BOARD MEMBER BASICS - Tinnelly La...the business/corporate office of the association. (Civ. Code...

B A S I C SB O A R D M E M B E R

Understanding your role as a community association board member.

T i n n e l l y L a w G r o u pFo u r t h E d i t i o n 2 0 1 6

NoticeThis guidebook is meant to be an informational resource only. The provisions contained in this guidebook have been obtained from numerous sources assumed to be accurate. However, Tinnelly Law Group does not guarantee the accuracy/completeness of the information contained herein and is not responsible for errors or omission, or for any damage resulting from its use. This guidebook does not constitute legal advice, nor is it meant to create an attorney/client relationship.

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For more than 25 years, Tinnelly Law Group has been exclusively dedicated to providing quality legal representation to California community associations. Our attorneys have an unparalleled understanding of the unique and dynamic legal environment faced by community associations and the volunteer board members who direct them. We pride ourselves on being sensitive to our clients’ interests and on being able to craft pragmatic, sensible, and effective solutions to their problems.

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Dear board member:

You are one of the hundreds of thousands of individuals throughout California who graciously volunteer their time and effort to serve on their community association’s board of directors. As a board member you are given a substantial amount of responsibility in managing the affairs of your association and in protecting your neighbors’ property values. Your work is vital to the success of your common interest development, and to the long term viability of your community.

For more than 25 years, the Tinnelly Law Group has been exclusively dedicated to representing community associations and championing their interests. We have had the pleasure of working with thousands of board members and we are privileged to have developed long standing relationships with many of them. We understand that your numerous legal duties and obligations can be intimidating—especially if you have had no prior experience serving on a community association board.

We’ve created this book to provide you with a basic understanding of the unique legal landscape you face, and to reinforce how crucial this understanding is to your success as a board member. We have included pertinent Code sections and case law excerpts, along with real world, practical guidance for board members of all types of associations. We hope that you will find this information useful and that it will help alleviate some of the confusion that is often associated with serving on a community association board.

This guidebook is part of our commitment to raising our industry’s standards and to providing the best possible service to our community association clients throughout California.

Sincerely,

Richard A. Tinnelly

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ContentsCommon Interest Developments 1

Four Types of Common Interest Developments 1“Separate Interests” vs. “Common Areas” 2

The Governing Documents 5Articles of Incorporation 5Declaration of Covenants, Conditions and Restrictions (CC&Rs) 6Bylaws 6Operating Rules (“Rules and Regulations”) 7Condominium Plan and Subdivision Map 9

The Role and Legal Duties of Directors 11The Board of Directors as Decision Makers 11The Directors’ Fiduciary Duties 13The Business Judgement Rule and Judicial Deference 15Required Insurance for Director Liability Protection 17

Financial Responsibilities of Directors 20Financial Review 20Reserve Account 22Assessments 24Collecting Delinquent Assessments 26

Association Meetings 31Annual Meetings and Other Membership Meetings 31Membership Meeting Requirements 32Elections and Voting by the Membership 32Board Meetings 34

Member Discipline and Dispute Resolution 40Enforcement Overview 40Levying Fines and Suspending Membership Privileges 41Dispute Resolution Procedures 43Litigation 44

Supplementary Articles 48Disabled Residents and the Law 48“Tendering” Lawsuits Brought Against the HOA 51Association Reserve Accounts and Reserve Studies 56Rogue Directors: Battling Bad Behavior 61

Homeowners Association Concerns in Contracting with Vendors 64Association Repair and Renovation Loans 67Challenges to Association Elections: Facts and Consequences 71SB 563: Boards and their Business 74Committees: Delegating Board Authority to Achieve Efficiency 77

Index i

Common Interest Developments

Not all common interest developments (“CIDs”) are created equal. Knowing your type of CID is important to understanding how your association operates, and how the rights and obligations of the individual homeowners (the association’s members) compare to those of the association. Knowing the distinction between the CID’s “separate interests,” “common areas,” and “exclusive use common areas” is also important in this regard.

Four Types of Common Interest Developments

Condominium ProjectA member of a condominium project typically owns their unit along with an undivided interest in the remaining areas/structures surrounding their unit (the “common areas” or “common elements”). (Civ. Code § 4125.) Most condominium units are what are known as “air-space” units, where the unit’s owner actually owns the block of air existing within the interior, unfinished surfaces of the unit’s perimeter walls. (Civ. Code § 4185(b).)


To illustrate, a condominium owner typically owns the paint on the walls and the carpet on the floor. However, the physical drywall and subfloor—including the cabling and piping existing therein—are typically “common areas” or “common elements” owned by all members as tenants in common.


Planned Development (“PUD”) A member of a planned development typically owns her lot and the residential structure(s) located on that lot. The remaining areas (streets, clubhouses, etc.) are common areas which are usually owned by the association, but may be owned by the members as tenants in common. (Civ. Code § 4175.) The maintenance responsibilities for members and associations in planned developments can vary substantially depending on the way in which the project’s developer drafted the association’s governing documents.

Community Apartment ProjectA member of a community apartment project owns a shared interest in the land and buildings with the right to exclusively occupy an apartment. (Civ. Code § 4105.)

Stock CooperativeA member of a stock cooperative receives a right of exclusive occupancy in a portion of real property owned by the corporation (the association). The member’s interest is usually evidenced by a share of stock or a certificate of membership. (Civ. Code § 4190.)

“Separate Interests” vs. “Common Areas”

Critical DistinctionThe distinction between “separate interests,” “common areas” and “exclusive use common areas” plays a critical role in dictating the legal rights and obligations of the association as compared to its individual members. Unless its governing documents state

Residential Marketing Terms: The terms “townhouse,” “single family home” and “single family detached” are essentially marketing terms—not legal terms or forms of ownership. These all can be either condominiums or planned developments in certain situations.


otherwise, the association is responsible for repairing, replacing, or maintaining the common areas, and the members are responsible for maintaining their separate interests and any exclusive use common areas appurtenant to their separate interests. (Civ. Code § 4775(a).)

Separate InterestsA “separate interest” is what is owned exclusively by an individual member. The separate interests by each type of CID are as follows:

• Condominium Project: a unit (often, an “air-space” unit) • Planned Development: a lot, parcel or space and its

residential structure(s) located thereon• Community Apartment Project: an apartment • Stock Cooperative: a share of stock tied to an apartment (or

a share of stock representing a right to exclusively occupy a portion of the property)

Common AreasThe common areas consist of the entire project excluding the separate interests. (Civ. Code § 4095.) Common areas for condominium projects (aka “common elements”) often include walls, electrical cabling, plumbing fixtures and anything which is not within the air-space which defines a member’s unit (her separate interest). In planned developments, the common areas often include recreational facilities, streets, and clubhouses. Because common areas are owned by the association or by all members as tenants in common, the association is responsible for repairing and maintaining the common areas for the benefit of the association’s members.

Exclusive Use Common AreasExclusive use common areas are common areas designated for the use of one or more, but less than

Under most circumstances, the board may not legally grant a member the exclusive use of any portion of the common areas without membership approval. (Civ. Code § 4600.)


all, of the association’s members. (Civ. Code § 4145.) Exclusive use common areas (aka “restricted common areas”) are most commonly found in condominium projects. They typically include balconies, patios, porches, exterior doors, and other fixtures outside the separate interest but exclusively serving the separate interest. The scope of a member’s maintenance obligations may vary depending on the terms of the governing documents; however, members are typically required to maintain only the exclusive use common area’s usable surfaces (e.g., keeping the balcony floor clean and free of debris), while the association would be repsonsible for any major repairs to the exclusive use common area.

Section Summary

• The type of CID dictates the separate interests of individual owners versus the common areas which may or may not be owned by the association, but are maintained by the association.

• The distinction between “separate interests,” “common areas” and “exclusive use common areas” plays a critical role in understanding the legal obligations of the association compared to those of its individual members.

More information on the topics discussed in this Section can be

found under the following category pages of “TOPIC INDEX”

available on FindHOALaw.com:

OWNERSHIP RIGHTS & INTERESTS

MAINTENANCE

The Governing Documents

In addition to state, local and federal laws, a CID is primarily governed by the documents which were drafted by the CID’s developer. These “governing documents” establish the legal status of the association formed to manage the CID, contain the “equitable servitudes” which are binding on the members, and set forth the various powers, duties and responsibilities of the board, the association and its members.

Articles of Incorporation

The Association’s Corporate StatusThe Articles of Incorporation are filed with the Secretary of State. In general, they (1) identify the corporation as an association formed to manage a CID under California law, (2) state the name and address of the association’s managing agent, and (3) state the business/corporate office of the association. (Civ. Code § 4280.) An association’s true legal name is set forth in its Articles of Incorporation. Most associations are incorporated as Nonprofit Mutual Benefit Corporations under the California Corporations Code. Though corporate status is not required, associations incorporate to avail themselves of certain legal protections afforded to corporations under California law.



Declaration of Covenants, Conditions and Restrictions (CC&Rs)

The Association’s CC&RsThe association’s “Declaration of Covenants, Conditions and Restrictions” (“CC&Rs”) is a recorded document setting forth the majority of the powers, rights and responsibilities of the association, its members and directors. CC&Rs generally contain provisions addressing (1) assessment obligations of members, (2) association and member maintenance responsibilities, (3) association enforcement authority, (4) association insurance requirements, and (5) property use restrictions.

CC&Rs = “Equitable Servitudes” = Binding on all Property OwnersA CID’s developer creates and records CC&Rs as “equitable servitudes” against each of the separate interests within the CID. They are essentially contractual restrictions on the use of land which are legally binding on current and future property owners. (Civ. Code § 5975.)

Bylaws

Corporate Governance Provisions The provisions of an association’s Bylaws contain policies, powers and procedures relating to the corporate governance of the association. The Bylaws set forth how the association will function as a corporation, including such information as the number,

Associations may choose to amend and restate their CC&Rs to reflect changes in the law, address circumstances in the CID that may not have existed when it was developed, or modify the rights and responsibilities of the association and its members.


qualifications, and terms of directors, as well as election and records inspection rights of members. The Bylaws are not required to be recorded or filed, but some law firms do record them as exhibits to the CC&Rs.

Use of Association Election Rules for Director Qualifications: Associations have been traditionally required to formally amend their Bylaws in order to establish, clarify or expand the qualifications for any member seeking to serve on the board. Fortunately, as a result of the holding in Friars Village HOA v. Hansing (2013), an association may now be able to establish such qualifications through the use of operating rules (election rules) rather than a formal amendment to the Bylaws.

Operating Rules (“Rules and Regulations”)

Operating Rules A board may adopt operating rules (aka “rules and regulations”) that apply generally to the management and operation of the CID or the conduct of the business and affairs of the association. (Civ. Code § 4340(a).) Operating rules generally relate to issues of (1) use of the common area (e.g. clubhouse rules, parking rules, etc.), (2) member discipline, (3) assessment delinquency, (3) architectural improvements, and (4) elections. The procedure through which a board may formally adopt or amend operating rules is codified at Civil Code § 4360.

Flexibility & Enforceability A board is generally not required to secure membership approval before adopting, amending or repealing operating rules. This flexibility allows for operating rules to serve as an effective tool


for boards to regulate certain aspects of the CID. In general, an operating rule is enforceable if it is (1) in writing, (2) consistent with state law, federal law and the association’s governing documents, (3) within the board’s authority, (4) adopted in good faith, and (5) reasonable. (Civ. Code § 4350.)

Limited Scope of Operating RulesBecause the adoption and amendment of operating rules can be done without membership approval, operating rules generally may not serve to restrict a member’s use of his or her separate interest in excess of the restrictions already contained in the association’s CC&Rs. To illustrate, while an operating rule may prohibit members from smoking in the common areas, an Association may not have the authority to adopt an operating rule which prohibits members from smoking within their respective units. Such a restriction would typically require a formal amendment to the association’s CC&Rs.

Architectural GuidelinesArchitectural guidelines (aka “architectural rules,” “design standards,” etc.) set forth the association’s policies and procedures which regulate a member’s ability to make architectural modifications and improvements to her separate interest. They are essentially operating rules and are therefore subject to the same requirements. (Civ. Code § 4765.)

