Feeding the Reserves

With big, expensive projects in the future for many co-ops (and condos) it may be time to take a hard look at your reserve fund, and how you can keep it growing. One of the oldest funding mechanisms around is the flip tax, or as it’s more commonly called today the transfer fee. Simply stated, this is a fee paid to a housing corporation when an apartment is sold, and it can be paid by the seller or purchaser. While not the only way to fund your reserve, it works when the sales market is active. Getting it enacted in a co-op requires significant shareholder approval, though, and that can be a strenuous journey.
Doing the Spade Work
During Kathy Kahng’s tenure as board president of her 118-unit Madison Avenue co-op, there has been an attempt to get a transfer fee enacted at least four times. One of the main reasons they continued to fail, she says, was the makeup of the building’s residents. More than half of the apartments were studios and the average shareholder stayed about five years. “If you know you’re only going to be here for a couple of years, what do you care about a transfer fee,” she says. Residents said, “Just charge me the assessment. I’m not voting for a transfer fee, I’m moving soon.”
But in 2018, a confluence of events encouraged the board to try again. These included a building facade project growing in scope; more studio apartment owners buying neighboring apartments and becoming more invested in the co-op; and the anticipation of an upcoming million-dollar elevator modernization project.
“We sent out letters, held meetings, knocked on doors and all that stuff,” Kahng recalls. But at the annual meeting the vote fell slightly short of the two-thirds of shares necessary for approval. With that result, Kahng said, “we decided to focus on the 25 or 30 apartments that didn’t vote.”
The board crafted a new message that carried a stick and a carrot. It told the shareholders that it was going to have to impose a hefty assessment to pay for the facade and elevator work, but if it could secure the votes of a few more apartments to approve the transfer tax, the board would reduce the assessment by 25 percent. “Several of the shareholders said, “Wait a minute, I voted for the transfer tax. I don’t think my neighbor did though,” Kahng said. This spurred a grassroots effort, with neighbors speaking to neighbors.
Kahng sent out a letter to shareholders. In it she said that if the co-op had had a transfer tax of 1% of the purchase price ten years ago, it would already have raised hundreds of thousands of dollars, the reserves would have grown, and the assessment required today would be half as much. “It was not just a selling point,” she says. “That’s the true story.”
And the truth hit home. “I think the reason why we were successful this time was two things,” Kahng surmises. “One, not as many studios remained in our co-op, and two, we have mandatory capital projects required by the city with black-and-white deadlines.” The transfer fee that the co-op passed was a simple one, 1% of an apartment’s selling price. It was slated to go into effect in 2020, just when the pandemic hit, but the board suspended it for six months. The board has the right to reduce, suspend or eliminate the transfer fee, but it can’t raise it without going back to the shareholders.
Fighting Apathy
There has always been a decent reserve fund in Paul Rosenthal’s 40-unit Upper West Side co-op, and over the last half dozen years it grew because the co-op sold roof space to penthouse owners. More recently, though, the board became concerned about some repair and renovation issues that could drain its financial resources, and decided to look into adopting a transfer fee. “We were looking for ways to avoid a maintenance increase or assessment if something came up,” said Rosenthal, who is board president. “We’re a century-old building and we wanted to make certain we had a good cushion.” In particular, he said, there was concern about the requirements for gas-line testing, and the cash requirements necessary if the lines need repair.
As in Kahng’s co-op, apathy killed the first attempt. “It didn’t fail because people were against it,” Rosenthal explains. “It failed because there was a large group that didn’t vote at all, and we needed two-thirds of all outstanding shares.” The board kept extending the deadline to try to get the necessary votes, but there was a lack of a sense of urgency. “Every time I’d send out a reminder a few more people would cast their ballots, but eventually we said we can’t go on forever extending the deadline, so we just have to call it and see where we stand.”
Not to be deterred, the board marshaled resources and prepared for a second attempt. This time, the board prepared a visual presentation consisting of a five-page PDF, which was shared on screen during a virtual meeting. “It wasn’t until halfway through that we actually introduced the transfer fee,” Rosenthal said. “The first part was on the value of the reserve fund, what role it plays, and how it’s something that potential buyers look for because it adds value to the building.”
The presentation highlighted that a transfer fee would, over time, supplement the outflow of money currently in the reserve fund. The board committed to a delay in implementing the transfer fee, and it exempted any apartments currently on the market. It also said that payment of the fee would become the buyer’s responsibility, not the seller’s. “In many ways,” Rosenthal says, “this was a strong psychological benefit.” Additionally, the board sent out ballots (with a deadline) in advance of the annual meeting and provided a variety of ways shareholders could return them.  
And with that, it passed.
The Predictability Value
While the transfer tax is a proven funding mechanism for a buildings reserve fund, many professionals report that it’s still not in widespread use. AJ Rexhepi, TITLETK at Century Management, says only about a third of the buildings he manages have one. It’s hard to get it passed, he says, and many boards haven’t done a good job of marketing it. But, he warns, “buildings can’t afford to not have a reserve fund.”
Heeding this warning, a co-op he has managed for nearly 15 years implemented a funding mechanism called a capital contribution. Nathaniel Polish, the board president at the 132-unit Upper West Side building, recalls that when he got on the board there were three assessments going on at the same time for various projects and it wasn’t even clear if maintenance was covering the co-op’s operating expenses. At the time, Rexhepi told him that a building of this size could expect to pay about a million dollars every ten years on various capital projects. “After hearing this,” I thought, ‘Why don’t we just build in $100,000 a year to put in the reserve fund or pay down debt,’” he says. “That way we wouldn't have to assess every time there was a capital need.”
Beginning about ten years ago, the board implemented a yearly capital contribution, which at the time was $100,000 more than annual operating expenses. The co-op has an underlying mortgage and a credit line, and it uses the credit line to pay for projects. The capital contribution is used to pay down the credit line. Today, the capital contribution is $300,000 a year, and having it means that unpredictable assessments are a thing of the past.
“When we first implemented it,” Polish recalls, “the board wondered whether we would be kicked out. I didn’t really care that much. I think in any political situation if you're too attached to power, you make bad decisions. It just felt like this was the right thing to do, and we did it.”
Whether funded by a transfer fee, capital contribution or a different method, having a reserve fund is a necessity. “It should be a staple in every building’s budget,” Rexhepi says. How it gets funded, though, is a matter of a board’s politics, timing, and ultimately marketing.