Board of Directors Conflict of Interests

Community association directors volunteer their services as elected representatives of their fellow homeowners in making decisions which affect the community. Unfortunately, some directors accept a position on the board of directors without an appreciation and understanding of the nature of the responsibilities which they have undertaken.

One of the most significant personal issues for association directors is the personal liability they may face for the improper performance of their duties. While most professions have professional codes which govern their conduct, boards of directors have less guidance in determining by what standards their actions are judged.

The law recognizes that directors are unpaid volunteers and so provides personal immunity from prosecution for their actions. However, directors do have legal responsibilities. A director owes a duty to the association to act in “good-faith” which basically means the director attempted to honestly and faithfully uphold his or her obligations in the association’s best interests. A second duty requires the director to discharge his or her duties with the same degree of care that an “ordinarily prudent” person would exercise under similar circumstances. And third, a director has a duty to act in a manner the director “reasonably” believes to be in the best interest of the association.

A director must not make any decisions or take any action against the interests of the association and its members for his or her own benefit. This duty of loyalty to the association and its members requires the director to place loyalty to the association above personal loyalties to avoid or minimize conflicts of interest. Conflicts of interest can involve personal financial benefit at the expense of the association, but it also can involve other situations as outlined below.

TYPES OF CONFLICTS OF INTEREST

Self-Dealing/Contracts with the association.
The most obvious form of conflict of interest involves self dealing such as when a director or a director’s close relative has an interest in a business which contracts with the association. Under proper circumstances, a director can contract with the association, or recommend friends and close relatives for contracts. Courts generally uphold transactions between an association and a director if the director discloses the interest before the transaction is entered into, if the directors in good faith and with ordinary care authorize the contract by the affirmative vote of a majority of the disinterested directors, and if the transaction is fair to the association. Thus, disclosure and fairness will usually protect a director from potential liability for breach of loyalty in transactions with the association. However, when a director transacts with the association for personal gain without disclosure or in a manner unfair to the association, the director may be liable to the association for all profits received by the director from the breach of loyalty and all damages caused by the breach of loyalty. Furthermore, some courts have even held the director liable for punitive damages for this type of breach of fiduciary duty.

Maintenance and Repairs.
This can occur in a condominium development where the association is responsible for the exterior of the buildings and other structures other than the units. Often, financial and time limitations require the board to postpone one item of repair until another item of repair is performed. This can create a conflict of interest if the board purposefully decides to fix or paint their units before the rest of the community or before others who may be more deserving of the repairs or maintenance. By doing so, the board may be placing its own interests above that of the association. Again, the directors must set aside personal interest and act in the best interest of the association.

Other Types of Financial Gain.
A conflict of interest also may arise when a director, with knowledge acquired as a result of serving on the board, takes a business opportunity which is available to the association. These types of conflicts of interest, although rare, arise in many different forms. For example, an owner in financial trouble could approach a director and offer to sell the owner’s unit to the association. The director would be creating a conflict of interest by personally purchasing the unit without disclosing the owner’s offer to the board and permitting the association the opportunity to purchase the unit. A similar conflict may arise where the association has decided to foreclose on a unit or lot to collect past due assessments and to bid to acquire the unit or lot at the foreclosure sale. A director, with knowledge of the financial situation, would create a conflict of interest by personally bidding against the association to acquire the unit or lot. The safest protection for the director in these situations is to disclose to the board the opportunity and the director’s interest, and to permit the board to make a decision whether the association should take advantage of the opportunity.

Covenants, Compliance and Enforcement.
Conflicts of interest may also arise in the area of compliance and enforcement of the association’s covenants and rules and regulations. The basic principle is that directors are not above the law. Like all other owners, directors must be held accountable for violations of the association’s covenants and rules and regulations, such as being charged late charges for delinquent payment of assessments. Selective enforcement (which is legally outlawed in some states) of the covenants against directors would result in the association waiving its right to enforce the covenants against other owners.

Budgeting and Assessments.
Directors may decide not to assess for capital reserves to keep their individual assessments low under the assumption that special assessments can be imposed at a later time if capital repairs are necessary. There have been several judicial decisions on this matter, and courts have not been reluctant to impose liability on the directors for this action. The courts have reasoned that this conduct is not in the best interest of the association, but rather in the interest of the directors at the expense of the association.

The underlying concepts in addressing conflicts of interest are simple. Directors owe the highest loyalty to the association and may not improperly benefit at the expense or to the detriment of the association in any way. Any such benefit constitutes a breach of duty. However, a breach of duty will not occur solely because a director engages in transactions with the association or is otherwise interested in the outcome of board actions or decisions so long as that director discloses any conflicts of interest and the action or decision is fair to the association.

© Association Times

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