At least thirty (30) days prior to the adoption or amendment of an operating rule, the board must provide notice of the proposed rule change to all members in accordance with Civil Code § 4360. The board must also provide notice to all members within fifteen (15) days after adopting the rule change.

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Certain Operating Rules Included with Annual Policy StatementAssociations are required to distribute an “Annual Policy Statement” to members within thirty (30) to ninety (90) days before the end of the association’s fiscal year when the Annual Budget Report is distributed. (Civ. Code § 5310.) The Annual Policy Statement must include numerous items, including the association’s operating rules with regard to assessment collection policies, fine and violation policies, and architectural guidelines.

Condominium Plan and Subdivision Map

Condominium Plan — Condominium ProjectsThe Condominium Plan is filed by the “Declarant”(the CID’s developer) prior to the construction of a condominium project. It shows the engineering specifications of the CID and contains a map or description identifying the boundaries of the separate interests (the “units”), the common areas and exclusive use common areas. (Civ. Code § 4285.) The boundaries illustrated in the Condominium Plan are often useful in clarifying the maintenance responsibilities of the members versus those of the association.

Subdivision Map (Tract Map) — Planned DevelopmentsThe Subdivision Map is filed by the Declarant prior to the construction of a planned development. It shows the dimensions, boundaries and locations of the separate interests (the “lots,” “parcels” or “spaces”), common areas and exclusive use common areas.

“Maintaining a consistent and harmonious neighborhood character, one that is architecturally and artistically pleasing, confers a benefit on the homeowners by maintaining the value of their properties.” (Dolan-King v. Rancho Santa Fe Ass’n. (2000) 81 Cal.App.4th 965.)


Section Summary

• The Articles of Incorporation contain information establishing the association as a corporation formed to manage the CID under California law.

• The Declaration of Covenants, Conditions and Restrictions (“CC&Rs”) is a recorded document which sets forth the majority of the powers, rights and responsibilities of the association and the members. It contains the equitable servitudes which are binding on all property owners within the CID.

• The Bylaws contain the powers, policies and procedures relating to how the association will function as a corporation.

• The Operating Rules (“Rules and Regulations”) serve as a flexible tool for directors to regulate certain aspects of the CID, such as member use of common area recreational facilities.

• The Condominium Plan/Subdivision Map are used in identifying the boundaries of the separate interests, common areas and exclusive use common areas within the CID.




ARCHITECTURAL CONTROL

GOVERNING DOCUMENTS

The Role and Legal Duties of Directors

Corporations are legally required to have a board of directors (“board”) to exercise corporate powers in the management of the corporation’s activities and affairs. (Corp. Code §§ 7210, 310.) The association’s board is vital to the effective operation and management of the association and to preserving the property values of each of the owners’ separate interests. Though association board members (the “directors”) are volunteers, they must conduct the business of the association in accordance with certain legal requirements and fiduciary duties.

The Board of Directors as Decision Makers

Primary Responsibilities of DirectorsThe primary responsibilities of the board are to (1) maintain the common areas, (2) enforce the provisions of the governing documents, (3) manage the association’s financials, and (4) set policies to ensure the smooth operation of the association. Fulfilling these responsibilities requires that directors make decisions on various issues such as vendor contracts and member discipline.


Non-Delegable Duties: While managers can assist greatly in fulfilling some of the responsibilities of the board, there are certain duties (e.g., attending board meetings, voting on motions) which may not legally be delegated by the board to a manager or any other person(s).


Delegation of Authority The board is able to hire a manager to assist in conducting the day-to-day operation of the association. Smaller associations may opt not to hire a manager; however, the boards of those associations quickly learn how difficult it becomes to dedicate the additional time and effort required as a result of not having a professional association property manager. Some associations are so large that they staff several on-site managers exclusively dedicated to the affairs of their particular association. The governing documents of the association may also require the board to hire a professional manager.

Additionally, there may be instances where it is beneficial for a board to delegate some of its authority to one or more association committees comprised of non-board members. This is discussed further in the Section entitled “Association Meetings.”

Quorum RequirementA quorum of directors is a required number of directors—typically a majority—which must be present at a board meeting before the board may conduct association business. The quorum is defined in the association’s Bylaws or CC&Rs. Board decisions are made by the vote of a majority of a quorum of directors.

Board Decisions Made by a Majority of the BoardBoard decisions are made by a majority vote of the directors. It is therefore not only possible, but expected that the board will from

Quorum is established at the beginning of a board meeting. If, for example, three out of five directors attend a meeting and one director leaves before the meeting is finished, the remaining two directors may still conduct association business so long as they both (a majority of a quorum) approve each item of business.


time to time make a decision with which an individual director does not agree. However, for the board to operate effectively and garner respect from the membership, it is vital that all directors support the decisions of the board once the decision is made.

The Directors’ Fiduciary Duties

The Fiduciary Role of DirectorsDirectors serve as fiduciaries that must act in the best interest of the association and its members as a whole. As such, directors are required to uphold certain fiduciary duties when conducting the association’s business. A director’s main fiduciary duties are the duty of care and the duty of loyalty.

The Duty of Care (Due Diligence)The duty of care (aka “due diligence”) requires that a director be diligent in performing her responsibilities as a director of the association. The duty of care generally requires directors to (1) attend and participate in meetings so that they can be kept informed of association business, (2) make reasonable inquiries regarding maintenance issues, member violations, vendor contracts, etc., (3) make decisions on association business, and (4) ensure that adequate association records are kept.

“Directors are not merely bound to be honest; they must also be diligent and careful in performing the duties they have undertaken. They cannot excuse imprudence on the ground of their ignorance or inexperience, or the honesty of their intentions...” (Burt v. Irvine Co. (1965) 237 Cal.App.2d 828.)

A fiduciary duty is considered to be the highest standard of duty implied by law. Directors may be held personally liable for any damage caused by their failure to uphold their fiduciary duties.

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leA Pg. 61Rogue Directors: Battling Bad Behavior


The Duty of Loyalty (No Self-Dealing)The duty of loyalty requires that directors refrain from engaging in any self-dealing conduct by acting only in the best interests of the association as a whole. The duty of loyalty thus prohibits directors from using their positions to improperly derive benefits for themselves, their friends or families.

Conflicts of InterestsA conflict of interest occurs when a director benefits either directly or indirectly by her conduct as a director or by a decision of the board. An example could be a maintenance contract with a company that is operated by a director or a director’s family member. Such a contract can be voided by the board upon discovery of the conflict of interest.

Recusal from Board BusinessWhen a director is subject to a potential conflict of interest, the director is required to recuse herself from participating in the board’s decision making process with respect to that issue. In short, directors are required to avoid participation in any decision which may benefit that director financially or otherwise. This

Where a director is faced with an actual or potential conflict of interest, the director must (1) make full disclosure of the conflict of interest to the board, (2) not participate in any board deliberations or voting relating to the conflict of interest (“recusal”), and (3) ensure that the decision, act, or transaction of the board is fair and reasonable to the association at the time it was made or entered into.

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leA Pg. 64Homeowners Association Concerns in Contracting with Vendors


requirement extends to matters involving (1) transactions with that director (or a relative of the director or entity owned by the director), (2) disciplinary actions against the director, and (3) potential legal matters where the director’s interests may be adverse to those of the association. As a general rule, recusal requires the interested director to leave the room during any vote or discussion pertaining to the relevant matter.

Civil Code § 5350 - Conflicts of InterestUntil fairly recently, the duty of directors and association committee members to recuse themselves from voting on various self-interested issues has remained somewhat ambiguous. New Civil Code § 5350, effective January 1, 2014, helps resolve this ambiguity by clarifying specific situations where a director or committee member must abstain from voting on an action. In sum, directors and committee members must abstain from voting on issues involving (1) their own discipline, (2) assessments against them for damage to common area, (3) whether to accept a payment plan request by that individual, (4) decisions to foreclose on that individual, (5) their own architectural applications, and (6) their own applications for a grant of exclusive use of common area.

The Business Judgment Rule and Judicial Deference

“Business Judgment Rule” = Director Liability ProtectionJust because directors are fiduciaries does not mean that they will automatically be held liable for damage caused as a result of their poor decisions or acts as directors. The “Business Judgment Rule” is a legal doctrine which protects a volunteer director from such liability where she can show she acted (1) in good faith, (2) in the best interest of the association as a whole, and (3) upon the reasonable inquiry of industry professionals (e.g., lawyers, accountants, etc.). Thus, even where a director’s decisions ultimately result in harm to the association and its members, the Business Judgment Rule may protect her from personal liability.


The Deference StandardMembers may not second-guess the decisions of the board even if a reasonable person would have acted differently under similar circumstances. If members were able to legally challenge every decision of their board, conducting association business would be virtually impossible. California courts therefore grant deference to board decisions provided that the directors have acted in accordance with the Business Judgment Rule.

The justification for such deference is premised upon “the relative competence, over that of courts, possessed by owners and directors of common interest developments to make the detailed and peculiar economic decisions necessary in the maintenance of those developments.” (Lamden, at 270-271.)

Judicial Deference: “Where a [board], upon reasonable investigation, in good faith and with regard for the best interests of the [association] and its members, exercises discretion within the scope of its authority… courts should defer to the board’s authority and presumed expertise. Thus, we adopt today for California courts a rule of judicial deference…” (Lamden v. La Jolla Shores Clubdominium HOA (1999) 21 Cal.4th 249.)

In his/her fiduciary capacity, a director may reasonably rely on (1) legal counsel/industry professionals, (2) a committee of the board upon which the director does not serve, and (3) officers or employees of the association whom the director reasonably believes to be competent.


Required Insurance for Director Liability Protection

Civil Code § 5800(a)In addition to the Business Judgment Rule, Civil Code § 5800(a) protects volunteer directors from personal liability in excess of the association’s insurance coverage. A volunteer director will not be personally liable for bodily injury, emotional distress, wrongful death, or property damage so long as all of the following criteria are met: (1) the act/omission was performed within the scope of the director’s duties, (2) the act/omission was performed in good faith, (3) the act/omission was not willful, wanton, or grossly negligent, and (4) the association maintained and had in effect at the time of the act/omission one or more policies of insurance which include coverage for (A) general liability of the association and (B) individual liability of officers and directors of the association for negligent acts or omissions in that capacity.

Civil Code Required Minimum Amount of CoverageUnder Civil Code § 5800(a)(4), the required minimum amount of coverage for an association with one hundred (100) or fewer separate interests is $500,000. For associations with more than 100 separate interests, the minimum required amount of coverage is $1,000,000.

“Directors and officers have frequently been held liable for negligent nonfeasance where they knew that a condition or instrumentality under their control posed an unreasonable risk of injury to the plaintiff, but then failed to take action to prevent it.” (Francis T. v. Village Green Owners Ass’n. (1986) 42 Cal.3d 490.)


Protects Only Simple NegligenceDirectors should note that Civil Code § 5800(a) does not protect directors from liability for acts/omissions which were “willful, wanton, or grossly negligent.” Thus, directors are only protected when their acts/omissions constitute simple negligence.

Section Summary

• Directors must maintain the common areas, enforce the governing documents, manage the association’s financials, levy and collect assessments, and set policies to ensure the smooth operation of the association.

• Boards may delegate some of their decision making authority to a manager tasked with handling the day-to-day operation of the association.

• Directors are fiduciaries that may be held personally liable for failing to act in the best interest of the association and its members as a whole.

• Directors must uphold their fiduciary duties of care and loyalty while avoiding potential conflicts of interest.

• Directors are granted deference in conducting association business so long as they make decisions in accordance with the Business Judgment Rule.

• Directors may insulate themselves from personal liability for their negligent acts/omissions so long as the association satisfies the insurance requirements contained in the California Civil Code.





BOARD OF DIRECTORS

BOARD MEETINGS

INSURANCE

Financial Responsibilities of Directors

A director’s fiduciary duties require her to fulfill certain responsibilities with respect to the association’s finances. The Civil Code also places obligations upon a director in reviewing and managing the association’s financial affairs. Basic accounting functions may be delegated to a third party such as an accountant; however, the board is ultimately responsible for the financial well-being of the association.

