When members of a homeowners associations’ Board of Directors take office, they often aren’t prepared for what their job will require of them—particularly the legal aspects of being a board member. The average board member will most likely be unaware of the various types of financial roles they must play, or legalities they must adhere to for the sake of the HOA and its community members, before they accept their position as a director.
Fortunately for you, SpectrumAM is here to help you out. Read on for our guide enveloping all aspects of the legal side of being a board member!
Fiduciary Duty
A fiduciary is a person who takes care of business, handles money or property, for others. Being in the fiduciary position requires loyalty, care, and good faith. As such, HOA board members must always base their decisions on what is best for their whole community association. Unfortunately, problems can occur when new HOA board members, who are not familiar with fiduciary duty, take unnecessary or unethical actions. In order to avoid any problems or misunderstandings with new board members, send them a letter explaining what their fiduciary duty is and what will be required of them.
There are several items you should include in your letter to effectively explain what board members can and cannot do. First and foremost, board members must always act in the best interest of their community association. As a board member, you are entrusted by the community members to conduct business on behalf of the entire association. Board members must also act with care and be advised by experts when necessary. Before making any major decisions that will greatly affect your community, you should always think of consulting with experts, such as attorneys or engineers.
Additionally, board members must act upon business within their authority. HOA board members get their authority from two places: the association’s governing documents, and state and/or local laws. Any motives board members might have must be in the absolute best interest to the association. They have an obligation to act in good faith; when constructing rules, those rules must be made based on the honest and best judgment of the board member.
Finally, there are several mistakes that board members must avoid at all costs, including taking advantage of business opportunities for personal reasons when those opportunities should be benefiting the community as a whole, giving special privileges or expecting special treatment from others, and accepting gifts from vendors involved with the community association.
Mediation versus Litigation
In some cases, board members performing fiduciary duty still make mistakes or unethical choices that can potentially lead to legal conflict. If your homeowners association wants to resolve both internal and external disputes without going to court, consider taking the dispute to mediation. Mediation is much faster and a lot more economical than a traditional lawsuit.
Cost savings and speed are the primary reasons why attorneys and HOA management companies prefer mediation over litigation. Mediation can also foster a relationship between two parties by letting them work together to come to a mutual agreement, rather than destroying any chance of that through a long and drawn out lawsuit in court.
Mediation is fast. Most disputes are settled in a few hours or one day. More complex disputes may take more time to resolve, but that is still a fraction of the time it would for arbitration or a full scale lawsuit. Mediation is also much less expensive than a lawsuit; the speed of mediation cuts down on total costs, and the actual fees and charges are typically lower, especially if the mediator is a volunteer or provided free of charge by either the city or county offices. Also, a trial is a win or lose situation, while mediation is often a win-win for both parties. And, unlike court records (which are available to the public), the mediation and its results can be kept confidential.
However, in order to be successful, mediation requires all parties to cooperate, be open-minded, and engage in honest discussions. If one party is opposed to settling the dispute with mediation, then the process might be ineffective. If the dispute involves an unknown legal principle that has not been litigated in courts, and the parties want the dispute to set precedent, mediation will not work and the parties should file a lawsuit.
Legalities Surrounding Your HOA’s Decisions
If mediation fails, your HOA board and its HOA management company should prepare a homeowners association lawsuit, or legal conflicts with individual directors rather than the board as a whole.
This phenomenon is not uncommon; industry expert Robert Galvin says that the most common cases involve a homeowner who is suing directors individually to put pressure on the board. Should this be the situation, a lawyer must be called to dismiss these charges. After all, board members cannot be persecuted personally for actions taken in a board capacity.
There are a number of steps your homeowners association board and/or HOA management company can take to protect individual directors from persecution.
Start by getting director’s and officer’s, or D&O, insurance. Having such a plan will mean that the board’s insurance company will most often protect its client, thus saving the association a lot of money on legal fees, among other things. The policy should include a defense against alleged violations of civil rights, particularly the Fair Housing Act. In addition, a periodical review of your coverage must be carried out if you want to confirm the board is covered from every angle.
Next, write-up an indemnity provision. This type of document normally states that if an HOA board member was operating under the reasonable belief that he or she was properly carrying out his or her duties, then the association will pay one’s legal fees.
It’s important to bear in mind that a given board member cannot be persecuted personally for actions taken in a board capacity. Nevertheless, they can be sued if they were operating illicitly and did not act in good faith. In that case, the homeowners association lawsuit must be handed more delicately, and the board must choose a different attorney outside of the director’s case.
Liability is a big deal when there is reason to suspect that a director did not follow certain ethical codes. That’s why the board, as a body, needs to separate itself legally to the required extent, especially because large sums are at stake. Such a case, for example, would most likely not be covered by the association’s insurance provider, and unless there’s an indemnity provision at hand, the community may be forced to take the hit from a negative judgment. This is the reason why it is so critical to set clear boundaries as to what liability your HOA board has when it’s facing personal lawsuits among board members.
