Mum’s the Word When Disclosure Leads to Breach of Fiduciary Duty

By Karyn A. Larko, Esq.

It is common knowledge that a director has a fiduciary duty to his or her association and its members.  To be a fiduciary means that the director has accepted the highest duty imposed by law.  This duty obligates the director to act:

    1. In good faith;
    2. In a manner such director believes to be in the best interests of the Association; and
    3. With such care, including reasonable inquiry, as an ordinarily prudent person in a like position would use under similar circumstances.

This duty also obligates the director to place the interests of the association and its members as a whole over the director’s personal interests in the event these interests conflict.  This duty is referred to as the duty of loyalty or duty of undivided loyalty.

What may be less known is that one of the most common breaches of fiduciary duty is the disclosure by a director of information that should be kept confidential.

The disclosure of information that should be kept confidential can give rise to both a breach of a director’s duty of care and duty of loyalty.  In accordance with Civil Code section 4935, certain matters are discussed out of earshot of the members in executive session board meetings (i.e., discussions pertaining to personnel issues, the formation of contracts with third parties, litigation and potential litigation, disciplinary actions against members and member assessment issues).  Each of these issues requires the discussion of matters that if made public (i.e., disclosed to any persons other than current board members and management, including other owners) could needlessly and unnecessarily embarrass an owner or employee, compromise the association’s legal position in a dispute, result in the waste of association funds, lead to a claim that an owner’s privacy rights have been breached, or otherwise result in an unfavorable position for the association.  All of these results could lead to litigation and ultimately, to liability for the association.

Another act that is contrary to the interests of an association and damaging is the disclosure of association attorney-client privileged communications (i.e., legal advice) to third parties.  Communications between an association’s legal counsel and the board or management staff are subject to the attorney-client privilege.  This means these communications are protected communications that can be kept confidential from any disclosure, including disclosure during litigation.  In the litigation context, this protection is extremely important as it allows frank and open communication between the board and/or management staff and the association’s legal counsel as to what occurred and the strengths and weaknesses of the association’s position with regard to the claim or claims being made.  This protection also enables the association’s legal counsel and board to properly evaluate what course of action the association should take.

When communications between an association’s legal counsel and board or management  are revealed to others, including owners who are not on the board and family members, this disclosure can result in a waiver of the association’s attorney-client privilege.  This means that the association may be required to disclose all of the communications between the association’s legal counsel and the board or management, including without limitation, communications regarding the strengths and weaknesses of the association’s position and its legal strategy.  The disclosure of this information would, inevitably, be extremely prejudicial to the association’s interests.

A final act that is contrary to the interests of an association is the disclosure to persons other than board members of other sensitive information or documents that could expose the association to potential liability.  Examples of such information and documentation include the release of social security numbers, owner bank account numbers or other financial information, owner or resident health records, owner disciplinary records, plans and specifications for owner alterations (including security systems), vendor bids and proposals and confidential settlement agreements.  It should be noted that this list is by no means all encompassing.

The Significance of Disclosing Information that Should be kept Confidential

As stated above, the disclosure of information that should be kept confidential can lead to liability for the association.  It can also lead, in some cases, to personal liability for the director who discloses the information.  We say this because while California law generally protects volunteer directors from liability for their acts when those acts fall within the scope of their duties as a director, subject to certain requirements being met, this protection does not extend to instances where directors have breached their fiduciary duty to the association and its members.  Likewise, while the governing documents for many associations contain clauses protecting directors from liability, California law (i.e., Corporations Code section 204(a)(10)) expressly invalidates these clauses to the extent they attempt to protect directors from personal liability for breaching their fiduciary duty.

Finally, it is important to know that most directors and officers policies contain an exclusion whereby there is no coverage for a director who has breached his or her fiduciary duty.  Further, some carriers will issue a reservation of rights letter when asked to defend a breach of fiduciary duty claim.  This means that if the director is ultimately found by a judge or jury to have breached his or her fiduciary duty, the carrier is entitled to recover its defense costs from the applicable director.

 

PRACTICE TIPS:

  • When in doubt, do not share information with persons outside of the board and management without first checking with your association’s legal counsel on the advisability of doing so.
  • If participating in a telephonic or video executive session board meeting, do so in private. Do not allow family members or other persons to listen in on executive session meeting discussions.
  • Do not use phrases like “according to our attorney” or “on the recommendation of our attorney” when communicating with persons outside of the board and management as the use of such phrases could be deemed a waiver of the association’s attorney-client privilege.