Lending institutions, mortgage originators, and rating agencies routinely require Modified Replacement Reserve Studies for underwriting CMBS transactions or for loans held on the books. Such studies typically identify major salient systems that, if not replaced, could jeopardize habitability or building performance. These studies are prepared at a nominal cost commensurate with the mortgagee’s risk position and the asset’s typical due diligence closing costs.

Real estate investors and appraisers usually have different requirements than those of mortgagees with respect to capital expenditure replacement reserves. Replacement reserve funding and expenditures can significantly impact cash flow and market value.  IVI tailors our replacement reserve studies to be as comprehensive as the client requests. This can range from a fully detailed study, which is updated bi-annually, to a study with a specific number of line items complete with threshold amounts for inclusion. Such schedules can further incorporate those systems or components that may be replaced within in-house personnel or maintenance staff. Sophisticated replacement reserve software is used, which identifies the reserve account’s cash balance over the term depending on an annual funding amount.

Other reasons for establishing replacement reserve schedules are:

• Sound Business Practice – Homeowner associations have a fiduciary obligation to unit owners to plan and budget for future expenditures in a way that is fair and equitable. With respect to investment, corporate or municipal owned properties, future replacement expenditures can significantly impact cash flow, preferred returns to investors, strategic capital budgeting, the value of an asset, and ownership’s image in the marketplace.
• State Law Requirements – California, Florida, Hawaii, and Illinois were first and now many other states have laws or pending legislation addressing replacement reserve funding requirements for condominium and homeowner associations.
• CPA Reporting Requirements – The AICPA has established new guidelines for the review of Common Interest Realty Associations (“CIRA”). A CPA has to disclose not only the existence of a replacement reserve fund, but its adequacy.
• Lender Requirements – Many lending institutions, Fannie Mae, and the structured financed market require that a modified replacement reserve schedule be prepared for the mortgage term as part of the underwriting procedures and to establish escrow funds.
• Assist in Estimating Market Value – A comprehensive replacement reserve study, which identifies annual expenditures over the holding period, assists appraisers in estimating market value by the income approach.

What Types of Properties Warrant a Replacement Reserve Study?

• Condominiums, Cooperatives & Other CIRAs – To equitably assess owners without imposing special assessments and to protect board members from personal liability.
• School Districts & Municipal Facilities – Studies are used as a budgeting and management tool to keep local school tax increases to a minimum or to prevent trying to pass bond issues for deferred replacement expenditures.
• Investment Properties – Properties owned by pension funds, REITS, trusts, insurance companies, real estate partnerships, and individual investors.
• Corporate Properties – Corporate ownership of multiple facilities: banks, branch offices and distribution facilities, restaurants and rental chains, shopping centers, hotels, and supermarkets.
• Private Schools & Universities – Not-for-profit institutions are still in a competitive marketplace for tuition dollars. The maintenance, repair, and updating of facilities reflects the institution’s commitment to its students, and the board’s financial governance and priorities.