Consult with your HOA management company for more information regarding association lawsuits and legalities.
Should Your HOA Pay Directors’ Legal Costs?
Having the board, as an entity, separated from its individual directors, should your HOA pay its directors’ legal costs if a conflict arises? If a director is being harassed by an association member concerning association business, your association can pay for the legal fees and costs that the director incurs to get an anti-harassment order or injunction. If a director is being harassed by an association member concerning something that is clearly association business, then it’s the association’s responsibility to find a way to stop the harassment. This can include spending association funds on legal fees or costs.
Just as board members owe a duty of loyalty to the association, the association owes a similar duty it its directors. The harassment of a board member is no different from, for example, a noise nuisance. In that instance, your association would have to spend common funds to put a stop to noise that violates the governing documents. Similarly, the association might have to spend money to end the harassment. Furthermore, your association and HOA management company should handle these situations quickly, so that future board members know that the association is willing to back them up both financially and legally.
Another common question asked by HOA board members and other interested parties is whether board members should get compensation. However, most governing documents contain provisions prohibiting the compensation of directors. This includes forgiving the annual assessment—a ploy tried by some associations to bypass the prohibition. The only way to achieve such a bypass is to amend this provision out of the document, which would require a large majority vote of the members. Most HOA attorneys and HOA management companies do not recommend amending the governing documents for this reason.
Most states limit the personal liability of volunteer directors for mistakes of judgment that don’t constitute willful misconduct or, perhaps, gross negligence. Such statutory provisions are potentially worth a lot of money–more than any minimal or token compensation. Most HOA management companies also tell their board members not to buy themselves dinner with HOA funds, due to the stipulation in the documents regarding compensation; dinner can be construed as “compensation.” In addition, board members who are paid for their service no longer can tell their homeowners that directors are just owners too, and that they receive no special privileges. Community governance is difficult enough without losing this advantage.
Insurance Coverage for Your HOA
In light of all of these legal risks associated with running a homeowners association, it’s essential that your association has insurance to cover itself in any situation—legal or otherwise. Insurance coverage is the one area of risk that your HOA can control. In the end, if you don’t fully understand the terms of your policy, you could be denied coverage for items you thought were covered. Here are some items to consider for your HOA, when selecting the right policy for your community.
Often, current local ordinances and laws dictate that if a structure has a certain percentage of damage, then the entire structure must be replaced. The replacement building may have to be upgraded to current building codes, which could add additional costs. Law and ordinance coverage is always in a separate endorsement, and can be several pages long. You will want to make sure you are covered in your policy for law and ordinance.
In most property insurance policies, you will find a “coinsurance penalty.” This penalty takes effect if the association does not purchase as much insurance as the insurance company thinks the association will need, thus restricting the payout from the company for any loss. If an agreed value coverage declaration is included, you and the insurance company have agreed that you have the necessary insurance for your HOA. This declaration is usually found in the optional coverage section of your policy.
As your community ages, some property decreases in value. To protect your HOA in the case of replacement, you will want to insure to define your property value as its replacement cost. To see if you have this important coverage, check under your optional coverage section, or in your declarations. You’ll want to look for the term “replacement cost coverage.”
HOA Management Company Records Retention
Finally, in order to make sure that your HOA has the evidence to protect itself in case of an insurance claim or lawsuit, it’s vital that your association or HOA management company engages in proper records retention and storage. If you have been, or are currently unsure of what to keep and what not to keep, as well as how long to retain certain documents and records, please continue reading.
In states such as Texas, association records have always been available to homeowners under corporation law. Now, there are new laws that give very detailed instruction for the retention of association records. These instructions include the requirement that all governing documents be available online, if your HOA has their own website or if your HOA management company provides a website for your association.
Associations must now adopt and maintain a record retention policy and a record production policy with the county. The new laws provide the content of these policies, in order to properly manage largely uniform provisions among associations. Check with you HOA management company to see if these two policies have been recorded for your homeowners association. If not, you need to consult with your management company or your HOA attorney immediately, as these are not the only two resolutions that need to be adopted and recorded in your association’s governing documents (also known as dedicatory instruments) in order to be in compliance with the Texas state property codes and statutes.
Requirements for records retention include having the association retain their declarations, bylaws, and articles of incorporation permanently. Association tax returns, audits, financial books, and meeting minutes must be retained for seven years, while account records of current homeowners must be retained for five years. Last of all, contracts with a term of more than one year must be retained for four years.
While associations are not required to retain other records, it’s sensible to do so if the records may be helpful to confirm prior association actions. If you’re unsure as to the whereabouts of your association’s records and retention policies, contact your HOA management company for clarification.
Color within the Lines: Stay Legal, Stay Safe
Being a member of your HOA’s Board of Directors calls for the use of ethical and sound judgment, especially when it comes to issues and decisions with potential legal consequences. A firm understanding of the legal role you play as a board member, as well as how your association can protect itself legally and financially, will help you during those times when mediation, record retention, or your HOA’s physical environment do not work out as planned.
