-addressed stamped envelope to Benny L. Kass, 1050 17th St. NW, Suite 1100, Washington, D.C. 20036.

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