Financial Review

Required Quarterly ReviewUnless the association’s governing documents contain stricter requirements, the board must on at least a quarterly basis: (1) review a current reconciliation of the association’s operating accounts, (2) review a current reconciliation of the association’s reserve accounts, (3) review a comparison of the current year’s reserve revenues and expenses to the current year’s budget, (4) review the latest account statement for the association’s operating and reserve accounts, (5) review the income and expense statement for the association’s operating and reserve accounts, and (6) review the association’s reserve study. (Civ. Code § 5500.)

Financial Information Available to MembersThe Civil Code provides association members with a general right to inspect various “association records,” including financial documents and statements. (Civ. Code § 5205.) However, this right is subject to certain limitations (e.g., attorney-client privileged information). Boards must satisfy the Civil Code’s substantive and



procedural requirements when responding to/fulfilling a member’s request for records and association financial information. Failure to do so could result in monetary penalties for the association.

Required Annual Budget ReportAssociations are required to distribute an “Annual Budget Report” each year pursuant to Civil Code § 5300. The Annual Budget Report acts as a consolidated disclosure statement which must include, at a minimum, the following: (1) a proforma operating budget, showing the estimated revenue and expenses on an accrual basis, (2) a summary of the association’s reserves prepared pursuant to Civil Code § 5565, (3) a summary of the reserve funding plan adopted by the board, (4) a statement as to whether the board has determined to defer or not undertake repairs or replacement of any major component with a remaining life of thirty (30) years or less, (5) a statement regarding whether the board anticipates the need to levy any special assessments to repair, replace or maintain any major component or fund reserves for the same, (6) a statement as to the mechanism by which the board intends to fund reserves, (7) a statement addressing the procedures used to calculate and establish the required reserves, (8) a statement as to whether the association has any outstanding loans with an original term of more than one year along with basic information about those loans, and (9) a summary of the association’s insurance coverage, along with basic information pertaining to the policies maintained. The association’s reserve account and reserve funding requirements are discussed further below.

New FHA & VA Disclosures for Condominium Projects: Effective July 1, 2016, the Annual Budget Report for a condiminum association must also include separate statements describing whether the development is a Federal Housing Administration (FHA)-approved condominum project and whether the development is a Department of Veterans Affairs (VA)-approved condominium project.


Reserve Account

The Association’s Reserve AccountThe association’s reserve account is established for the purpose of repair, restoration, replacement, or maintenance of the association’s common area components, and for litigation involving the association. Except under certain limited circumstances, Civil Code § 5510 prohibits boards from utilizing reserve funds for any other purposes. Although there is technically no law explicitly requiring the establishment of a reserve account, maintaining the association’s reserve account at a healthy level is paramount to ensuring the financial viability of the association over the long term. Funding an association’s reserve account is therefore considered to be part of a director’s fiduciary duties.

Reserve Study RequiredUnless the association’s governing documents contain stricter requirements, at least once every three (3) years, the association is required to perform a reserve study that provides a list of all the major common area components with an estimate of their

Director Liability for Failing to Fund Reserves: “…they abdicated their obligation as initial directors of the association to establish [a reserve fund] for the purposes of maintenance and repair. Thus, the individual initial directors are liable to the association for breach of basic fiduciary duties of acting in good faith and exercising basic duties of good management.” (Raven’s Cove v. Knuppe Dev. Co. (1981) 114 Cal.App.3d 783.)

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leA Pg. 56Association Reserve Accounts and Reserve Studies


remaining useful life. Pursuant to Civil Code § 5550, this includes the performance of a “reasonably competent and diligent visual inspection” of the common area components for which the association is responsible. There are some limited exceptions to this requirement where the association has no common area or if the total replacement cost of the common area components is less than fifty percent (50%) of the association’s annual gross budget.

Withdrawing and Borrowing from the Reserve AccountThe Civil Code contains specific requirements and limitations with respect to the withdrawal and borrowing of funds from the association’s reserve account.

• Withdrawal RequirementsIn order to withdraw from the association’s reserve account, signatures of at least two (2) directors, or one (1) director and one (1) officer of the association are required. (Civ. Code § 5510(a).)

• Borrowing RequirementsThough not recommended as a general practice, the board is permitted to borrow from the reserve account in order

Associations which find themselves in substantial financial trouble are often those which have neglected to perform reserve studies and/or raise assessments to ensure their reserve accounts are properly funded. In such situations, the association typically must levy a costly special assessment on its members or take out a loan when major repairs are needed.

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leA Pg. 67Association Repair and Renovation Loans


to meet the association’s short-term cash flow problems or expenses, such as litigation. (Civ. Code § 5515.) In such situations, the board must comply with certain procedural and disclosure requirements contained in the Civil Code, including notice to the membership of (1) the board’s intent to consider the transfer, (2) the reason the transfer is needed, (3) the options for repayment, and (4) whether a special assessment will be necessary to refund the reserves. Pursuant to Civil Code § 5515(d), any such transfer of funds from the reserves to cover short term cash flow problems must generally be repaid within one (1) year of the date of the transfer.

Required Reserve Account DisclosuresIncluded within the Annual Budget Report prepared pursuant to Civil Code § 5300, the board must provide members with an annual disclosure form illustrating the status of the association’s reserve account. (Civ. Code § 5565.)

Assessments

Duty to Assess The association’s financial accounts are funded through assessments paid by the association’s members. Assessment revenue is therefore critical to ensuring the proper operation and management of the association and its common areas, as well as preserving the property values of the members’ separate interests. The association is thus required to levy regular and special assessments sufficient to perform its obligations under its governing documents. (Civ. Code § 5600(a).)

Pro Forma Operating Budget within the Annual Budget ReportThe Annual Budget Report prepared pursuant to Civil Code § 5300 must include the association’s pro forma operating budget reflecting the assessment revenue the association requires that year to perform its obligations under the governing documents.


Regular AssessmentsRegular assessments are the assessments which must be paid by the owner of each separate interest to the association every year, often on a monthly basis. Raising regular assessments may become necessary to improve the health of the association’s reserve account or to defray increases in the association’s expenses. Each year the board can, without membership approval, raise the level of regular assessments by up to twenty percent (20%) over the prior year provided that the board has complied with the required annual budgetary disclosures contained in the Civil Code. (Civ. Code § 5605.) Any increase in regular assessments above this twenty percent (20%) threshold requires approval from the association’s membership. (Civ. Code § 5605(b).)

Special AssessmentsSpecial Assessments may be levied by the board to cover unanticipated budget shortfalls or to raise funds needed for unforeseen repairs. Regardless of what may be contained in the governing documents, the board may levy a special assessment of up to five percent (5%) of the current year’s budgeted gross expenses without membership approval. (Civ. Code § 5605.)

Emergency AssessmentsRegardless of what may be contained in the governing documents, the board may levy emergency assessments in “emergency” circumstances without a membership vote. “Emergency” circumstances in this context include those involving (1) an extraordinary expense required by an order of a court, (2) an extraordinary expense necessary to maintain the CID

The definition of what constitutes an “emergency” under the Civil Code is meant to be very narrow and apply primarily in extraordinary situations. Boards should not seek to fit the “emergency” label to situations that could have been prevented had the board acted in a more timely fashion.


or any part of it for which the association is responsible where a threat to personal safety is discovered, or (3) an expense necessary to maintain the CID or any part of it for which the association is responsible that “could not have been reasonably foreseen by the board” in preparing the association’s Annual Budget Report. (Civ. Code § 5610.) Where the board wishes to levy an emergency assessment on the basis of item (3) above, the board must prepare a distribute a board resolution disclosing the necessity for the expense and why it could not have reasonably been foreseen. (Civ. Code § 5610(c).)

Reimbursement AssessmentsEven when not explicitly stated in the association’s governing documents, the board may levy a “reimbursement assessment” against a member for damage the member, the member’s tenant or guest may have caused to association common area or other association property. (Civ. Code § 5725(a).) However, prior to levying any such reimbursement assessment, the board is required to provide the same “due process” (e.g., notice and a hearing) to the member as it would before imposing disciplinary sanctions or fines. (Civ. Code § 5855.)

Collecting Delinquent Assessments

Duty to Collect; Assessment Collection Policy; Annual Statement of Collection ProcedureIn order to fulfill its general duties to the membership and to ensure the financial viability of the association, the board has an affirmative duty to collect delinquent assessments through the establishment and implementation of an assessment collection policy. (Civ. Code § 5310(a)(7).) The association’s assessment collection policy must also include a statement of the association’s collection procedure, which contains information regarding when unpaid assessments become delinquent and the remedies available to the association in response to a member’s delinquency. (Civ. Code § 5730.) As discussed further below, those remedies include the recording of assessment liens which may be foreclosed upon by the association.


Assessment LiensWhen a member defaults on her assessment obligation, the association is permitted to record an assessment lien against the member’s separate interest for the delinquent assessment amount and the reasonable fees and costs of collection incurred by the association. The assessment lien secures the debt owed to the association. (Civ. Code § 5660.) In the event that the member does not bring her account current within certain statutory deadlines, the assessment lien may be foreclosed upon by the association subject to various requirements. (Civ. Code § 5700.)

Types of Collection MethodsThere are three (3) primary types of collection methods used for delinquent assessments: (1) nonjudicial foreclosure of an assessment lien, (2) judicial foreclosure of an assessment lien, and (3) a lawsuit for money damages. Each method has various advantages and disadvantages, and no one method should be used in every instance. The amount of the delinquency, the delinquent member’s assets/financial situation, and the delinquent member’s equity in her separate interest are often used to determine the most appropriate method.

Nonjudicial Foreclosure of Assessment LiensNonjudicial foreclosure of assessment liens is the preferred collection method for the majority of assessment collection matters.

The statutory requirements with respect to assessment collection are numerous and complex, and the success the association has in collecting delinquent assessments may be impacted by various factors. The board must ensure that it utilizes the services of competent collection professionals to reduce the impact assessment delinquencies have on the association’s financials.


This is primarily because of the fact that, as its name implies, nonjudicial foreclosure is done without court supervision and does not require the filing of a lawsuit. This results in significantly lower fees and costs and a faster time to sale. Additionally, because no lawsuit is filed, the delinquent member is given less opportunities to contest the association’s collection action and to delay the association’s efforts. However, because of the lack of court supervision, it is imperative that the association’s collection agent strictly comply with the various procedural requirements applicable to nonjudicial foreclosure of assessment liens (codified at Civil Code § 5650 through § 5740). Those requirements include various notices that must be provided to the delinquent member prior to, during, and upon completion of the association’s nonjudicial foreclosure action.

Payment Plans Entering into payment plans is one of the more common and successful tools available to recover delinquent assessments without alienating the delinquent member, especially where the member is going through a temporary period of financial hardship and has equity in her property. Payment plans (aka “forbearance agreements”) should be carefully drafted to ensure that the

“Because nonjudicial foreclosure is a ‘drastic sanction’ and a ‘draconian remedy’, the statutory requirements must be strictly complied with…” (Multani v. Witkin & Neal et. al. (2013) 215 Cal.App.4th 1428.)

“Since the Association failed to strictly comply with all of the mandatory notice requirements, the assessment lien...is not valid and may not be enforced...” (Diamond v. Superior Court (Casa Del Valle HOA) (2013) 217 Cal.App.4th 1172.)


Section Summary

• A director must satisfy certain legal obligations under the Civil Code in reviewing and managing the association’s financial affairs.

• Maintaining the association’s reserve account at a healthy level is paramount to ensuring the financial viability of the association over the long term.

• The Civil Code contains specific requirements and limitations with respect to the withdrawal and borrowing of funds from the association’s reserve account.

• The association is required to levy regular and special assessments sufficient to perform its obligations under its governing documents.

• The board has a duty to collect delinquent assessments through the establishment and implementation of an assessment collection policy.

• When a member defaults on their assessment obligation, the association is permitted to record an assessment lien against the member’s property for the delinquent assessment amounts and the reasonable fees and costs of collection incurred by the association.

interests of the association are adequately protected should the member fail to abide by its terms. However, absent language in the governing documents to the contrary, an association is generally not under any obligation to offer delinquent members the ability to enter into payment plans.





