The Subway in the Condominium

A recent case involving an office condominium, Madison Medical Building v. Properties & Equities International Ltd., illustrates the limits of power a board of managers faces when taking action that varies from the provisions of the condominium bylaws. Here, the board was unable to stop the opening of a Subway restaurant in the building that the board felt would be detrimental.

Before the court were two actions between Madison Medical Building by its board of managers, a commercial condominium located at 161 Madison Avenue, and Properties & Equities International Ltd. (PEI), the owner of unit 1NW on the ground floor. Both actions sought a judicial determination of whether the condominium's governing documents authorized use of the unit for a restaurant and, if so, the extent to which the board of managers could prohibit that use in an exercise of its rule-making authority.

In 2001, PEI notified the board by letter from its president, Sanjay Ahuja, dated November 14 (which included a copy of the proposed lease), that it had contracted with Subway Real Estate Corp. to lease Unit 1NW for use as a Subway restaurant for seven years. On November 27, the board replied, rejecting Ahuja's notice as improper because he had allegedly neglected to enclose a copy of the supplemental rider to the lease.

The board then asserted that the proposed use was contrary to the condominium's governing documents and would expressly violate zoning codes applicable to the building. The board expressly refused to permit the proposal, citing a bylaw governing uses that would be illegal, disturbing, noisy, a nuisance to other unit-owners, or dangerous to the structural integrity of the building. The board expressed concern that appliances and equipment might not comply with general safety requirements and that combustible or explosive materials would be used, and that the proposed use would result in an increase or cancellation of the building's insurance. It declared that they would not permit any signs to be displayed and that it would take legal action to enforce its rights.

PEI responded, citing Article XI of the bylaws granting the board a right of first refusal, and stating that by its terms the board had until December 15, 2001, to produce a tenant willing to rent the space on terms at least as favorable as those agreed to by Subway. Further correspondence then ensued regarding whether or not the board had been provided with a complete copy of the lease.

On November 28, 2001, the board adopted a rule and regulation providing, in relevant part, that no unit may be used “in any manner for a food store, including supermarkets, grocery stores, meat markets, delicatessen stores, and/or for restaurants... cafeterias, snack bars, taverns, and/or coffeehouses... or for the consumption of food or drink...”

Thereafter, the condo began an action against PEI and Subway seeking a judicial declaration that it was authorized to reject the lease of PEI's unit to the restaurant chain, a permanent injunction against the use of the premises as a restaurant, and a determination that it had no obligation to provide a substitute tenant under the right of first refusal provisions of the governing documents.

PEI then sued the condo, alleging that the board's refusal to authorize the proposed use of the unit for a Subway constituted breach of contract and fiduciary duty under the governing documents, constructive eviction, unlawful taking, and tortious interference with PEI's business relations.

The condo, in turn, sought summary judgment on its claims that PEI failed to properly notify the board of the proposed lease to Subway and therefore did not trigger the board's right of first refusal, that the board properly rejected the proposal and was within its rights in adopting the rule on November 28, 2001, prohibiting food-related uses, because it was simply an expression of limits that had always been in place.

The condo also moved for summary judgment dismissing PEI's action against it and PEI cross-moved for denial of both motions. It objected that it gave the board adequate notice of its intent to lease its unit to Subway. It added that, in its view, the board had raised objections to the form of notice as a pretext to prevent PEI's best use of its unit while avoiding the obligation to present PEI with a replacement lessee. With respect to the rule adopted by the board, PEI contended that it was invalid and ultra vires and constituted an unlawful taking of property.

The initial offering plan, declaration of condominium, and bylaws all describe the permitted occupancy of the unit owned by PEI, a portion of the first floor, in similar terms. In the declaration, the use description for PEI's unit specifies that it may be used “for commercial retail space and only in conformity with any applicable zoning code or restrictions.”

That document further provided in Article 19(g): “Regulations promulgated by the board of managers concerning the use of the property shall be observed by the Unit Owners provided, however, that copies of such regulations are furnished to the Unit Owner prior to the time the said regulations become effective.”

