August 17, 2016
Court Determines that an HOA is Not Legally Valid
HOAs and Condominiums derive from the covenants and state statutes’ powerful tools to use against homeowners. However, if the association does not meet the legal definition of a HOA or condo, then it cannot use the statuary toolbox. Instead of issuing fines, it must file a lawsuit each time it wants to obtain a lien against an owner’s property. The Virginia Condominium Act and Property Owners Association Act contain many protections for owners. However, they also provide associations with powerful debt-collection tools if they fit within the statutory definition. If a court determines that an HOA is not legally valid, this is a big win for owners being bullied by the board. Every once in a while, owners will take a stand and challenge whether their “HOA” exists. Recently, George Evans, Karen Evans, Gilbert Kesser & Yvonne Kesser brought such a case against their “HOA” in Culpeper, Virginia. On July 13, 2016 they won an important motion, setting the stage for big changes in Seven Springs Farm Subdivision (SSF). I am originally from Culpeper County, but I have never been to Seven Springs. We lived in a quiet residential development of modest wooded lots a few blocks from a lake. No one ever complained that their quality of life or property values suffered for lack of an HOA. When I left to go to college in 1995, there were few HOAs. Since then, development transformed Culpeper County from a farming community into a suburb of Northern Virginia. HOAs played a key role in that transformation.
This case arose over a dispute about assessments for road improvements. The covenants required the HOA to take a member vote before apportioning an assessment against the unit owners. On March 29, 2014, the Board made a $12,000 “blanket” assessment against homeowners without taking their votes. When the Kessers and Evans refused to pay, the HOA placed liens against their properties. Many owners of HOA properties believe that their Boards have the power to “tax & spend” for the “general welfare” of the community and that there is little way to challenge this. However, the Seven Springs Farm HOA case shows that everything a Board does must be authorized according to proper interpretation of the governing documents.
My friend, Mark Sharp, brought a suit on behalf of the Evans & Kesser families. They sought a judgment declaring that SSF is not a HOA for purposes of the Virginia Property Owners Association Act (“POAA”). Usually, the developers’ lawyers who set up HOAs take care that the Association qualifies as an HOA under the POAA. However, just because it calls itself an HOA and acts as though it has those powers doesn’t mean that it is an HOA. In Virginia, the declaration of covenants must provide, among other things, that the Board has the power to make assessments and also an affirmative duty to maintain common areas. This makes sense, because a contract is only meaningful if obligations go both ways. Contracts that fail to exchange something by both sides are invalid because of lack of “consideration.” In the HOA context, fundamental unfairness would arise if the board had the power to assess and lien but no obligation to spend the money on the common areas. Without this mutuality of obligation, an association is not entitled to the toolbox of remedies provided in the POAA.
In the Seven Springs case, the declaration gave the “HOA” the power to assess. The board had the power to do common area maintenance but were not specifically obligated to perform it. Under Virginia law, “valid covenants restricting the free use of land, altogether widely used, are not favored and must be strictly construed.” Accordingly, “substantial doubt or ambiguity is to be resolved against the restrictions, and in favor of the free use of property.”
Culpeper Circuit Court Judge Susan Whitlock’s opinion applied this strict construction principle to the question of whether the association qualifies as an “HOA” under the Property Owners Association Act. Anything in a declaration of covenants can be strictly construed. HOA lawyers typically make the governing documents many pages long in order to avoid having a judge find any “substantial doubt or ambiguity.” Judge Whitlock observed that an HOA is subject to such a challenge even if there was an ongoing pattern of owners paying dues and the Board spending the money on the common areas.
When the owners brought this challenge, SSF filed a demurrer, asking the judge to dismiss the case for legal deficiencies and not allow it to proceed to trial. Judge Whitlock overruled this demurrer, finding that “The Defendant’s Declaration fails to expressly require SSF to maintain the common areas, and therefore the Defendant is not a “Property Owners’ Association” under the POAA. Merely stating that those fees shall be used for maintenance of Lots and upkeep of roads fails to bridge the gap of ambiguity to be considered an affirmative duty to maintain.”
While the board, its managers and lawyers may interpret ambiguous governing documents to empower them to do what they want, in the end it is the counts that oversee HOAs, which a judge may very well reject. Judge Whitlock permitted the owners challenge to the road improvement assessment to proceed in Court.