ASSESSMENTS

ASSESSMENT COLLECTION

FINANCES

RECORDS & REPORTS

Association Meetings

Association MeetingsAssociation meetings are required by law and are a central component of the association’s operations. There are several types of meetings, each of which is subject to certain statutory requirements set forth in Civil Code § 4900 - 4955 (known as the “Common Interest Development Open Meeting Act”).

Annual Meetings and Other Membership Meetings

Annual MeetingsMost governing documents require one (1) annual membership (aka “regular”) meeting a year to discuss and vote on certain issues—namely, the election of directors to the board.

Special MeetingsThese are meetings that can be called for any lawful purpose by the board, chairman, board president, or any persons as specified in the Bylaws. (Corp. Code § 7510(e).) For example, a special meeting can be called to discuss the association taking out a loan.

Board MeetingsA board meeting is any gathering of a majority of the directors at the same time and place to “hear, discuss, or deliberate upon any item of business that is within the authority of the board.” (Civ. Code § 4090.) Board meetings are discussed in greater detail further in this chapter.


Membership Meeting Requirements

Place of Membership MeetingsThe location of the meetings is designated by the Bylaws. If there is no set location, then the meeting shall take place at the association’s principal office.

Notice of MeetingA notice of meeting is a notice that specifies the matters that will be discussed at the meeting and must be given to the members within certain statutory timelines. (Civ. Code § 4920.) The timelines for providing the notice vary depending on the type of meeting to be held.

Quorum at Membership MeetingsA quorum is the required minimum number of members that must be present before the association may conduct business at a meeting. However, a board quorum is not needed at membership meetings. Only the board president, or one of the other directors, needs to be present to conduct the meeting.

Elections and Voting by the Membership

The Association Must Adopt Written Election RulesAn association must adopt rules, in accordance with the procedures in Civil Code § 4360, for membership elections. (Civ. Code § 5105.) Election rules are considered operating rules, but are often contained in an association’s Bylaws or CC&Rs (e.g., rules specifying the required qualifications for members seeking to serve as directors).

Inspectors of Election RequiredPursuant to Civil Code § 5110, the board must select one (1) or three (3) independent third parties as an inspector or inspectors of election. The inspector may be a member of the association, but may not be a board member, or any person or business entity that is currently employed or under contract with the association. Among


other duties, the independent third party inspector is to determine the results of the vote and perform any acts as may be proper pursuant to Civil Code § 5110(c).

Secret Ballot ProceduresMembership voting must be held by secret ballot when the issue is regarding (1) assessments, (2) elections or removal of board members, (3) amendments to the governing documents, or (4) the grant of exclusive use of common area property. Mail ballots may not have any identifiers which provide information about the voter (e.g., name, address, lot). The requisite voting and balloting procedures are codified at Civil Code § 5115.

Eligibility to VoteUnder the governing documents, a member may be required to be in good standing to vote, which generally means being current on their assessments and not in violation of any of the association’s governing documents. A member’s voting rights can be suspended if they are delinquent in their assessments.

ProxiesA proxy is a written statement given from one member to another for the purpose of the member voting on behalf of the other. However, a board member is not allowed to attend meetings by proxy since it will violate her fiduciary duty of due diligence. (Corp. Code § 7613.)

Electronic and Mail Ballots: Though in this day and age, email ballots may be more convenient and cost effective, they would not be “secret” as required by the Civil Code. If an election is done by mail, the counting of the ballots must still be conducted at a regular meeting. (Civ. Code § 5120.)

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Board Meetings Board meetings are where board decisions are made on items of association business. Board meetings are subject to numerous statutory requirements set forth in the Common Interest Development Open Meeting Act.

Common Interest Development Open Meeting ActThe Common Interest Development Open Meeting Act is codified at Civil Code § 4900 - 4955. Its purpose is to provide more transparency with respect to how board decisions are made and the impact of those decisions. It contains requirements affecting what notice must be provided to members prior to a board meeting, when and how board decisions may be made, the availability of board meeting minutes, and how members may attend and participate in board meetings.

Definition of “Board Meeting”A board meeting is (1) any “congregation of a majority of the members of the board at the same time and place to hear, discuss, or deliberate upon any item of business that is within the authority of the board,” or (2) a teleconference in which a majority of the

No action without a Meeting: The board is prohibited from taking any action on any “item of business” outside of a board meeting. (Civ. Code § 4910.) It is therefore important for a board member to understand what constitutes a “board meeting” and an “item of business.”

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members of the board, in different locations, are connected by electronic means, through audio or video or both.” (Civ. Code § 4090.)

Definition of “Item of Business”The term “item of business” with respect to board meetings “means any action within the authority of the board, except those actions which have been validly delegated to any other person or persons, managing agent, officer of the association, or committee of the board comprising less than a majority of the directors.” (Emphasis added). (Civ. Code § 4155.)

Notice of Board MeetingsUnless the Bylaws provide for a longer period of notice, a notice of board meeting, which includes information such as the time and place, must be given to members at least four (4) days prior to the meeting. The notice must be posted in a prominent place

The prohibition on taking action outside of a board meeting often restricts a board’s ability to make time-sensitive decisions, such as those which are necessitated by ongoing construction projects within the community. The delegation permitted under Civil Code § 4155 is a valuable tool for overcoming this obstacle. By the board validly delegating some of its authority to, for example, the association’s property manager or an association committee, certain actions can be taken outside of a board meeting when necessary.

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or common area, and sent by mail to owners that have requested notifications of board meetings. The notice must contain the agenda for the meeting. There are exceptions to this four (4) day requirement for emergency meetings and meetings held “solely in executive session.” (Civ. Code § 4920.)

Emergency MeetingsEmergency Meetings are called into session when “there are circumstances that could not have been reasonably foreseen which require immediate attention and possible action by the board, and which of necessity make it impracticable to provide notice as required by Section 4920.” (Civ.Code § 4923.) Either the president or any two (2) directors may call an emergency meeting. Notice to members is not required due to the emergency nature of the meeting. Availability of Board Minutes to MembersMinutes of any meeting of the board of directors, other than an executive session, must be made available to members within thirty (30) calendar days. (Civ. Code § 4950.)

Meeting AgendasMeeting agendas must be posted along with the notice of meeting. (Civ. Code § 4920(d).) The board is generally prohibited from discussing and/or taking action on items which were not on the meeting’s agenda. Members are able to speak on non-agenda items; however, the board cannot engage in a discussion regarding such items or take action on such items. There is an exception to this limitation when (1) a majority of the board present at the meeting determines that

The definition of what constitutes an “emergency” under the Civil Code is meant to be very narrow and apply primarily in extraordinary situations that could not reasonably have been foreseen by the board. Boards should not seek to fit the “emergency” label to situations that could have been prevented had the board acted in a more timely fashion.


the non-agenda item relates to an “emergency situation,” (2) that there is a need to take immediate action and that need came to the board’s attention after the agenda was distributed, or (3) the non-agenda item appeared on an agenda for a prior meeting of the board that occurred not more than thirty (30) days before the date the action is taken on the item and, at the prior meeting, action on the item was continued to the meeting at which the action was taken. (Civ.Code § 4930(d).)

Conducting a Board MeetingBoard meetings and membership meetings must be conducted in accordance with a recognized system of parliamentary procedure or any parliamentary procedures the association may adopt. (Civ. Code § 5000.) The meeting should follow the agenda items only. As long as the item that is being voted on appears on the published agenda, or if one of the exceptions contained in Civil Code § 4930(d) discussed above apply, the item may be voted on. Board meetings typically include an “Open Session” and an “Executive Session” which are discussed further below.

Open SessionThe Open Session component of the board meeting is where members are given an opportunity to address the board and to ask questions regarding certain items of association business. To ensure that the board meeting remains

The board is prohibited from conducting a meeting via a series of electronic transmissions (Email). The board must therefore be careful to limit its email communications on items of association business outside of its regularly scheduled board meetings. Email meetings are permitted only for emergency meetings if all members of the board consent in writing and that consent is filed with the minutes of the meeting. That consent can be transmitted electronically. (Civ. Code § 4910.)


under control, the board should establish a reasonable limit of time (e.g., 2 minutes) for each member who wishes to address the board. Additionally, certain actions, such as the determination to record a lien against a member’s property, must be made by the board in Open Session. (Civ. Code § 5673.)

Executive SessionThe Executive Session component of a board meeting is held exclusively between board members to discuss privileged information or to take certain actions. Members are not entitled to be present during the board’s Executive Session. The items which are reserved for Executive Session are items involving: (1) legal issues, (2) formation of contracts, (3) disciplinary hearings, (4) personnel issues, (5) assessment delinquencies, and (6) foreclosure. (Civ. Code § 4925. ) The board may also call special meetings to be held “solely in Executive Session.” Such meetings only require two (2) days notice to the membership based on the fact that members are generally not entitled to be present during Executive Session. (Civ. Code § 4920(b).)

Only “Members” May Attend Board Meetings:One issue that surfaces from time to time deals with whether the association must allow a member to attend a board meeting with her attorney, or to allow the member’s attorney or agent to attend the board meeting on the member’s behalf. Fortunately, the court in SB Liberty v. Isla Verde Association (2013) clarified that only members of the association may attend board meetings. A member’s rights to attend and participate in board meetings under the Civil Code does not extend to attorneys, designated representatives, or any party other than the owner of the property (the “member” as defined under the associations’s governing documents).


Section Summary

• There are several types of meetings, each of which is subject to certain statutory requirements set forth in the “Common Interest Development Open Meeting Act.”

• Secret ballots must be used for association elections to ensure confidentiality.

• Understanding what constitutes a “board meeting” and an association “item of business” is important for determining what statutory requirements must be satisfied before the board can take action.

• The board is generally prohibited from discussing and/or taking action on items of business which were not on the meeting’s agenda provided to the membership.

• There are two (2) main components to a board meeting: Open Session and Executive Session. The rights of members to attend and participate in each component varies, as does the board’s ability to discuss and/or take action on certain items of association business.




BOARD MEETINGS

MEMBER MEETINGS & ELECTIONS

Member Discipline and Dispute Resolution

Members purchase their homes within the association in reliance on the various provisions of the governing documents being faithfully and consistently enforced. Enforcement of the association’s governing documents is thus one of the principal responsibilities of the board; having the authority to discipline members is vital to fulfilling that responsibility.

Enforcement Overview

Addressing ViolationsThere are three (3) primary steps that are taken by the board when addressing a member’s violation of the governing documents: (1) persuading the member to voluntarily correct the violation within a set time frame (e.g., sending violation letters); (2) levying fines or other disciplinary measures on the member; and, should those measures prove ineffective, (3) filing a lawsuit against the member to compel his compliance.


The association may be held liable for its failure to enforce the governing documents: “Any owner who believes that the association is not discharging its duty to enforce the restrictions has an individual cause of action against the association and the person who has violated the restrictions.” (Posey v. Leavitt (1991) 229 Cal.App.3d 1236.)


Levying Fines and Suspending Membership Privileges

Due Process RequirementThe association’s governing documents should provide the board with the authority to take certain disciplinary measures (e.g., levying vines and suspending membership privileges) against members for violations of the governing documents. Such disciplinary measures cannot be taken by the board unless the violating member has been provided adequate “due process.” Due process in this context refers to procedural due process, as the board is required to provide the violating member with notice of the violation as well as a hearing (meeting) with the board where the member may address the board. (Civ. Code § 5855.) Adopting a Fine ScheduleA fine schedule that consists of monetary penalties which may be levied for violations of the governing documents should be adopted by the association to deter unwanted behavior. (Civ. Code § 5850.) Any changes to that fine schedule must be distributed to the membership in accordance with Civil Code § 5310.

ReasonableA fine schedule is essentially a set of operating rules. It is thus governed by the same requirements—namely, that it is in writing, within the board’s authority under the governing documents,

The board must ensure that it strictly complies with the notice and hearing requirements contained in Civil Code § 5855 before taking disciplinary measures against a violating member. Failure to do so could subject the association to liability and/or prejudice the association should the matter ultimately proceed to mediation or litigation.


and reasonable. In satisfying the “reasonable” requirement, the association must ensure that the fines are tailored to deter unwanted behavior and not to serve as an additional source of revenue for the association.

