Homeowners and board members alike may encounter an HOA slush fund. While an association maintains one or more accounts, a slush fund should not be one of them. Given the negative implications of the term and the potential for financial fraud, an HOA should stay away from slush funds altogether. However, not many understand why a slush fund is terrible in the first place.
What is a HOA Slush Fund?
An HOA slush fund is a pool of money that an HOA manages and uses for expenses not explicitly outlined in the official budget or financial plan. Considering its definition, a slush fund has negative connotations. While homeowners association slush funds may have been common in the past, most communities today don’t have them.
A slush fund differs from an operating fund in that the latter is used for budgeted expenses. The operating fund covers the costs outlined in the operating budget, which the HOA board prepares on an annual basis.
What was the Purpose of an HOA Slush Fund?
What are slush funds used for? Many homeowners ask this question in the quest for transparency and accountability.
An HOA may use a slush fund for discretionary spending, unforeseen expenses, or projects that arise unexpectedly. Some might describe it as a fund set aside for rainy days with an innocent motive. However, “slush fund” is more commonly associated with illicit activities. Today, it is more akin to illegal funds — money that an HOA might use for unlawful purposes.
Due to its modern definition, having an HOA slush fund suggests a lack of transparency and potential misuse of funds within a community. It implies that the HOA board is not strictly accounting for or monitoring the association’s budget or money.
Can the HOA President Have a Slush Fund?
While maintaining a slush fund has primarily dissipated, some associations still set aside a certain amount for a single board member’s use (in most cases, it is the HOA president). Some may argue that it is simply petty cash, warranting a need. However, this is a slippery slope.
It is best not to maintain a slush fund at all—whether for a single board member, the entire HOA board, or the community manager. A slush fund for a board member will sow distrust among the HOA board itself and homeowners. Residents will grow suspicious of the board’s activities, especially if there is a slush fund with an undisclosed purpose.
HOA Emergency Fund vs HOA Slush Fund
It is important to differentiate a slush fund from an emergency fund. Although some HOAs may use the two terms interchangeably, there is a stark difference. Plus, one term carries negative connotations while the other does not.
It is common practice for an HOA to allocate a specific amount for the manager or management company to use in an emergency. The dollar amount can vary from one association to another. Both state laws and the HOA’s governing documents may dictate this amount. However, most of the time, it does not go over $5,000.
This can also apply to the president or HOA board. However, specific procedures must be followed. It is important to notify the rest of the board of the spending and document it thoroughly. Additionally, as standard practice, the amount should stay within $1,000 for a single board member’s use.
Keep in mind that the HOA board must act as a unified entity. Therefore, it is rare for a single board member, like the president, to need to tap into this fund. A board member generally does not spend money individually; it is a group decision.
Upholding the HOA Board’s Fiduciary Duty
The HOA board has a fiduciary duty to act in good faith and the association’s best interests. To uphold this duty, the board should adopt an annual budget that explicitly outlines the association’s anticipated revenue and expenses. Dedicating a line item for slush funds used for undisclosed purposes essentially goes against this duty.
Of course, an HOA board can allocate a budget for emergency or unexpected expenses. However, the annual budget should dictate most of an HOA’s spending activities. A single board member’s desires or motives should not influence the HOA’s funds. Just because the president leads the pack does not give them unlimited access to an HOA’s funds with no transparency or accountability.
The Importance of Instituting Internal Controls
A homeowners association should establish and adhere to strict internal controls over its finances. Here are some key controls that an HOA board should consider.
1. Establish a Spending Limit
First, if an HOA gives the management company the authority to spend money, there should be a threshold. This refers to a dollar amount that acts as a ceiling. Managers may not exceed this amount without further signatories or permission from the board. If an HOA does not have a management company, the same limitations should apply to board members.
2. Have Clear Definitions
If an HOA sets up an emergency fund, it is important to clearly define an emergency. What are the specific expenses or circumstances that would allow the use of these funds? Beyond that, the person spending the money should provide proof or documentation. This will prevent misuse or abuse and promote transparency and accountability.
3. Make Everything Traceable
Cash accounts are not advisable. To account for every dollar, an HOA should set up the fund in a way that makes everything traceable. An audit trail is essential when establishing internal controls.
Furthermore, it is best to go with a reimbursement system rather than providing a credit card. The board member must spend money on the expense and request reimbursement by providing statements and receipts. Of course, they should seek approval first before spending the money.
4. Ask for Documentation
Documentation is everything. When it comes to managing funds, all transactions should be documented properly. Receipts, statements, invoices, and signed approvals will help protect the association. These documents allow an HOA board to keep track of the association’s funds and maintain transparency within the community.
Can HOA Reserves be Used as Slush Funds?
An HOA should not use its reserves as a slush fund. The reserve fund has a specific purpose and does not involve a board member’s personal spending or agendas. Homeowners contribute to the reserve fund to accomplish an objective. Using this money for anything other than its intended purpose goes against a board’s fiduciary duty and betrays the trust of hardworking residents.
Can an HOA Use Surplus Funds as Slush Funds?
Sometimes, an HOA will have leftover funds at the end of a fiscal year. Perhaps the board miscalculated the budget, the cost of specific line items dropped unexpectedly, or the number of delinquencies diminished. Whatever the case, an HOA may find itself with a surplus now and then.
Like reserve funds, surplus funds should not be used as slush funds. Surplus funds are not an excuse for the HOA board to spend according to their motivations. An HOA must deal with surplus funds according to state laws and the association’s governing documents.
In North Carolina, for instance, Section 47F-3-114 states that surplus funds should be returned to homeowners or credited to offset future dues payments. Other states may also have similar laws.
HOA Slush Fund: Yes or No?
An HOA slush fund may seem like a good idea to some associations. However, given its modern meaning and negative connotations, board members are better off without it. Instead, an HOA can establish an emergency fund and include it in the association’s annual budget. Furthermore, enacting and adhering to internal financial controls is vital to maintain transparency and accountability.
Cedar Management Group offers assistance with HOA accounting and financial management. Call us today at (877) 252-3327 or contact us online to request a proposal!
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