Must We Sue This Owner?

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By Pejman D. Kharrazian, Esq.

A community association board is required to enforce its governing documents against owners. But must a board file a lawsuit if internal enforcement measures fail to gain a recalcitrant owner’s compliance? I often see boards grapple with this difficult decision. The following discussion of California case law explores how directors should decide whether to sue an owner or not and what legal protections are available once that choice is made.

The Business Judgment Rule as a guide and a defense.

In 1977, Beehan v. Lido Isle Community Assn. established that a board may exercise prudent business judgment (i.e., in good faith, in the best interests of the association, and after conducting due diligence) in deciding whether or not to sue over a violation of the governing documents.

But Beehan does not go as far as saying a board can indiscriminately decide not to sue an owner who has violated the governing documents. Instead, it says a decision about whether to sue should be made using the business judgment rule as a guide. The business judgment rule, codified in California Corporations Code section 7231, applies to nonprofit corporations and says:

“A director shall perform the duties of a director . . . in good faith, in a manner such director believes to be in the best interests of the corporation and with such care, including reasonable inquiry, as an ordinarily prudent person in a like position would use under similar circumstances.”

In following the business judgment rule, a board should, for example: examine the underlying facts, consult with independent legal counsel and other experts to analyze the merits of the potential case, review and follow the governing documents, weigh the costs and benefits of filing a lawsuit versus the nature and magnitude of the owner’s violations, discuss the matter in executive session and memorialize in minutes. A board should also keep in mind the prevailing party attorneys’ fee provisions found in the Davis-Stirling Common Interest Development Act and many CC&Rs—that essentially say, if an association loses the case it could be paying its own attorney and the owner’s attorney!

At the end of the day, if a board’s decision about whether to sue is challenged, the primary defense will likely be the business judgment rule.

Will a court give the board’s decision judicial deference under Lamden?

In 1999, Lamden v. La Jola Shores Clubdominium Homeowners Assn., the California Supreme Court established that when a “duly constituted association board, upon reasonable investigation, in good faith and with regard for the best interests community association and its members, exercises its discretion within the scope of its authority” on how to maintain the common areas, “courts should defer to the board’s authority” (a.k.a., “judicial deference” or the “Lamden rule”). The Lamden rule is analogous to the business judgment rule and is another legal doctrine that affords protection—even if an association is unincorporated.

The court in Haley v. Casa Del Rey Homeowners Assn. recognized Lamden applied to ordinary maintenance decisions. But nonetheless went on to say that Lamden “reasonably stands for the proposition that the Association had discretion to select among means for remedying violations of the CC&R’s without resorting to expensive and time-consuming litigation, and the courts should defer to that discretion.” Haley comes very close and possibly even crosses the line of extending Lamden’s judicial deference standard to a board’s decision about whether to sue.

Haley is not alone in expanding Lamden beyond ordinary maintenance decisions. For example, Dolan-King v. Rancho Santa Fe Assn. granted judicial deference to a board’s architectural decisions; Harvey v. The Landing Homeowners Assn granted judicial deference to a board’s interpretation of the CC&Rs; Watts v. Oak Shores Community Assn. granted judicial deference to a board’s adoption of rules. In taking their broader view of Lamden, Haley, Dolan-King, Harvey, and Watts each quote the seminal California Supreme Court case of Nahrstedt v. Lakeside Village Condominium Association, Inc.:

“Generally, courts will uphold decisions made by the governing board of an owners association so long as they represent good faith efforts to further the purposes of the common interest development, are consistent with the development’s governing documents, and comply with public policy.”

But other cases have tried to limit Lamden: Ritter and Ritter v. Churchill states the Lamden rule protects individual directors from liability, but seems to suggest Lamden will not protect the association (as an entity) from liability for an improper decision.[1] But in Lamden the directors were not parties to the action when the Supreme Court made its decision (only the association was). By that logic, it seems Lamden did apply its judicial deference rule to the association. It therefore, appears Ritter may have gone too far in this regard.

Ritter also reads Lamden narrowly by saying it did not apply to extraordinary (versus ordinary) maintenance decisions by a board, whereas, Haley, Watts, Harvey, and Dolan-King indicate Lamden can apply beyond ordinary maintenance decisions. Ritter seems to be an outlier in this regard.

Further, Affan v. Portofino Cove Homeowners Assn illustrates that Lamden does not apply to decisions of association managers and does not generally apply in situations where no decision is made by the board (inaction versus action).

If future courts are inclined to expand Lamden’s judicial deference rule, then the decision of an association board about whether to sue may be given judicial deference by a court, in addition to the protections provided by the business judgment rule.

 

[1]  Other cases have held an association can remain liable for injury to third parties that flows from improper decisions. (See e.g., Frances T. v. Village Green Owners Assn.; White v. Cox)