Budgeting on Fantasy Island

October marks the beginning of budget-setting season for most co-op and condo boards. It’s a doubly devilish challenge. First, the operating budget requires boards to look ahead to the coming year’s income and expenses, then calculate any necessary increase in maintenance or common charges to keep the two in balance. Next comes the longer-term capital budget, which requires boards to consider how much it’s probably going to cost to keep the building in compliance with increasingly complex city regulations governing everything from facade repairs to energy efficiency.

But what sounds like a fairly straightforward, by-the-numbers process often winds up veering into the realm of fantasy as boards try to convince themselves that the expenses on paper won’t actually materialize. For many frustrated managing agents, budget season begins to resemble a weekend with Ricardo Montalbán on the long-ago TV series Fantasy Island.

Wishful Thinking
“A lot of times boards have preconceived ideas, and then they make irrational decisions,” says Paul Brensilber, president of the management company Jordan Cooper & Associates. “Like ‘We can only raise maintenance 3 percent.’ That’s plucked from thin air. They say, ‘We can’t raise it too high, or we won’t be competitive with other buildings.’ That may be true, but it’s got nothing to do with running the building properly.”

Boards understandably want to cut out unnecessary expenses. But the truth is, very little of the operating budget is under their control. Typically, managers say, up to 90 percent of a budget consists of fixed costs. In a co-op, real estate taxes and mortgage payments often account for more than half of expenses. Calculating the next year’s tax increase can be done with reasonable certainty because of the city’s five-year phase-in of any change in value in a given year. (Tax bills can also be contested by a tax certiorari lawyer.)

“If, for some reason, the assessed value of your property increases significantly during the new year, your budget will be off,” says Daniel Wollman, chief executive officer of the management company Gumley Haft. “But it’s only going to affect a fifth of the number for taxes because of that five-year phase-in.”

Payroll, another major expense, is also fairly predictable from year to year, as are the costs of insurance, service contracts, heating fuel, and utilities. Annual increases in these categories are budgeted for based on past history.

“Buildings have to be realistic about their budget,” Wollman advises. “I meet with boards who feel enormous pressure to keep maintenance down, so they’ll nickel-and-dime the budget to get them the maintenance level they desire.”
But failing to raise maintenance levels to keep up with rises in real estate taxes and other fixed costs will ultimately come back to bite boards as their accounts-payable balance grows. “The budget just becomes phony,” Brensilber says. “People come to the annual meeting, and they’re shocked. Did the board do them a favor by keeping the charges artificially low? I would say, no, they did not.”

Facades and Carbon Emissions
On the capital side of budget planning, calculating the cost of compliance with mandatory facade repairs under Local Law 11, which applies to buildings taller than six stories, can be especially challenging. The initial inspection that’s required every five years may identify necessary repairs, but the final cost isn’t always predictable. For example, Wollman is currently managing a building with 1,000 pieces of terra cotta on the facade, a sizable portion of which will have to be replaced.

“We’ve given the board preliminary estimates, and they’re massive numbers,” he says. “But we won’t really know how many pieces we will have to replace until someone can get up close and examine them. A project like that is going to take 18 to 24 months, so the building has some latitude if they have to go back to shareholders for more money.”

But kicking the can down the road is never a good idea. Buildings that have put off compliance with Local Law 11 are probably going to pay more now than they would have earlier on, Brensilber says. That’s partly because costs are always rising and partly because there aren’t a lot of new contractors in the market that have the proper insurance to do these projects. “So your construction costs are going up,” he says. “Everybody’s working right now.”

Boards should also be aware of when their building is next due for an energy audit and retro-commissioning under Local Law 87. Buildings larger than 50,000 square feet must submit an audit report every 10 years.

Any energy-saving measures undertaken as a result of those audits should help buildings meet the greenhouse gas emission limits recently adopted by the New York City Council. Part of the so-called Climate Mobilization Act, Local Law 97 requires buildings with more than 25,000 square feet to reduce carbon emissions, beginning in 2024. Emissions must be reduced by 40 percent by 2030, then by 80 percent by 2050. Buildings that exceed the limits face hefty fines, though the law does provide for exceptions.

“A proactive board should be taking this law into consideration and working with a qualified engineering firm to look at which energy-efficiency upgrades they can do now,” says Amalia Cuadra, the director of engineering for the En-Power Group, an energy consulting firm. “Some can take two or three years to implement.”

Cuadra says she’s already working with a co-op on 69th Street that has figured out it won’t exceed the emissions limit in the first cycle but faces a potential $66,000 a year in fines in 2030. Board members there are planning now to replace their aging mechanical plant – heating, cooling, and hot water – in order to cut their emissions and avoid those fines. “We have been working with them to deal with some of those changes,” Cuadra says.

Gumley Haft is in the process of evaluating its portfolio to determine each of its 65 buildings’ liability for a carbon tax come 2024. “They are looking forward so they can help their boards figure out what kind of tax they need to be prepared to pay – or what they can do to improve their energy performance and lower their emissions,” says Fred Goldner, president of Energy Management & Research Associates, which is working with Gumley Haft.

Goldner says boards should also be aware of another new regulation that has received less publicity but will affect capital budgets. Local Law 94, part of the Climate Mobilization Act, requires any building owner undertaking a complete roof replacement to include either a green roof or solar photovoltaic system.

“There is a litany of exceptions, for things like pitch or structure of the roof,” Goldner says. “But if you don’t fall into one of those, you have to put solar on top, and that could be a huge number you weren’t expecting.”

Budget season, it turns out, is not the time for boards to visit Fantasy Island.