Cash Flow vs. Component Basis
Basis for Funds Accumulation - Component or Cash Flow
The ANNUAL CONTRIBUTION (COMPONENT BASIS) is the resulting value required to maintain a contingency of 100% of the value of the most expensive reservable item. This does not factor in the effects of inflation and interest on the funds as indicated in the RESERVE SCHEDULE. When the interest rate exceeds the inflation rate, the accumulated balance will grow at a faster rate than the cost of replacement creating a surplus of funds.
The ANNUAL CONTRIBUTION (CASH FLOW BASIS) is the resulting value that allows the accumulated funds to periodically dip to zero ($0) at the conclusion of a major project yet still satisfies the requirements of the RESERVE SCHEDULE.
The two different means of calculating the ANNUAL CONTRIBUTION are the result of the level of risk each of them represents. Carrying a contingency (COMPONENT BASIS) in the Replacement Reserve Account allows the Association to use the reserves to pay for those unexpected items should they occur earlier than projected or unexpected changes in the maintenance of the items. Such an occurrence might be the result of a increase in the wear and tear on the community room because the board decided to actively market its availability to outside organizations. The CASH FLOW BASIS assumes unexpected items would be paid by a special assessment or a temporary increase in the ANNUAL CONTRIBUTION. The Board of Directors must decide which level of risk is correct for their Association and budget for the selected method of funds accumulation.
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