When a builder undertakes the construction of a residential building project, there are various fees and charges collected from homebuyers towards the maintenance, repairs, development, etc. of the building property as and when required. Where there is a fund called corpus fund that is maintained with money taken from homebuyers for the maintenance of the property until possession of the property is transferred from the builder to the buyer, there is a fund called the sinking fund that is a fund containing money which may be used for building repair, getting new equipment or conducting structural changes as and when required.
The sinking fund is simply maintained by the builder to ensure that there is money safely kept aside as a proactive measure for conducting repairs, modifications or changes as and when required instead of hurriedly arranging for funds when trouble strikes. This article seeks to highlight what a sinking fund is and the importance of this reserve in a residential building project.
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What is a sinking fund for residential property?
A sinking fund is a fund kept by the builder and comprises money collected from homebuyers in the form of monthly maintenance fees to meet expenses like the light replacement across the corridor, power disruption caused by thunder, leakages, etc., to conduct structural changes in the building, to get an elevator or other machinery etc.
- This fund is generally invested by the builder in securities or kept as a fixed deposit to yield returns in the form of dividends or interest. This adds to the corpus of the fund and can be used to make monthly repair payments.
- Every homebuyer contributes towards the sinking fund and the contribution is a fixed percentage of the flat purchase price.
- In case of tenancy, it is usually the owner who bears the costs of the contribution towards the sinking fund. However, this is subject to the agreement between the owner and the tenant.
- After possession of the property is passed to the homebuyers, the responsibility of maintaining the sinking fund is transferred to the newly formed flat owners association of cooperative society managing committee.
- This committee levies charges upon the members of the co-operative society with a portion of these charges diverted to the sinking fund.
How much sinking fund is enough?
The sinking fund is a reserve of accumulated funds from the homebuyers/members of a co-operative society needed to meet repair expenses and in the worst-case scenario, to meet the expenses towards sustained structural damage in the building due to an unforeseen calamity.
- Due to much of the funds accumulated to meet major contingent expenditure, there is no fixed estimate as to how much is enough.
- According to Bye-Law 13(c) of the Model Bye-Laws of Co-operative Housing Societies issued by the Maharashtra Government, the sinking fund needs to
“be established at the rate decided at the meeting of the general body, subject to the minimum of 0.25 percent per annum of the construction cost of each flat incurred during the construction of the building of the Society and certified by the Architect, excluding the proportionate cost of the land.”
- The above point clearly shows that there is a minimum limit to providing for these expenses and the maximum limit is left to the co-operative society general body.
- A co-operative society requires bye-laws to regulate its affairs and the model bye-laws provided by the state authorities have been legislated for regulating cooperative societies. However, societies can readily adopt these bye-laws and modify them accordingly if they wish to.
- It may be possible to estimate the repair and structural expenses and are provided for on this basis as decided by the co-operative society.
What is a sinking fund with an example?
A sinking fund is a reserve created by accumulating monthly contributions from the homebuyers or members of a co-operative society for meeting the requirements of repairs, structural modifications, purchase of machinery, etc. Co-operative societies also have a repair and maintenance fund for this purpose.
For example, there is a co-operative society named XYZ. This cooperative society has 50 flats and takes a monthly contribution of Rs 500 from each flat owner or member as part of monthly charges levied. If you calculate the amount, for a month the total would be Rs. 25000 for society.
At the same time, on a simple multiplication basis without taking the interest and the element of compounding, the sum becomes Rs 3,00,000! The power of community funding! This amount can be used to undertake major repairs in society.
What is the sinking fund formula?
The sinking fund formula is the following:
P= A x i/(1+i)n -1,
where P is the amount of payment,
A is the amount to be accumulated,
i is the interest rate decided for the time period,
n is the number of time periods.
Thus, for instance, the amount to be paid is Rs 500 per month per flat, the interest rate is 5% and the n is 12 months.
If extrapolated, the yearly accumulated amount from one flat is Rs. 7958.56 per flat. If we take 50 flats, this yearly accumulation would be an astounding Rs. 397928.163.
How do you manage the sinking fund?
Sinking fund amounts are invested elsewhere in securities or are kept as fixed deposits to earn interest or dividend. This investment of the funds yields returns that allow you to make monthly payments or yearly payments towards repairs or contingent situations instead of withdrawing money directly from the corpus of the fund and reducing the capital in the process. This financial management is required because the reduction in the capital balance of the fund spells trouble for you may be unable to meet greater expenses in the future.
Every member of the society is a part of the general body of the society and as such has a say in the management of the sinking fund.
The sinking fund is an important fund established by the co-operative society to meet repair and maintenance expenses, expenses where structural change or modification of the building is involved. This fund allows the society to meet the expenses of a great quantum due to the accumulation of these funds from the contribution of members of the society.
The sinking fund is a liability with the investments made using this fund the corresponding asset. The returns yielded by this fund can be used to meet the more regular expenses of lower amounts like the undertaking of period repairs. These are also called revenue expenditures. However, for major capital expenditure, the sinking fund corpus comes in handy and must be kept intact for this reason.