Question: Our board directors found the lowest earthquake insurance premium is with a 20% deductible, costing our homeowner association about $20,000 annually; they voted against raising monthly dues to cover it. Our 20 units in a four-level, zero-lot-line Los Angeles complex average $650,000 per unit and the structural integrity of the building is at greater risk because of our subterranean parking. Directors argue we've got over $150,000 in reserves and around $350,000 in combined money market and certificate of deposit accounts. Directors say that's more than enough money to cover any earthquake damage. Conservative estimates to build fire-escape stairs (presently we have none) are more than $90,000. To rebuild just a portion of damaged interior stairwells would cost over $40,000. The cost of elevator repair or replacement easily could surpass $100,000. Depending on the floor level, owners might not have access to their units for six months or longer. Rebuilding one damaged unit could cost $100,000 to $200,000 or more. Who's responsible for damaged cars in the parking structure? What if our building causes damage to the building next door? What if the city "red tags" us? Does the homeowner association pay the housing cost of owners who can't live in their damaged units? Are we adequately self-insured for this type of damage?
Answer: While $500,000 in liquid funds is commendable, the multiplicity of issues raised regarding vehicles, relocation and next-door building damage underscores the folly of thinking $500,000 is sufficient "self insurance." Damaged cars in the garage could easily exceed $200,000.
As yours is a zero-lot-line building (built on the property line), your association may also be responsible for any damage to adjacent buildings near your property line.
Your board's belief regarding construction costs is untenable. It is the height of arrogance for directors to impose their wishful thinking on owners rather than engaging experts in structural engineering and geology before drawing conclusions. With four floors over the garage, problems stand to be significantly greater, including the possibility of everyone having to evacuate their units and of partial or total building collapse. At $100,000 to $200,000 per unit to rebuild, plus temporary housing and other damages, recovery from a substantial earthquake could easily amount to $3 million. Effectively, to save each owner $1,000 a year the board puts everyone at risk of losing everything.
Suppose 10 years pass before a damaging quake hits. Meanwhile the association has raised fees to add $20,000 a year to its reserves while spending no reserves on needed maintenance. Suppose, too, that your $500,000 plus $200,000 insurance saved, plus accumulated interest, just covers the quake's damage and costs. This means your common interest development would then be left without any reserve funds, whether for uninsured expenses, aftershocks, next quake damages or ongoing maintenance costs. You didn't save $20,000 a year after all. Had your association been adequately insured, it would still have had $250,000 to $300,000 in the bank after paying insurance deductibles.
A "red tag" indicates the structure is extremely damaged and dangerous for habitation, a scenario your board overlooked. If a "no entry" order lasts, say, seven months, rentals for 20 owners at $1,500 a month exceed $200,000. If only half the owners must vacate, will those who don't vacate be willing to fund the needed $100,000 in living expenses or will arguments arise necessitating a judge as the ultimate arbiter? Costs of lawsuits must be factored in.
Even the best geologists cannot predict a quake, let alone its severity, nor can engineers guarantee how well a building will withstand a quake. As damage to each unit's structure varies widely, there will be complex allocation problems regarding types of damages (relocation versus structure versus vehicles versus third parties) as well as that between titleholders themselves. Remember, the common areas must also be repaired or rebuilt.
An insurer brings not only money but valuable knowledge, experience and impartiality to the complex task of reimbursing and rebuilding. In contrast, if the association remains self-insured and the board has to divvy up $500,000 of reserves, who decides the allocations and how and when will the reserves be replenished? A likely scenario is an aftermath devolving into protracted anxiety, discontent and bitterness, as well as legal wrangling that could dwarf the association's so-called insurance savings or individual nest eggs.
Understand that even owners with little equity may not be free to walk away, as their mortgage obligations may not be extinguished by destruction of the property. Such titleholders are left with a huge debt and no home.
To save each owner $1,000 a year by forgoing earthquake insurance, the board puts each owner's respective $650,000 asset at risk. Most families would save that in a year by simply giving up just one dinner out each month.