Surpluses and deficits
A year-end surplus is not automatically the board's to keep, and a deficit is not automatically an emergency.
A surplus is money left over when actual income beats budgeted expenses; a deficit is the reverse. A surplus is not automatically the board's to spend: IRS Revenue Ruling 70-604 requires it to be refunded to members or carried into next year, never swept into reserves. A deficit means next year's budget, or an assessment, absorbs the gap.
What a surplus or deficit actually is
A surplus shows up when the association's actual income for the year came in above what it actually spent. A deficit is the reverse: expenses outran income. Neither is automatically good or bad news; what matters is why it happened and what the governing documents let the board do about it.
This lesson is about the operating budget, the year-to-year account that pays for landscaping, management fees, and utilities. A reserve fund shortfall is its own question; see Reserve contributions for how a reserve gets funded in the first place.
Where a surplus can legally go
It's tempting to treat a year-end surplus as money the board can redirect to a project it likes. For many associations it isn't. If the association files a standard corporate tax return instead of the simplified Form 1120-H, IRS Revenue Ruling 70-604 lets it avoid tax on that leftover income only by refunding it to members or carrying it forward against next year's assessments, and only if the membership votes to elect that treatment. What it cannot do is move that money into reserves as a capital contribution.
The ruling is generally described as a one-year fix, not something to re-elect indefinitely on the same dollars. Confirm the details with the association's CPA before treating this as a routine annual move.
What a deficit actually requires
A deficit doesn't trigger an emergency assessment by itself. In states with an emergency-assessment statute modeled like California's, the board can only impose one without a member vote on narrow grounds: a court order, a threat to personal safety, or an extraordinary expense nobody could have reasonably foreseen when the budget was adopted, backed by a written board resolution explaining why. A shortfall caused by underestimating landscaping or utility costs does not qualify under that kind of statute, and other states set their own emergency-assessment rules, or none at all.
Where the deficit is routine, it typically gets absorbed the ordinary way: cut into next year's budget, or covered by a special assessment or assessment increase, following whatever vote and disclosure rules the state and the governing documents set.
Telling members which one happened
In states that require it, such as California, the board can't just fold a surplus or deficit quietly into next year's numbers. California law requires the board to distribute an Annual Budget Report to every member before the fiscal year ends, and budget-disclosure statutes like it are meant to put this information in front of members rather than leave it as a quiet internal balance.
"an association shall distribute an annual budget report 30 to 90 days before the end of its fiscal year"
Source: California Civil Code Section 5300, Annual Budget Report, State of California
Check your own state's common-interest-community statute and the association's governing documents for whether, and how, a surplus or deficit has to be disclosed where you live.
Check yourself
Answer before you read the explanation, recalling it is what makes it stick.
Your association ends the year $18,000 under budget because of a mild winter, and it doesn't file Form 1120-H. What can it legally do with that money?
Halfway through the year, the association is $40,000 over budget because the board underestimated landscaping and utility costs. Can it levy an emergency assessment to cover the gap, under a statute that limits those to court orders, safety threats, or unforeseeable extraordinary expenses?
A member asks where they'd see whether the association ran a surplus or a deficit last year. What should the board point them to, under a disclosure statute like California's?
Sources
- California Civil Code Section 5300, Annual Budget Report, State of California
- California Civil Code Section 5610, Emergency Assessments, State of California
- Instructions for Form 1120-H, Internal Revenue Service
- HOA Excess Revenue & IRS Ruling 70-604 Explained, CBM
Related elsewhere in the Academy
Budgeting
Next up: see how a routine deficit gets folded into next year's numbers in Midyear budget changes.
Whether your state requires the board to disclose a surplus or deficit in its annual report, and how a mid-year deficit must be resolved, is set by your state's statute and your governing documents. Whether the association can even use the Revenue Ruling 70-604 refund-or-carryover election depends on how it files its taxes and a membership vote to elect it.