Take the estimated replacement cost and divide it by the estimated years of useful life, the result is the reserve amount required for that current year. Use this formula to calculate each required reserve item, e.g., roofs, building painting, pavement resurfacing et cetera.
Lets say all building rooftops will be replaced every twenty years at a cost of $1 million dollars, fully funded does not mean the association has $1 million dollars today. It means there is $50,000 in the bank this year, $100,000 next year, $150,000 the following year, and so on until the association has $1 million dollars on the 20th year when the roof is scheduled for replacement.
The roof is expected to last 20 years, it is now 7 years old, and will cost $1 million to replace. Mathematically: $1 million ÷ 20 years requires $50,000 be saved per year. Now 7 years x $50,000 per year in deposits = $350,000 which is a fully funded reserve for the roof in its 7th year.
Note: Annual adjustments are required since future costs will increase each year while the deposit amount is based on the original replacement cost. The board will adjust for inflation, interest earned and for any other factors. As a result, the contribution will fluctuate around the $50,000 figure.
To determine how healthy the associations reserve is, divide the amount of money actually in the reserve by the amount that should be in the account. In keeping with example 2, if on year 7 the association has $175,000 instead of $350,000 would indicate the reserve is 50% underfunded.
When the reserve is in the 0 - 55% funding range, members can expect either frequent or significant special assessments. If in the 56 - 79% range, members can expect less frequent special assessments. If in the 80% - 100% range, special assessments should be rare.