Rectifying combustible cladding can be a costly exercise which owners might be tempted to delay in order to defer large financial outlays. However, often the cost of delaying the work will outweigh the cost of addressing the issue in a timely manner.
Deciding to Fund
Strata owners who take a proactive approach to combustible cladding rectification will be able to:
- Gain peace of mind that they are living in a fire safe building
- Complete work at today’s costs and so minimise the impact of inflation
- Restore the market value and rental return of their properties
- Meet legislative obligations
An owners corporation that believes a third party is responsible for the combustible cladding may also wish to fund legal proceedings.
Considerations to take into account when funding cladding rectification are:
- The extent and cost of the work
- The nature of the property – residential, commercial, mixed-use, leisure accommodation – each of these will necessitate a different approach to funding
- The financial and tax position of each of the owners. Can everyone afford to pay a one of special levy, if required?
- The cash flow and taxation impacts of each funding option. Independent advice should be sought by owners
- Owners’ economic objectives – do they want the lowest cost of funding? Or to keep levies low? Or do they want to maintain large cash balances?
Funding Options in Strata
The three funding options available are:
- Capital Works or Maintenance Fund (often known as a sinking fund)
- Re-mortgaging (in order to fund a Special Levy)
- Strata Finance
Capital Works / Maintenance funds
This fund is allocated to anticipated major capital works and is in most cases collected over long period of time.
[An owners corporation may wish to use existing funds in the capital works fund but this will be unlikely to cover the full amount of costs associated with cladding rectification and as a result may delay rectification. ]
Capital works funds are an inefficient form of funding due to high costs and low returns. Strata owners should consider the following when deciding whether to use existing funds or put aside monies into the capital works fund:
- Tax – returns in a capital works fund are subject to income tax in the owners corporation
- Potential for the scope of works to increase – whilst waiting for the balance of a fund to reach the required level, the amount of work that needs to be done may increase
- Inflation – whilst waiting to accumulate sufficient funds, the cost of the work is likely to increase
- Alternative uses for the funds – almost every owner will have a better alternative use for the monies that are in a sinking fund: reduce credit card debt, increase investments, purchase items that are important to them or provide financial assistance to friends and family. In financial terms, this is called an “opportunity cost” – the cost of the best alternative use for the funds.
However, the critical point is timing – if your fund doesn’t have sufficient funds now to rectify the cladding, you’ll need to access other sources of funds in the very near future in order to meet government deadlines.
Re-mortgaging for a Special Levy
Special levies often cause delays in commencing works as many people believe an owners corporation should not engage in a contract until it has the funds to make the payment. If a significant portion of owners are late in paying the levy then the works may be delayed.
Special levies often impose a significant financial burden on owners, particularly for those that are cash poor. Owners that are unable to meet the payments required for a special levy may be forced to sell or to re-mortgage which is becoming increasingly difficult in a tighter regulatory market.
Strata owners should consider the following when deciding whether to use a special levy as a funding option:
- Tax – a special levy may be less beneficial from a tax perspective for investors. – please refer to your tax adviser
- Potential for the scope of works to increase – whilst waiting for the agreed special levy amount to reach the required level, the amount of work that needs to be done may increase
- Inflation – whilst waiting to accumulate sufficient funds, the cost of the work is likely to increase
- Cost of funds – if an owner has credit card debt at the end of the month (or will have after the special levy), then their cost of funds is about 20%pa
Strata Finance
Strata finance enables an owners corporation to access funds immediately. Lannock makes an unsecured loan directly to the owners corporation. There are no mortgages, liens, charges caveats or any registration of interest on the title of the body corporate or on the title of any individual unit. Owners are not required to provide personal information or a personal guarantee.
This allows an owners corporation to complete work now and owners get the benefits of peace of mind and enhanced capital and rental returns.
The financial distress caused by raising a large special levy is eliminated and there is certainty that the funds will be available rather than hoping that all owners pay the special levy on time.
Strata owners should consider the following when deciding whether to use strata finance:
- The tax benefits of a strata loan for investors – please refer to your tax adviser
- Flexibility – an owners corporation need only draw down what is needed when it is needed
- Ability to undertake other capital works at the same time
- The works can be completed immediately, enabling corporations to comply with legislated deadlines for rectification
Things to avoid:
Staged Projects – [Joel to complete]
The Cheapest Quote – [Joel to complete]
Speak to Us
Lannock has made a very public commitment to fund 100% of the rectification costs of all strata properties.
Get in touch at 1300 851 585 or strata@lannock.com.au to find out more.