Suspending Membership PrivilegesThe board may temporarily suspend certain membership privileges of a member who violates the association’s governing documents provided that due process has been followed and the suspension of privileges is contained within the association’s written disciplinary policy. Common suspensions include those that relate to use of the association’s recreational facilities (e.g., pools and clubhouses) and parking (e.g., guest parking and/or valet service for condominium developments).

The board should evaluate the association’s fine schedule to ensure that it is properly structured to deter unwanted behavior. Fine amounts that may have been adopted years in the past may no longer be effective in this respect.

The board must use caution when determining what membership privileges may be suspended in response to violations. In general, the association is prohibited from barring a member and/or the member’s guests from accessing portions of the common area that are necessary for gaining access to the member’s unit (e.g, barring access to the lobby or elevator). Additionally, the association, like a landlord, is prohibited under California law from interfering with the member’s utility services.


Dispute Resolution Procedures

Dispute Resolution ProceduresAssociations are required to have procedures in the governing documents to resolve disputes between the association and a member. (Civ. Code § 5905.) In general, there are two (2) distinct dispute resolution procedures for the association to undertake before it should consider litigation: Internal Dispute Resolution (“IDR”) and Alternative Dispute Resolution (“ADR”).

Internal Dispute Resolution (“IDR” aka “Meet and Confer”) The association must provide a “fair, reasonable and expeditious procedure” for resolving disputes between the association and a member. (Civ. Code § 5905.) This process is commonly known as “Internal Dispute Resolution” (“IDR”) and can also be referred to as “Meet and Confer.” It is essentially an informal meeting where a member meets with one (1) director in an effort to resolve the dispute. Where an association does not establish an IDR procedure, the procedures under Civil Code § 5915 apply automatically. Unlike ADR, no costs may be charged to the member for participating in IDR with the association.

New Legislation: Attorneys at IDR Effective January 1, 2015, members now have the right to be assisted by an attorney during IDR. (Civ. Code § 5915.) Where a member does bring an attorney to IDR, the association should ensure that its attorney is also present.

Unlike ADR, the association is required to participate in IDR if so requested by the member. Unless otherwise stated in the governing documents, the association must appoint a board member to attend the IDR at a convenient time and place. (Civ. Code § 5915.)


Alternative Dispute Resolution (“ADR”)Alternative Dispute Resolution (“ADR”) is a non-judicial process that involves a neutral third party. ADR may be conducted in the form of mediation or arbitration, and the costs of ADR are split between the association and the member. Mediation involves a neutral third party who has no authority to impose a binding resolution on the parties and acts simply as a facilitator. During mediation, no evidence or testimony is required. Arbitration also involves a neutral third party; however, the arbitrator also can impose a resolution which is either binding in court or non-binding.

Litigation

Litigation may be RequiredThere may be circumstances where a recalcitrant member refuses to voluntarily correct a violation, or where a member refuses to reimburse the association for damage he caused to association property or neighboring units. In those circumstances, satisfying the association’s enforcement duties may require the association to ultimately file a lawsuit against the member for damages and/or injunctive relief.

Pre-Litigation Requirement (ADR): Neither an association nor a member may file a lawsuit unless they have “endeavored to submit their dispute to [ADR].” (Civ. Code § 5930.) Thus, the association is required to offer a member the chance to participate in ADR before the association can proceed with litigation. That requirement does not apply to small claims actions for monetary damages. Unlike IDR, when a member requests ADR with the association, the association is not required to participate.


Standing to Sue & DefendAn association has standing to “institute, defend, settle, or intervene in litigation” in matters pertaining to: (a) enforcement of the governing documents; (b) damage to the common area; (c) damage to a separate interest that the association is obligated to maintain or repair; and (d) damage to a separate interest that “arises out of, or is integrally related to, damage to the common area, or a separate interest that the association is obligated to maintain or repair.” (Civ. Code § 5980.) Discretion to LitigateThough there is a duty to enforce the governing documents, the association is not required to proceed with litigation in every instance where a dispute cannot be resolved by non-judicial means. The board is granted a certain degree of discretion in determining whether commencing legal action will be in the best interest of the association. That discretion is meant to allow for the board to weigh various issues such as the costs involved in enforcement, the severity of the violation at issue, and the potential for non-enforcement to prejudice the association’s ability to enforce such restrictions in the future. Attorneys’ FeesThe association will undoubtedly incur attorneys’ fees in carrying out its enforcement duties. Fortunately, Civil Code § 5975(c)

The board may not unreasonably rely upon its discretionary authority in order to avoid necessary litigation. While there may be instances where the determination to forego litigation can and should be made, that determination must be made “in good faith” where the board “reasonably believes its refusal to commence the action is good business judgment in the best interest of the association.” (Beehan v. Lido Isle (1977) 70 Cal.App.3d 858.)


provides for an association to recover its attorneys’ fees and costs should it prevail in a legal action. Unfortunately, however, the attorneys’ fees incurred by the association prior to commencing legal action (e.g., sending violation letters) are generally not recoverable and are considered a “cost of doing business” for the association. This, in addition to legal expenses related to issues such as review of vendor contracts, is why all associations should ensure that some amount is budgeted anually for the association’s legal expenses. That amount may be determined by considering the size of the association and the scope of its anticipated legal needs.

While the association is entitled to recover its attorneys’ fees and costs when prevailing in a lawsuit, attorneys’ fees awards are unpredictable and are almost always less than the attorneys’ fees and costs amount sought by the association. The attorneys at Tinnelly Law Group have obtained 100% attorneys’ fees awards in the past; however, such awards are incredibly rare. The board should therefore recognize that the association will inevitably incur some expense in bringing legal action.

Section Summary

• The association has the duty to enforce the governing documents and may be held liable for its failure to do so.

• The board must ensure that the association has strictly complied with the Civil Code’s due process requirements before levying fines and/or suspending a member’s privileges.


• Fines must be reasonably tailored to deter the unwanted behavior and should not be structured as a source of revenue for the association.

• The association is required to have a procedure in the governing documents (IDR) to resolve disputes between the association and a member.

• The association generally may not commence legal action against a member unless the association has given the member an opportunity to participate in ADR.

• There may be circumstances where satisfying the association’s enforcement duties requires the association to file a lawsuit against a member for damages and/or injunctive relief.

• The board is granted a certain degree of discretion in determining whether commencing legal action will be in the best interest of the association.

• The association is entitled to recover its attorneys’ fees and costs when prevailing in a lawsuit; however, attorneys’ fees awards are unpredictable and are almost always less than the attorneys’ fees and costs amount sought by the association.




DISPUTE RESOLUTION & ENFORCEMENT

Articles

Supplementary ArticlesThroughout the year, Tinnelly Law Group publishes articles on various topics relevant to the current legal climate faced by community associations. The following is a short collection of articles that shed further light on topics touched upon in the main section of this guidebook.

These articles are available for download from our website’s library, located at http://www.tinnellylaw.com/library.html

IntroductionVarious laws have been established to protect the rights of disabled individuals, such as the Americans with Disabilities Act (“ADA”) and the Federal Fair Housing Act (“FFHA”). These laws govern both public and private facilities, and set forth the degree to which an entity, such as a homeowners association (“association”), is responsible for making modifications or improvements to accommodate individuals with disabilities. This article addresses the applicability of each of these laws to associations and sheds some light on the potential issues that homeowner association’s boards and Managers should be aware of.

Americans with Disabilities Act (“ADA”)Under the ADA, all public and government facilities are required to comply with specific use and construction requirements to

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accommodate disabled individuals. It is important to note that the ADA applies only to “public accommodations.” Therefore, an association will not be subject to the ADA unless the association is operating what can be considered a “public accommodation.” A “public accommodation” is any facility which an association is holding out for use by members of the general public—not solely for use by the association’s members and their guests. Though these situations are rare, associations have been subjected to ADA requirements when: (1) an association allows members of the public to buy memberships or passes to the association’s pool, (2) where an association allows schools, church groups or clubs to use association facilities on a regular basis, and (3) where an association maintains a rental office on the property that receives regular visits from the general public. Any association considering or currently allowing such activity should carefully inspect their facilities to ensure compliance with the ADA or, in the alternative, cease all such activities immediately. The failure to do so may lead to claims of discrimination against the association and otherwise subject the association to liability.

Federal Fair Housing Act (“FFHA”)The FFHA is similar to the ADA; however, the FFHA applies directly to housing facilities, including associations. Under the FFHA, an association may not legally refuse to make reasonable accommodations in its rules or policies when such accommodations may be necessary for a disabled owner to fully enjoy and use her unit. An example would include when a disabled owner requires the assistance of a service animal, an association would be obligated to grant a waiver from its “no pets” rule. The association’s refusal to make such an accommodation (one that is reasonable and necessary to afford a disabled owner the full enjoyment and use of her unit) is deemed to be discrimination under the FFHA. The FFHA also requires associations to permit a disabled owner to make, at such owner’s expense, reasonable modifications to the owner’s unit and association common areas.

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California Civil Code Section 1360Civil Code § 1360 requires associations to allow disabled owners to make modifications to their units and association common areas at the owners’ expense in order to accommodate the owner’s disability. Examples of such modifications may include power stair lifts, ramps or handrails. Under Civil Code § 1360, an association must allow an owner to make modifications to her unit and the route to the unit from a public way, so long as (1) the modifications are consistent with building codes, (2) the modifications are consistent with the intent of the governing documents relating to safety and aesthetics, (3) the modifications do not prevent reasonable passage by other residents, (4) the modifications are removed by the owner when the unit is no longer occupied by the disabled individual, and (5) the owner submits plans and specifications to the association for review. Accordingly, the association may require (1) the submission of plans for the modifications in order to ensure consistency with the overall design of the neighborhood, and (2) the execution of an agreement that the owner return the property to its original condition upon leaving the property.

SummaryAn association may be subjected to these laws in certain circumstances, including when an association opens its facilities to members of the public or when an association receives an accommodation request from a disabled resident. An association may be required to make reasonable accommodations in its rules and policies, or otherwise permit architectural modifications to a disabled owner’s unit and association common areas at such owner’s expense. Associations that have received a request for modifications, or are granting members of the public access to association facilities, should contact their legal counsel to determine the association’s rights, obligations and liabilities.

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There are instances where a disgruntled homeowner may file a lawsuit against his or her homeowners association (“association”). The lawsuit may be based on a variety of claims (i.e., claims involving property damage or alleged malfeasance on the part of the association’s Board of Directors). This is one of the reasons why associations are legally required to purchase and maintain certain insurance policies designed to protect the association and its membership from a variety of risks.

However, problems may arise in response to the actions taken by the association and its management once the lawsuit has been served. Those problems generally result from the way in which the lawsuit may have been “tendered” (sent to) to one or more of the association’s insurance carriers, including whether it was even appropriate to tender the lawsuit in the first place. This article addresses some of those problems and provides guidance to association boards and their management with regard to this issue.

Lawsuit & Insurance OverviewAs stated above, associations are legally required to purchase and maintain certain insurance policies designed to protect the association and its members, including its board members, from a variety of risks. Those policies almost always include (1) a general liability policy for claims relating to personal injury or property damage, and (2) a “D&O” (Directors and Officers) policy that extends to actions taken by the board and potentially association Committee Members. In general, these policies obligate an association’s insurance carrier(s) to “indemnify” the association (to reimburse the association for any judgment award entered against it), and to provide the association with a legal defense in the lawsuit. However, this does not mean that the insurance policies will provide indemnification and a defense in every type of lawsuit that may be brought against the association (i.e., association insurance policies rarely, if ever, provide indemnification and a

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leA “Tendering” Lawsuits Brought Against the HOA

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defense to lawsuits brought by a vendor of the association based on an alleged breach of contract).

Initial Evaluation of the Lawsuit by the Association’s Legal CounselAssociations may run into problems when the first step the association or its management take in response to being served with a lawsuit is to automatically tender the lawsuit to one or more of the association’s insurance carriers. We have seen instances where lawsuits should not have been tendered for numerous reasons, including:(1) The lawsuit itself being meritless;(2) The lawsuit involving a claim which is not covered by the HOA’s insurance policies;(3) The lawsuit being merely a small claims action; (4) The association being erroneously named as a party in the lawsuit; or (5) The homeowner failing to first utilize the statutorily required dispute resolution procedures (i.e., “Alternative Dispute Resolution”) prior to filing the lawsuit.