This Seven Springs Farm HOA reminds us of several things: First, an owner must understand what the governing documents mean under state law to know what their rights and responsibilities are. In a dispute, this will require attorney assistance. The president, manager or HOA lawyer approaches the issue from a different perspective and cannot be expected to disclose to the owner all of her rights. The governing documents may or may not be consistent with what someone might think to be a common-sense approach to solving a problem.
Second, the Supreme Court of Virginia views a HOA as a contractual relationship. Ambiguous or uncertain provisions of these “contracts” can be strictly construed in the owners’ favor. A Virginia HOA board is not a “mini-government” empowered to exercise general legal authority within the boundaries of the development.
Third, Judge Whitlock’s decision is a pleasant reminder that not only do HOAs sometimes lose in Court, sometimes they are found to be less than a card-carrying member of the HOA club. Owners considering litigating against their community association should take this opinion as a reminder that a good case is winnable.
Fourth, just because a judge rules that an association is not an HOA under Virginia law doesn’t mean that the declaration of covenants is completely invalid. Such a ruling just means that its board cannot benefit from all of the intensive lobbying that the industry has done to empower HOAs and condominiums. A non-HOA association may still be able to exercise dominion over common areas and take owners to court to resolve disputes.
Property owners considering court action involving their boards of directors should begin the process with careful consideration of the recorded governing documents with the assistance of a qualified attorney. In many cases, they have more rights than what others explained to them.
Case Citation: Evans v. Seven Springs Farm HOA, No. CL15001273 (Culpeper Co. Va. Cir. Ct. Jul. 13, 2016)(Whitlock, J.)
Photo Credit: Culpeper County Courthouse via photopin (license)
August 19, 2015
Donald Trump is in the Condominium Business but he does not trust Owner Associations
Donald Trump’s colorful background in the business of condominium development speaks volumes about two topics: (1) his track record as a real estate developer, and (2) the weaknesses of the community association model of real estate ownership. There are many commentators writing about the political nuances of Trump’s 2016 presidential campaign. Words of Conveyance is not a political blog. Instead, this post focuses upon a recent federal lawsuit involving the Trump Organization that illustrates a few risks in condominium ownership. Donald Trump is in the condominium business but he does not trust owner associations. As it turns out, Mr. Trump litigates in a similar way to his political campaigning.
Jacqueline Goldberg is a Certified Public Accountant who has invested over $10 million in real estate rental properties. A Trump-controlled developer made condominiums available in the Trump Tower in Chicago, Illinois. The Chicago Trump Tower’s 92 stories enclosed 486 residential units and 339 hotel condominium units. In 2006, Ms. Goldberg signed contracts to purchase two hotel condominium units as investments. Their prices were over $1.2 million and over $971,000, respectively.
The marketing materials used Mr. Trump’s personal brand to illustrate his personal involvement as an established, famous and successful developer. The Chicago Trump Tower advertised luxury amenities including a 60,000 square foot health club, concierge, laundry, garage, meeting rooms, ballrooms with 30 foot ceilings, storage areas, and an executive lounge as common areas of the condominium association. Since this was a hotel condominium, these common areas would be income generating assets and not merely perks available to owners or their tenants. The declaration is the essential document that defines these respective property rights of different owners in the association. This document defines which real estate elements are exclusively or commonly owned.
While the hotel condominium units in the Trump Tower were more expensive than most detached single family dwellings, Ms. Goldberg’s purchase contracts had some language that would make many real estate people nauseous. The agreements provided that the, “[s]eller reserves the right, its sole and absolute discretion, to modify the Condominium Documents.” The Condominium Documents include the declaration, bylaws and floor plans. The purchase contract only required Ms. Goldberg’s approval to change the Condominium Documents when specifically required by law. Her risk was that the contract language gave Trump the unilateral authority to change the material terms of the deal.
After signing the purchase agreements, Ms. Goldberg learned that the Trump Organization made subsequent changes to the Declaration, removing the health club, concierge, laundry, meeting rooms, ballrooms, storage areas and executive lounge from the association’s common areas. Perceiving a “bait- and-switch,” Ms. Goldberg refused to go to closing on the sale of the two units.
