Overview of timeshare associations
- Timeshare associations present a unique set of challenges that generally don't exist in the full ownership association world. The front desk operations of a timeshare resort often include numerous recreational activities for members, as virtually all guests staying at a resort are on vacation. Resorts not only have all of the building exterior maintenance issues, but also must perform housekeeping services and maintain the interior of units.
There are a number of different types of what have traditionally been referred to as timeshare resorts, and the term "fractional ownership industry" is more often used in recent years to reflect the multiple types of fractional ownerships that exist:
- Timeshare weekly deeded intervals - some are fixed week, others are floating weeks, usually at a single resort
- Points system ownership - members own points which translate into usage opportunities, and often at multiple resorts as opposed to a single resort
- Vacation clubs - very similar to points system ownership, in that members don't own real estate, but have a right to use their stay at resorts owned by the vacation club
- Right to use weeks - these are not deeded weeks, but the right to use has been separated from the underlying deeded interest, and are generally owned by different people. Most right to use ownership interests are limited time and ultimately revert back to the deeded ownership interest
- Quarter share - a common ownership method that provides members the right to use a resort unit for three months per year, and may generally be broken up into multiple shorter duration stays
- Fractional - generally refers to ownership interest of different durations somewhere between the one week traditional form of ownership and the quarter share
- Private Residence Club - These are generally a higher end product than other forms of fractional ownership, and again, may have multiple durations of ownership interests, even within a single resort. Most private residence clubs consist of multiple resorts at different locations, but some consist of a single location.
- Condo Hotels - Condo Hotel Associations are unique. Their ownership structure is that of a full ownership condominium association, but their operations are those of a hotel. This presents unique challenges in the management of the association. The management staff must not only be conversant with laws regulating full ownership associations, but must be familiar with hotel-type operations. It also presents challenges from a tax perspective, as the nature of operations means that the association will generally not qualify as residential in nature, and will not qualify as a timeshare association, so generally can't file Form 1120-H. This leaves condo hotel associations in the worst possible tax position, being forced to file Form 1120, thus placing them in the highest risk tax position.
Gary Porter has been working in the timeshare industry since 1987. He has provided audit, tax and reserve study services to the industry continuously since that time, and has worked with all the types of associations identified above. The firm presently performs dozens of timeshare and fractional industry audits annually. In addition, he has, through Facilities Advisors, Inc. a separate reserve study company in which he is a part owner, performed reserve studies for dozens of resorts in the USA, Mexico, and the Caribbean. This has provided great insight into the daily operations of resorts. Mr. Porter has been a featured speaker at events hosted by VRI (Vacation Resorts International) and TBMA (Timeshare Board Members Association).
- An auditor must understand the associations for which they are performing audit and tax services. This includes an understanding of front desk operations, both the types of revenue and member services activities, and the different categories of guests that stay at the resort.
Front desk revenues are often tied to recreational activities at nearby recreational venues. Examples are boat rides, equestrian activities, ski resort ticket sales, or admission tickets to amusement parks. These are generally not net income generators for the resort, but are simply activities performed for the benefit of the resort guests. The resort will often have to make bulk purchases of tickets to accommodate re-sales to guests, and that means that the resort often has an "inventory" of tickets. These "inventory" amounts are generally not so large that they would require an on-site testing and examination at year end, but the auditor must be aware of and understand the activities, the profit structure, and the internal controls surrounding these activities.
Other types of front desk revenues are directly related to the categories of guests that stay at the resort. Members of that resort will pay assessments to that resort. Exchange guests pay their assessments to their home resort, so don't pay the resort they're staying at if they exchange. However, that guest has paid an exchange fee to the exchange company. Guests often pay an added fee to extend their stay, if space is available. Some guests will also request a mid-week maid service and pay an additional fee for that service.
Renters or "walk-ons" pay a per-night fee just as they would at a hotel. However, because the resort generally engages in much additional effort to generate the renters, there is often a structured rental program wherein rental income is split between the resort and the interval owner. Intervals available for rental arise from several sources, including resort-owned weeks, interval owners that place their interval into the rental program, or cancellations.
Front desk operations are often generated from movie DVD/BluRay rentals, video game rentals, bike rentals, etc. Front desk staff also often supports non-revenue generating activities.
- Timeshare associations were granted the ability to file Form 1120-H with the modification of Internal Revenue Code Section 528 in the 1990's. Given the IRS position of timeshare associations set forth in their Audit Techniques Guide for Timeshare Associations, we have adopted a conservative position of filing Form 1120-H for our timeshare clients whenever possible to reduce tax risk.
Tax risk is a far greater problem than any taxes that might be owed from taxable activities. Filing Form 1120-H eliminates tax risk. Tax risk is virtually unlimited on Form 1120. The issue is that the IRS has taken two positions that are very adverse to normal operations of the timeshare association:
- IRS treats all prepaid assessments as income of the year received
- IRS treats all reserve contributions as member income, as opposed to IRC Section 118 capital contributions.
While we disagree with both IRS positions, these two factors make the risk factor too high to file Form 1120. While it is possible that a timeshare association filing Form 1120 could fight IRS on both issues, and possibly prevail in that argument, the cost of litigating such a matter in tax court is so prohibitive as to make this an option that should rarely, if ever, be considered.
What makes these issues even more confounding is the fact that Accounting rules require that prepaid assessments not be recognized in the year received, but in the period to which the assessments apply, so accounting rules and tax rules are different if filing Form 1120 and following the IRS's guidelines.
Timeshare Statutory and Regulatory Issues
- Most states do have statutes related to timeshare associations, but those statutes generally relate to the construction, sales, and operations of associations, and rarely relate to accounting or tax issues. California and Nevada are two exceptions to this general rule, as both states have rules related to either the level of service performed by the independent CPA, disclosures within the financial statements, or performance of reserve studies.
California associations are affected by the California Timeshare Act (link to Adobe document), adopted in 2004 by the California legislature. The specific provisions that affect association financial issues are:
- California timeshare associations are required to perform an audit annually
- California timeshare associations are required to perform reserve studies every three years
- California timeshare associations are required to subject reserve expenditures to appropriate controls by the board of directors
- California timeshare associations are required to submit a budget to the California Department of Real Estate if they conduct sales activity in the state of California
Nevada associations are required by NRS 119A https://www.leg.state.nv.us/NRS/NRS-119A.html, to:
- Perform a reserve study every five years
- Attach a budget to actual comparison to annual audited or reviewed financial statements
- Please contact the timeshare experts at Hinricher Douglas & Porter for your audit, review, or tax needs for your timeshare association.