Even where a lawsuit should be tendered, we have seen situations where the lawsuit was tendered to the wrong insurance carrier, or there was some other error or delay in tendering the lawsuit. The association has thirty (30) days from the date of service of the lawsuit to respond to the complaint. Therefore, any delays in tendering the lawsuit to the appropriate insurance carrier may put the association at risk of having a default judgment entered against it.

For these reasons, the very first step that an association and its management should take in response to being served with a lawsuit is to immediately notify the association’s legal counsel so that an initial evaluation of the lawsuit can be performed. That evaluation will avoid the problems discussed above and will provide the board with guidance in determining whether tendering the lawsuit is necessary or appropriate. Additionally, the initial

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evaluation may reveal time-sensitive actions that should be taken prior to tendering the lawsuit (i.e., a motion to disqualify the judge that has been assigned to the case on the basis of a perceived prejudice).

Board Determination Whether to Tender the LawsuitOnce the board has consulted with the association’s legal counsel, the board should vote on whether or not to tender the lawsuit to one or more of the association’s insurance carriers. We have witnessed incidents in the past where a association’s management was strongly criticized for automatically tendering a lawsuit without having the board’s explicit authorization to do so. As with most matters pertaining to the business and affairs of the association, the results of the board’s vote should be documented in the board’s meeting minutes and made part of the association’s records.

Tendering the LawsuitWhere a lawsuit is to be tendered, the association will send the necessary correspondence (i.e., the lawsuit summons and complaint) to the agent/broker of the association’s insurance carrier. That correspondence will also include a formal request for the insurance carrier to indemnify and defend the association in the lawsuit. Associations should consider having this correspondence prepared and sent by the association’s legal counsel for several reasons, including: (1) To ensure that the insurance carrier(s) are notified of the pertinent response deadlines;(2) To set forth the legal basis for the association’s indemnification and defense request; and (3) To provide the insurance carrier(s) with information obtained in the initial review of the lawsuit that may be useful in defending the association.

Associations may in the alternative have the correspondence sent by the association’s management. However, that correspondence should at least be briefly reviewed by the association’s legal counsel prior to being sent.

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Legal Counsel Involvement Once the Lawsuit has been TenderedOnce the lawsuit is tendered, the association’s insurance carriers will typically assign “panel counsel” to the case. Panel counsel is an attorney that provides insurance defense services for that insurance carrier, and may even be an in-house attorney for the insurance carrier. Some circumstances may allow for the association to assign its own attorney (“cumis counsel”) to defend the association in the lawsuit, though these circumstances are becoming increasingly rare.

After panel counsel is assigned, there is generally no need to have the association’s legal counsel directly involved in the case. However, some involvement may be required to review and explain correspondence by the insurance carrier (i.e., the insurance carrier’s “Reservation of Rights” letter regarding its indemnification obligations as they relate to the homeowner’s claims) and to report on the status of the case to the board. Additionally, the association’s legal counsel should review the terms of any proposed settlement agreement to ensure that it is appropriately drafted to avoid issues that may arise after the lawsuit is settled. Therefore, for lawsuits involving complex issues and/or significant monetary claims, the board should consider having the association’s legal counsel operate in a supervisory role.

SummaryA lawsuit being served against the association is a serious matter and should be treated as such. Fortunately, associations have insurance policies designed to protect the association in a wide variety of claims that may be brought against it. However, this does not mean that associations and their management should automatically tender a lawsuit to the association’s insurance carrier(s) without first consulting with the association’s legal counsel. Having the association’s legal counsel perform an initial and immediate review of the lawsuit is vital to avoiding the problems discussed above.

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The decision as to whether to tender any lawsuit should be voted on by the board and made part of the association’s records. Once a lawsuit is tendered and the insurance carrier has assigned panel counsel to defend the association, there is generally no need to have the association’s legal counsel directly involved in the case. However, for lawsuits involving complex issues and/or significant monetary claims, the board should consider having the association’s legal counsel operate in a supervisory role.

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leA Association Reserve Accounts and Reserve Studies

Introduction“Always be prepared.” That simple phrase sums up the importance of funding and properly maintaining a reserve account. Accidents and surprise maintenance issues will inevitably pop up. When they do, the association that has been properly funding and managing its reserve account will be prepared to do what is necessary to protect the interests of the association and its members. This article covers the basics of reserve accounts and reserve studies, their importance, and the relevant obligations of an association and its board.

THE RESERVE ACCOUNTPurposeUnfortunately, it is not uncommon for a board to fail to understand how important it is to prudently manage its association’s reserve account. The reserve account plays a critical role in the long term health and financial viability of the association. The main purposes behind the funding of a reserve account are (1) to guarantee that the association will have access to the finances needed to satisfy the association’s common area maintenance obligations, and (2) to guarantee access to back-up funds in the case of an unanticipated emergency situation (e.g., the failure of a major common area component or litigation involving the association). Having those funds available at the time they are needed helps prevent costly and potentially crippling special assessments or assessment increases.

Funding RequirementThere are numerous provisions in the Civil Code which place limitations on the transfer and borrowing from a reserve account. Uniquely, however, those provisions do not contain language explicitly requiring an association to actually fund its reserve account. Despite that fact, the language within the Civil Code

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paired with relevant case law indicates that a board does have a legal obligation to ensure that its association’s reserve account is funded and maintained at a healthy level.

In the case of Ravens Cove v. Knuppe, (1981) 171 Cal.Rptr. 334, an association brought a construction defect action against its developer. The complaint filed by the association also named the initial board members as defendants, citing their failure to properly fund the association’s reserve account as a breach of their fiduciary duties to the association and its membership. In finding for the association, the court held that the board members had “abdicated their obligations as initial directors of the association to establish [a reserve fund] for the purposes of maintenance and repair.” The board members were therefore held personally liable to the association “for breach of basic fiduciary duties of acting in good faith and exercising basic duties of good management.” The court’s opinion confirmed that the proper funding and management of an association’s reserve account is indeed a key responsibility of board members. That responsibility is echoed in the language of Civil Code Section 1365.5 which states that “[t]he board shall exercise prudent fiscal management in maintaining the integrity of the reserve account.” Accordingly, although there is no explicit funding requirement, case law and the language in the Civil Code illustrate the importance of funding a reserve account and thereafter maintaining it at a healthy level.

Borrowing from ReservesBoards are able to, without a vote of the membership, borrow (transfer) funds from the reserve account to cover the association’s short-term cash flow needs. A board’s ability to borrow, however, should never be treated as a mechanism to avoid necessary increases in regular assessments over time. This is evidenced by the Civil Code’s strict limitations and requirements with respect to borrowing from a reserve account, such as the fact that the board must provide the membership with notice of the intent to borrow pursuant to Civil Code Section 1363.05 and must also develop a plan for restoring the borrowed funds within one (1) year. Boards

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should therefore consult with their association’s legal counsel to determine whether they have the authority to borrow and what procedural requirements will need to be satisfied in transferring the funds and then restoring the reserve account.

THE RESERVE STUDYPurposeThe reserve study is the primary tool for determining the extent of funding necessary for the association’s reserve account. The reserve study provides a list of all the major common area components which the association is obligated to maintain, as well as an estimate of the remaining useful life of those components based on physical evaluation performed by a third party. A financial evaluation is then performed of the reserve account. The information obtained from both evaluations is then used to determine the association’s present and future reserve funding needs. The reserve study is further defined in Civil Code Section 1365.5.

Reserve Study RequirementsUnless an association’s governing documents contain stricter requirements, the association is required to perform a full reserve study at least once every three (3) years. There are exceptions to this requirement where the association has no common area or if the total replacement cost of the common area components is less than fifty percent (50%) of the association’s annual gross budget. Associations are also required every year to prepare and distribute (1) an annual update of the reserve study, (2) a reserve funding plan, and (3) an assessment and reserve funding disclosure summary. This information must be distributed to the membership thirty (30) to (90) days prior to the beginning of the association’s upcoming fiscal year.

ADDITIONAL CONSIDERATIONSLevel of FundingA common question with regard to reserve accounts is “what level/percentage of funding is considered healthy?” 100% is an

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obvious answer; however, that situation is very rare. Numerous factors may impact what can be considered “healthy” for any particular community, and boards and association managers will undoubtedly hear differing opinions on this issue from industry professionals. As a general position, we advise our clients to keep their reserve funding at or above 80%.

Prospective PurchasersAssociations that plan ahead by projecting long term expenses and properly funding their reserve accounts will appear more attractive to prospective purchasers. A properly funded reserve account indicates that sufficient funds are in place to cover upcoming repairs, and also broadly reflects on the financial health and management of the community. As community associations become more prevalent, prospective purchasers are becoming more aware of these issues in their efforts to avoid financial pitfalls.

Emergency FundsIt is impossible to anticipate every situation that an association may encounter. There are emergencies that arise—and sometimes those emergencies can involve the failure of a major common area component such as a slope or roofing system. A properly funded reserve account can be a source to borrow the funds needed in emergency circumstances and thus prevent the need for an association to levy a costly and potentially crippling special assessment.

Board Decision MakingA properly drafted reserve study will guide a board in making maintenance, repair and assessment related decisions. It can therefore be useful in justifying the reasons why the board may have taken an action which was unpopular with certain association members (e.g., raising annual assessments). The reserve study itself indicates that the board is upholding its fiduciary duties to the membership and exercising prudent business judgment in managing the association’s affairs.

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LoansThere may be situations where it becomes necessary for an Association to take out a loan. Lenders often require a reserve study as part of the association’s loan application. Having an up to date reserve study can therefore make it easier for the association to obtain a loan and possibly a lower interest rate.

SUMMARYThe reserve account plays a critical role in the long term health and financial viability of an association. A poorly funded reserve account may hinder the association’s ability to carry out its responsibilities under its governing documents and may adversely impact the respective property values of the association’s members. The prudent management of the association’s reserve account is therefore one of the key responsibilities of the board. Failure to uphold this responsibility may result in situations where the association must levy costly and potentially crippling special assessments, and may even expose the board members to personal liability in extreme cases.

The board should therefore utilize the assistance of industry financial and legal professionals to help comply with the Civil Code’s reserve study requirements, as well as its limitations governing when and how funds may be borrowed from a reserve account.

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leA Rogue Directors: Battling Bad Behavior

IntroductionServing as a director can be a frustrating and thankless job. Raising assessments, enforcing the governing documents, and taking other potentially unpopular actions can lead to disputes and charged emotions. Despite that fact, directors, as representatives of the association, must conduct themselves in an appropriate manner. Overly aggressive or inappropriate behavior by a rogue director or officer can give rise to liability for both the association and the board. Fortunately, there are mechanisms available to safeguard against liability in such situations and, if necessary, to have the rogue director removed. This article addresses those mechanisms.

Establishing a Record of DisapprovalWhen dealing with a rogue director’s improper conduct, the primary focus of the board should be to establish a record of disapproval. As a first measure, the remaining directors should prepare a written warning statement to the rogue director (1) identifying the conduct at issue, (2) demanding that all such conduct cease immediately, and (3) stating that the board as a whole does not condone the actions of the rogue director. Additional statements should be prepared if the conduct does not cease. These statements may not be well-received by the rogue director; however, they are crucial to establishing a record of disapproval necessary to protecting the board and the association. Conducting a Censure If a written warning to the rogue director fails to stem the inappropriate conduct, the board should consider conducting a public censure. A public censure is essentially a documented reprimand of the rogue director. It is performed at a meeting of the membership and recorded in the official minutes of the association. The censure is a useful means of insulating the board and the association from liability by publicly disclosing the rogue director’s misconduct which the board and the association neither endorses nor approves. Depending on the severity and regularity of the

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misconduct, the board may wish to take one step further by making an official request, recorded in the minutes of the association, for the rogue director’s immediate resignation. The rogue director has no obligation to resign; however, the request in itself establishes that the association was working to remedy the problem. Recall ElectionIn extreme cases it may be possible to have a rogue director removed via a recall election pursuant to Corporations Code § 7222. Although the procedure may vary depending upon the terms of the governing documents, a recall election provides a mechanism for removing a rogue director if a majority of the members votes to approve the removal. However, a recall election is only advised when the party moving for the recall has reason to believe that a significant majority of the members would support the motion for removal. It should also be noted that recall procedures and requirements vary slightly with respect to directors appointed by the board or a court. Under those circumstances, the recall powers essentially rest in the hands of the party who appointed the rogue director. Accordingly, in the event that the rogue director was appointed by the board, removing that rogue director is much easier to achieve. Removal via Order of the CourtAs a final resort, and depending on the conduct in question, the board may also seek to have the rogue director removed by an order of the court. Corporations Code § 7223 provides that a director may be removed by court order for “fraudulent or dishonest acts or gross abuse of authority or discretion… or breach of any duty.” It is important to note that merely aggressive or outlandish behavior is likely not sufficient to remove a rogue director under Corporations Code § 7223. However, to the extent that a rogue director grossly abuses their authority as a result of their involvement in a dispute, or breaches any duty owed to the association or its members, removal under Corporations Code § 7223 may be a feasible option.