When the Trump Organization refused to return her $516,000 earnest money deposits, Ms. Goldberg filed a lawsuit. The principal theory of her case was that the developer defrauded her by including the later-removed elements in the original package while never intending to keep them as common elements of the hotel condominium association. In his defense, Mr. Trump insisted that the association could not be trusted with management of these elements of a mixed-use development:
Mr. Trump, a self-described “expert” on condominium developments, testified that based on his experience, he went into the Trump Tower project aware that “it can be very difficult” for a condominium board to manage function rooms, ballrooms, and food/beverage operations. Mr. Trump explained that, as a general matter, condominium associations “can change their mind,” “fire managers,” “do lots of different things to create tremendous turmoil,” and “really ruin the operation very easily.” He further explained that if a condominium association fired a manager, “[i]t could become a disaster.” This “has happened before, many times, where condo boards are involved and they can’t make a decision, they can’t hire a manager, and the whole thing goes to hell.” This may affect not only the stability and profitability of the building, but also the Trump Organization.
Mr. Trump argued that these elements were originally included as common elements only as an oversight. When he later figured this out, he transferred them over to one of his companies in order to prevent some association board of directors from ruining the Trump Tower for everyone. To anyone unfamiliar with Mr. Trump’s personal bravado, these comments would sound outrageous. How can a developer strong-arm luxury, income generating amenities away from a group of unit owners in the name of “protecting property values” against the incompetence of their neighbors? Yet, in Goldberg’s case, this argument worked. Trump won the 2013 jury trial in the U.S. District Court for the Northern District of Illinois. Goldberg then appealed to the Seventh Circuit Court of Appeals. Judge Richard Posner, a well-known federal appeals court judge, wrote a June 10, 2014 opinion affirming the trial court decision. He had some interesting observations about this case:
- “She signed with her eyes open.” Goldberg was an experienced real estate investor who should have understood the risks of signing the contracts with the “change clause.” The Court declined to paternalistically rewrite these contracts or condominium instruments made between these sophisticated investors. We know from the first Republican 2016 presidential debate that Mr. Trump’s businesses declared bankruptcy four times in order to discharge real estate loans. Given Mr. Trump’s business practices and what was spelled out in the contracts, the Trump Tower units were speculative investments.
- “He is not infallible.” What is to be made of Mr. Trump’s decision to change the condominium instruments after Ms. Goldberg signed the agreements? Judge Posner observed that, “Donald Trump is of course a highly experienced real estate developer, but he is not infallible – he has had many successes in the real estate business but also failures.” Given Judge Posner’s reputation for use of a wry sense of humor in carefully written judicial opinions, one cannot help but believe that the Court had Mr. Trump’s bombastic style in mind here. Trump’s current presidential ambitions enhance the irony.
- No Real Expectation of Profit. For Ms. Goldberg’s securities laws claims to prevail, there must have been an expectation of profits from the disputed common elements. Judge Posner observed that Ms. Goldberg’s share of the projected profits would have been so small that her share of the annual maintenance fees would have been adjusted by at most 3%. He was not persuaded that the amounts in controversy were more than speculation.
For most people, opportunities to invest in condominium units do not involve the complex issues found in a Trump Tower. However, even commonplace initial purchases of units from a residential condominium developer involve substantial risks. One cannot conduct home inspections for properties that have not yet been built. The developer (or some other investor) may enjoy an oppressive supermajority vote in the governance of the owners’ association. There may be ambiguity in the Condominium Documents. Since seasoned investors like Jackie Goldberg experienced heartburn, there’s all the more reason for others to have advisors help them navigate such an investment. In a post-trial interview with the Chicago Tribune, Goldberg said she felt good about “exposing” Trump and offered this advice for anyone going into business with him: “Read the contract.”
As a presidential candidate, Mr. Trump lacks political electoral experience. However, the Goldberg case shows that Mr. Trump does have a governance background within his real estate dominion. Industry people espouse that community associations are “mini-governments” that alleviate the burdens on cities and counties while permitting neighborhoods to enjoy autonomy on how things are run on democratic principles. If condominium associations are indeed analogous to political democracy, what does Ms. Goldberg’s case say about how a Trump White House would treat other organs of government?
Case Citations:
Goldberg v. 401 North Wabash Venture LLC, 755 F.3d 456 (7th Cir. 2014)
Goldberg v. 401 North Wabash Venture LLC, 904 F. Supp. 2d 820 (N.D. Ill. 2012)
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