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SummaryVarious options are available to a board to address the problematic conduct of a rogue director. As noted above, the board’s initial response should always be to establish a record of the board’s/association’s disapproval of the rogue director’s conduct. This can be done through either a written admonishment or a public censure recorded in the minutes of the association. Furthermore, depending on the seriousness of the misconduct involved, the board or the association’s members may seek removal of the rogue director through either a recall election or court order. Boards which are troubled by the misconduct of a rogue director are encouraged to contact their association’s legal counsel to determine the best method for resolving the problem and insulating the board and the association from potential liability.

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IntroductionEvery homeowners association will at some point hire a vendor to perform certain tasks on behalf of the association, or to furnish services to the association and its members. In doing so, an association may be exposed to liability brought about by vendor actions and/or the terms of the vendor contracts. Because such liability may substantially impact the financial interests of the association and its members, association boards of directors and community managers must understand how to properly protect the association when hiring a vendor. This article addresses three issues that are key to doing so: (1) the necessity for hiring properly licensed, bonded and insured vendors, (2) the employment status of a vendor as an “independent contractor” or an “employee” of the association, and (3) the importance of having proposed vendor contracts reviewed by legal counsel prior to execution.

Licensed, Bonded and Insured VendorsIn California, anyone who contracts to perform work that is valued at $500 or more for materials and labor must hold a current, valid license from the Contractors State License board (CSLB) in the specialty for which he or she is contracting. Because unlicensed vendors rarely have bonding or workers’ compensation insurance, they can pose a severe financial risk to the association in the event of property damage or injury. An association that hires an unlicensed or uninsured vendor also subjects itself to potential liability for unpaid wage or worker’s compensation claims brought by the vendor’s employees. Accordingly, as fiduciaries, the association’s board of directors must be diligent in ensuring that a potential vendor is properly licensed, bonded and insured. Associations and community managers should therefore always check the online CSLB verification page to verify the vendor is licensed for the type of work to be performed, that no action has been taken against the vendor’s license, and that the vendor is properly bonded.

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leA Homeowners Association Concerns in Contracting with Vendors

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Employment Status: “Independent Contractor” or “Employee”The “independent contractor” versus the “employee” status of a vendor significantly impacts the association’s obligations and liabilities in hiring the vendor. In addition to avoiding such issues as paying payroll taxes, workers’ compensation insurance and IRS reporting requirements, when a vendor is deemed to be the association’s “independent contractor,” the association better shields itself from potential liability for damage caused by the vendor’s negligence during the course of the vendor’s work. This is because the association is deemed to have control over only the result of the vendor’s work, not “the means by which such result is accomplished.” Ca. Labor Code § 3353. associations should thus include provisions in their vendor contracts explicitly designating the vendor as an independent contractor of the association. So long as the association retains only “a broad general power of supervision and control as to the results of the work to insure satisfactory performance of the independent contract …including the right to inspect, the right to stop the work, the right to make suggestions or recommendations about the details of the work, and the right to prescribe alterations or deviations in the work,” the employment status of the vendor as an independent contractor of the association will not be jeopardized. McDonald v. Shell Oil Co. (1955). If, however, the association does such things as train the vendor, establish the vendor’s working hours, or provide the vendor with tools and equipment, the association risks a shift in the employment status of the vendor to an employee of the association. Additional factors used to evaluate a vendor’s employment status can be found in I.R.S. Publication 1179.

Written Vendor Contracts Reviewed by Legal Counsel A written vendor contract, reviewed by legal counsel, is a necessity in every circumstance regardless of the size and scope of the service/job for which the association is contracting. This may seem like a “no-brainer” to some associations and community managers—especially to those that have been badly burned by vendors in the past. However, we are constantly surprised on how the smallest jobs can turn into the largest problems where

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associations short-cut the process by not having a written vendor contract, or by executing a vendor contract without first having it reviewed by the association’s legal counsel. In general, a written vendor contract is paramount to establishing:

1. the scope of the work to be performed by the vendor, 2. the timeline with which the work must be performed, 3. the price to be paid for the work, 4. how the contract may be terminated and by whom, 5. the methods of payment, 6. how breaches of the contract will be addressed, 7. any warranties concerning the work to be performed, 8. the employment status of the vendor, and9. indemnification of the association for any damages brought

about by the vendor during the course of work.

Situations where associations suffer financial loss by not having vendor contracts reviewed by legal counsel are often the result of exculpatory clauses contained in the vendor contracts (e.g. indemnification and/or “hold harmless” provisions) as well as the enforcement of exclusivity, term renewal, and arbitration provisions. Legal review of vendor contracts also ensures that the association’s governing documents grant the board of directors the authority to enter into the desired contract and to bind the association to its terms.

SummaryDespite how simple the process may seem to select and hire a vendor, association boards and community managers should recognize the association’s potential exposure to liability should a problem arise. Appropriate steps must be taken to ensure that the interests of the association and its members are protected. At a minimum, these steps include (1) verification that vendors are properly licensed/bonded/insured, (2) obtaining written vendor contracts, and (3) ensuring that such contracts are reviewed by the HOA’s legal counsel prior to execution.

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IntroductionAs communities mature, the need for major repairs or renovations can become a major concern. Often because of unforeseen problems or insufficiently funded reserves, community associations are not capable of funding the necessary repairs immediately. In order to avoid a piecemeal repair effort in such situations, or the possibility of additional problems arising from the postponement of the repairs, it may become necessary for an association to borrow money. Fortunately, many banks have recognized this need and are willing to lend to associations for major repairs and renovations. This article addresses some of the more frequently asked questions and important issues relating to association borrowing.

Common Reasons for BorrowingAs noted above, the most common reason for borrowing is the need to finance a large scale repair or renovation. Common projects of this magnitude include roof repair or replacement, pipe repair or coating, and street resurfacing. In the absence of adequately funded reserve accounts, associations opt to borrow the money needed to fund the projects instead of levying what can be a substantial and unfeasible special assessment on its members. Borrowing the funds and allowing the membership to pay them back over time is often the only practical solution. Associations may also seek lending for the purchase of additional real estate, land leases, or equipment, or to make capital improvements in the community.

What Does the Bank Use for Collateral?Generally, an association cannot pledge real property against a loan. So what sort of collateral does the bank generally use when lending to associations? The answer is assessments and other accounts receivable. In exchange for the loan, an association assigns its rights to collect regular, special and other assessments, along with rights to collect other accounts receivable to the bank.

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leA Association Repair and Renovation Loans

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Under limited circumstances, such as where the purpose of the loan is to acquire additional real estate, the bank may request a mortgage on the additional property. Personal guarantees by a board member or liens against an individual unit are not used to secure an association loan.

Effect of Association Loan on Individual Unit OwnersIndividual unit owners will not be directly obligated under the loan. The existence of the loan will therefore not affect the subsequent sale or purchase of the unit. Additionally, the loan will not be reported on an individual unit owner’s credit report or otherwise affect their credit. The most notable and common effect on the individual unit owners is a change to the amount of monthly or annual dues. As the association will be responsible for making regular loan payments, it is often necessary to raise monthly assessments or to levy a series of special assessments to cover the cost of the loan payment. Associations must therefore understand what statutory limitations exist on their ability to raise assessments and how those limitations will ultimately affect their payment strategy.

What Percent of a Project Will Banks Finance?Banks are often willing to fund the entire cost of a repair, reconstruction or capital improvement project. However, if an association has sufficient reserves to fund a portion of the project, securing 100% funding may not be appropriate.

Typical Structure of an Association LoanThe structure of the loan often depends on the type and length of the proposed project. Generally, the bank offers a line of credit which an association can draw on over the period of the repairs or improvement. Under some circumstances, an association will provide invoices during this period to receive advances from the credit line. At the completion of the project, the portion of the credit line actually used by the association will be converted into a more traditional loan with an amortizing period causing principal and interest payments. Typically, the amortizing periods are less than ten years.

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Common Qualifying Terms for an Association LoanIn order to obtain a loan, an association must first meet various qualifications. Although some points are non-negotiable, banks are generally willing to work with an association to overcome obstacles in the qualification process. Among the most common qualifications are 1) the community’s developer may not be in voting control of the association’s board or have ownership of more than 10% of annual budget, 2) the individual unit owner delinquency rate cannot exceed 10% of the total number of units being past due more than 60 days, 3) the development must be more than approximately 15 units, 4) absentee owners should not exceed 40% of the community, 5) no one unit owner should own more than 10% of the total number of units, and 6) proposed budget increases by the association should not exceed 100%.

Timeline for Association to Acquire a LoanPrior to the completion of a loan application, associations should ensure that their governing documents and state law permit the association to take such action. Often, associations are required to hold a vote of the membership or adopt an amendment to the association’s governing documents. After measures have been taken to ensure compliance, and the loan application has been transmitted to the bank, the loan approval process can move very quickly. In order to avoid unnecessary delay, association board members should contact legal counsel at the beginning of the loan process. Upon approval from counsel and all parties involved, the loan will close quickly. Thereafter, the association may immediately submit requests for advances to obtain necessary funds.

Prepayment PenaltiesLoans to associations generally do not include prepayment penalties. Accordingly, if an association’s reserves are sufficient, it may wish to pay off a portion of the debt early. In addition to avoiding substantial amounts of long term interest, by reducing the amount of the debt, an association may be able to reset the amount of the monthly payment and thereafter reduce the assessments imposed on owners.

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SummaryLoans can be a useful tool to implement necessary repairs or large scale renovations when an association’s reserves are low. In exchange for a pledge of the association’s future assessments, the association may acquire the necessary funds to take immediate action and prevent unnecessary additional damage to the association. The impact on the individual unit owners is minimal beyond potential increases in assessments, and the ability to make pre-payments provides the association with the opportunity to eventually reduce loan payments and assessments. Accordingly, a loan may be an attractive option for associations aware of approaching repair or renovation deadlines.

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IntroductionElecting a board of directors to manage the association is a complex and time consuming process. Despite the best of intentions, sometimes things slip through the cracks, whether it’s the qualifications of someone on the ballot or the manner in which votes are collected and tallied. When this occurs, the appointment of a specific director or the election as a whole can be challenged by a member. This article discusses the basics of such a challenge, including who has standing to bring a challenge, when a challenge can be brought, and how such a challenge can affect the association.

Why Might an Election be Challenged?A member may challenge an election for a myriad of reasons. Common claims behind a challenge include the following: (1) that a specific director was not qualified to run at the time of the election, (2) that the tallying of votes was done in an improper manner, (3) that improper notice of the election was given to the membership, and (4) that improper use of proxies occurred. Unfortunately, however, the true issue often underlying a challenge involves the member’s disapproval of those elected. Who May Challenge an Election?The individuals entitled to challenge an election are set forth in the California Corporations Code § 7616(a), and include the following: (1) any director of the association, (2) any member of the association, and (3) any person who had the right to vote in the election at issue. Prior to addressing the validity of any challenge to a director’s qualifications or an election as a whole, the board should first determine whether the individual bringing the challenge falls into one of the three categories listed above.

When Can a Challenge to an Election be Brought?Corporations Code § 7527 provides that a challenge to an election may be brought anytime within nine (9) months of the election

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leA Challenges to Association Elections: Facts and Consequences

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date. Thereafter, assuming that no fraud has occurred, the election, appointment or removal of a director is conclusively presumed to be valid. It should be noted, however, that a slight conflict exists in the law with respect to the exact period in which a challenge may be brought. Civil Code Section 1363.09(a) provides that a civil action may be brought within one (1) year for a violation of the election procedures set forth therein. Despite this inconsistency, both Section 1363.09(h) of the Civil Code and unpublished court decisions indicate that the nine (9) month deadline controls.

What Options are Available to a Board, if a Challenge Reveals that a Director is Unqualified?If a challenge to a director’s qualifications is brought within nine (9) months of an election, and it is revealed that the director was in fact not qualified at the time of the election, the board may opt to correct the situation by removing the unqualified director. Under Corporations Code § 7221, “The board by majority vote of the directors who meet all of the required qualifications to be a director, may declare vacant the office of any director who fails or ceases to meet any required qualification that was in effect at the beginning of that director’s current term in office.” It is important to note that this Section does not require the removal of the director, but rather permits it. However, by opting to remove the director, the board may prevent a prolonged dispute.

Validity of Actions Taken by the Board During the Period when an Unqualified Director was ServingIf a challenge is brought, and it is revealed that a director was not qualified to serve on the board, there may be a question as to the validity of the board’s actions during the period that director served. To the extent that a majority of the board (excluding the unqualified director’s vote) voted on any specific action, thereby making the unqualified director’s vote irrelevant, it is unlikely that a challenge to such an action would be successful. However, if that director’s vote was critical to an item of business acted upon or approved by the board, it may be prudent for the board to take additional steps to reaffirm the board’s decision. Specifically, the

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qualified directors may wish to retroactively reaffirm and approve each such action during a proper meeting of the membership.

SummaryVarious factors must be considered when an election or a director’s qualifications are challenged by a member. The standing of the individual bringing the challenge and the time in which the challenge is brought are both threshold questions that should be given immediate consideration. As noted above, where the reasoning behind a challenge is valid, several options are available to remedy the situation before it escalates. When such a challenge is likely, or has already taken place, boards should contact their association’s legal counsel for guidance.

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IntroductionSenate Bill 563 amends several sections of the California Civil Code—most notably Civil Code § 1363.05, known as the “Common Interest Development Open Meeting Act.” The amendments include new restrictions on actions without a meeting and what matters may be considered at a meeting. The amendments also provide new requirements with respect to meetings held in executive session as well as requirements for meetings held electronically or by teleconference. Below is an outline of these new restrictions and requirements.

No Action without a MeetingPreviously, boards were permitted to take action on an item without a meeting if all members of the board gave unanimous written consent to that action. The new legislation amends the Open Meeting Act to state that a board “shall not take action on any item of business outside a meeting.” This amendment will likely produce a substantial effect on the ways in which boards have traditionally managed the affairs of their associations during the periods between their regularly scheduled board meetings.

New Definition of “Item of Business” As discussed above, a board is now prohibited from taking action on “any item of business” outside a meeting. “Item of business” is now defined as “any action within the authority of the board, except those actions that the board has validly delegated to any other person or persons, managing agent, officer of the association, or committee of the board comprising less than a majority of the directors.”

Executive Session = a “Meeting” of the Board of DirectorsThe Open Meeting Act’s definition of “meeting” was often interpreted as not including the times when the board would meet solely in executive session. The new legislation amends the

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old definition of “meeting” to include executive session—making “meetings that will be held solely in executive session” subject to new requirements.

New Two (2) Day Notice Requirement for Meetings Held “Solely in Executive Session” The previous notice requirements with respect to meetings required, at a minimum, four (4) day notice be provided to members for all meetings of the membership. There were no previous notice requirements for when a board met solely in executive session or conducted an emergency meeting. The new legislation amends these notice requirements to require that, at a minimum, two (2) day notice be given to members for “meetings that will be held solely in executive session.”

Meetings via Electronic TransmissionThe new legislation explicitly disallows meetings conducted via a series of electronic transmissions (including Email), except for emergency meetings. In order to conduct an emergency meeting via electronic transmission, all board members must give unanimous written consent and their consent must be filed with the minutes of the emergency meeting. The written consent to conduct an emergency meeting may be transmitted electronically.

Meetings via TeleconferenceThe new legislation amends the Open Meeting Act’s definition of “meeting” to include a “teleconference in which a majority of the members of the board, in different locations, are connected by electronic means, through audio or video or both.” If a board wishes to conduct a meeting of the membership by teleconference, the notice of the teleconference meeting must identify at least one physical location so that the members of the association may attend, and at least one board member must be present at that location. This additional notice requirement does not apply to “meetings held solely in executive session” or to emergency meetings.

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Agendas for Executive Session Meetings Must be Made Available to the MembershipExisting California law requires an association to make available specified association records, but excludes from those requirements agendas for board meetings that are held in executive session. This new legislation removes this exclusion, ultimately requiring an association to make agendas for meetings held in executive session available to members.

New Restriction on What Matters May be Considered at a MeetingThe new legislation amends Civil Code § 1363 to delete the provision generally allowing for a board to consider any proper matter at a meeting. Before the new legislation, a board was still precluded from acting on an item that was not on the noticed agenda for the meeting. However, as a result of the new legislation, not only can the board not act on such an item, but the board is disallowed from even considering such an item at the meeting unless it was noticed as an action item for the meeting.

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IntroductionThe 2012 amendments to the “Common Interest Development Open Meeting Act” have made it significantly more difficult for boards to manage the affairs of their associations in a quick and efficient manner. Those amendments, as discussed in our previous article, “Senate Bill 563: Boards and their Business,” made significant changes to the Civil Code, including, (1) revisions to the definition of meeting to include executive session meetings, (2) the inclusion of a new “No Action Without a Meeting” rule, (3) the implementation of a rule prohibiting boards from considering items of business not noticed on a meeting agenda, and (4) a prohibition on meetings conducted or actions taken through email. As any board member or Manager knows, these changes have not only deprived associations of many of the tools previously used to conduct business outside of regularly held board meetings, but have also obstructed the channels and methods of communication that are necessary to effectively assign responsibilities and make ongoing mid-project decisions. Although associations are unfortunately bound to abide by these requirements, there are devices available to the board that can significantly decrease the burdens these requirements impose. This article discusses the use of one such device - the committee - and the various ways in which it may be used by boards to address association business within the constraints imposed by the Civil Code.

No Action Without A Meeting & The Authority to Delegate One of the most onerous requirements with respect to the way in which a board may conduct its association’s business is that which precludes the board from taking action on any “item of business” outside of a meeting. This requirement substantially restricts a board’s ability to make time-sensitive decisions, such as those which are necessitated by ongoing projects/issues within the community. However, the recent amendments to the Open Meeting Act define “item of business” to exclude “those actions

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that the board has validly delegated to any other person or persons, managing agent, officer…or committee of the board comprising less than a majority of the directors.” Accordingly, by validly delegating some of its authority to a committee, a board provides a mechanism for certain actions to be taken outside of a formal meeting. For example, if an association is undergoing a construction project, the board can get around the prohibition on actions without a meeting by delegating its authority to a “construction committee” empowered to make certain decisions impacting the association’s ongoing construction efforts. Such a committee could immediately take action to resolve any time-sensitive issues or concerns which may surface during the project.

Committee MembersSubject to the terms of the governing documents, any individual may be appointed to serve as a committee member, including non-members. However, there are some limitations (e.g., a committee may not be comprised of board members constituting a majority of the board). Boards may also require individuals to meet specific criteria prior to being appointed to a committee (e.g., be a member in good standing). Often, candidates are chosen based on their familiarity with a particular topic (e.g., an architect or engineer may be placed on the architectural review committee). It should be noted that the Corporations Code imposes special requirements with respect to the composition of “executive committees.”

Committee Formation ProceduresUnder Corporations Code § 7212(a)(6), the right to appoint committee members is reserved for the board of directors. Such appointments require a majority vote of the board, unless the controlling documents provide otherwise. Additionally, as committee formation is not an activity authorized for executive session, it must be done in open session. At the time of formation, the board should also appoint a committee chairman and determine the duties, responsibilities and term of the committee. The committee chairman may only be appointed by the board, and no reorganization may occur without board permission. Additionally,

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unless already spelled out in the governing documents, the board is also responsible for establishing the duties and responsibilities of the committee. After formation, the board may remove a committee member, appoint a new committee member, appoint a new chairman, increase or decrease the duties and responsibilities of the committee, or dissolve the committee at their discretion.

Common Committees and their BenefitsCommittees may be created for a variety of purposes. Common committees include architectural review committees, litigation committees, repair and maintenance committees, finance committees, and violations committees:

(a) Architectural Review Committees (“ARCs”) are generally governed by terms provided in the governing documents. The establishment of an ARC allows plan submissions, walkthroughs and other necessary actions to occur without full board involvement. (b) Litigation Committees are a necessity when an association is involved in litigation, as the need to make quick decisions, such as those involving time-sensitive settlement offers, is not uncommon. Furthermore, where the litigation directly involves a director or directors, it may be necessary for the remainder of the board to form a litigation committee. It is also important to note that litigation committees may only be composed of directors.(c) Repair and Maintenance Committees, Finance Committees, and Violations Committees are a useful device for boards who have difficulty operating within the Civil Code’s requirements. Particularly with regard to maintenance and repair projects where decisions are often made on an ongoing basis, it is more efficient to appoint a committee capable of taking action outside of a meeting. This is especially true when dealing with community wide repairs such as re-piping projects.

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Establishing Guidelines, Authority and DutiesUpon the creation of a committee, the board should clearly spell out, in a written document, the responsibilities and duties of the committee and its individual members. Such a document should establish the relationship between the committee and the board and set forth the limitations on the committee’s authority. Common limitations include those that govern the amount of expenditures a committee can approve without board consent, and those that limit the authority of the committee to take specific actions without board consent. However, boards should be cautious not to overly restrict a committee’s authority so as to frustrate its ability to efficiently carry out its intended functions.

SummaryCommittees are a valuable device for boards struggling to comply with the constraints imposed by the Civil Code. However, there are various legal issues that attend a board’s decision to delegate some of its authority to a committee. Accordingly, a board should consult its association’s legal counsel for review of its current or proposed committee structure, function and authority.

Page iIndex

IndexAADR 44. See also Alternative Dispute Resolutionagenda 36Alternative Dispute Resolution 44annual budget 21, 24annual meetings. See also meetingsarchitectural guidelines 8architectural rules,. See also architectural guidelinesarticles of incorporation 5assessment lien 27, 28assessments 24, 25, 27association records 13, 20, 21attorneys’ fees 45, 46

Bboard meeting 31, 34, 35, 36, 37, 38, 74, 75, 76, 77, 78. See also meetingsbusiness judgment rule 15, 16, 18bylaws 6, 7, 10

CCC&Rs 6common areas 1, 2, 3, 4, 9, 22, 23, 45, 48common interest development open meeting act 31, 34, 37, 72, 74, 76common interest developments 1Community Apartment Project 2, 3condominium plan 9Condominium Project 1, 3, 9conflict of interest 14

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DDeclaration of Covenants, Conditions and Restrictions. See also CC&Rsdelinquent assessments 26, 27, 28design standards. See also architectural guidelinesdue diligence. See also duty of caredue process 26, 41, 42duty of care 13duty of loyalty 14

Eemergency assessments 25emergency meetings 36. See also meetingsexclusive use common areas 3, 4, 9executive session 38

Ffiduciary duty 13fine schedule 41, 42

IIDR 43. See also Internal Dispute Resolutioninspectors of election 32Internal Dispute Resolution 43item of business 35

Jjudicial foreclosure 27

Mmeetings 31

Nnon-judicial foreclosure 27notice of meeting 32, 36

Oopen session 37operating rules 7, 8

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Pplanned development 2, 3, 9proxy 33

Qquorum 12, 32

Rregular assessments. See also assessmentsreimbursement assessments 26reserve account 22, 23, 24reserve study 21, 22rules and regulations. See also operating rules

Sseparate interests 2, 3special assessment 25stock cooperative 2, 3subdivision map 9, 10

Ttract map. See also subdivision map

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