The corrected deed under which PEI held title to the unit said: “The use for which the unit is intended is that of commercial retail space use subject to the applicable governmental regulations and the restrictions set forth in the Declaration.”

The corrected deed expressly stated that it was issued to correct a provision in the original deed, which “described the use for which the unit was intended was that of 'medical related office,'” when such use for which the unit was intended was that of “commercial retail space, subject to the applicable governmental regulations and the restrictions set forth in the Declaration.”

Use of other units in the building is limited - they may be used “solely for medical related office purposes.” As the declaration and corrected deed make clear, however, PEI's unit was not so restricted. It is, however, subject to other provisions of the documents, including the notice requirement set forth in the bylaws regarding the selling or lease of any unit and the board's right of first refusal.

Article XI of the bylaws governs unit owners' rights to sell or lease their units. It says: “Section 1. A Unit Owner has the right to sell or lease his Unit providing he gives notice of the bona fide terms of any proposed sale or lease to the immediately contiguous Unit Owners and to the board of managers and obtains their approval for the sale or lease. The failure of the immediately contiguous Unit Owners and the Board of Managers to approve or disapprove such proposed sale or lease within thirty (30) days after notice thereof shall be deemed to constitute approval..... If no immediately contiguous Unit Owner disapproves of the transaction but the board disapproves of the transaction, it shall within fifteen (15) days after making its decision known, produce a purchaser or lessee approved by it who will accept the transaction upon terms as favorable to the Unit Owner as the terms stated in the notice to the board. If the board does not produce such purchaser or lessee within the aforesaid fifteen (15) days, the Unit Owner shall have the right to effectuate such sale or lease on the terms submitted, as more specifically set forth herein.”

The final paragraph of Section 1 amplifies the sale and lease procedure in accordance with an intention to create a building to be used for medical offices: “In addition to these rights of review, any proposed sale or lease of a Unit must first be submitted to the board of managers, who shall review the medical specialty or related activity of the proposed Purchaser, Professional Occupant or Lessee [sic] of the Unit. The proposed Purchaser, Professional Occupant or Lessee shall submit such information as may be requested by the board of managers. The board of managers may, in its discretion, refuse to permit the sale or lease of a Unit to a Purchaser or Lease respectively whose proposed use will be medical activities contrary to the best interests of the condominium. Any refusal by the Board of Managers to permit sale or lessee [sic] must be approved by the written consent of a majority of the Unit Owners.

Section 3 sets forth the requirements for notifying the board of an intent to sell or lease a unit: “A Unit Owner intending to make a transfer, sale or lease of the Unit... shall give notice to all immediately contiguous Unit Owners and to the board of managers of such intention. He shall furnish at that time, for the information of the immediately contiguous Unit Owners and the board: (i) the name and address of the intended grantee or lessee; (ii) a statement of all of the terms of the transaction; (iii) financial and professional references of the transferee or lessee; (iv) the specific occupation of the transferee or lessee including any areas of specialization, (v) an executed copy of the proposed contract to sell or lease; and (vi) such other information as the immediately contiguous Unit Owners or the board of managers may reasonably require. He shall use the form, if any, supplied by the board in order to supply such information. Such notice, when given, shall constitute a representation, warranty and an offer to sell or lease to such immediately contiguous Unit Owner or to any purchaser or lessee produced by the board and a representation that the Unit Owner believes the offer to be bona fide in all respects.”

PEI alleged that it gave adequate notice to the board on November 14, 2001, and that by its response of November 27, 2001, almost two weeks later, the board refused to permit use of the premises as a sandwich shop. The court said that the record raised an issue of fact as to whether the board was provided with a complete copy of the lease at the time of PEI's initial submission.

Moreover, in light of Madison's immediate negative response to PEI's notice, it appeared that deficiencies in the information provided were immaterial to the board's decision-making process. Without any inquiry as to Subway's actual business practices, Madison immediately and absolutely refused to consider occupancy of the unit by a Subway shop.

The November 27 letter was immediately followed by passage of a board rule on November 28 of the rule now challenged, barring all food-related use of PEI's unit. On this record, even if the claimed lack of notice were uncontroverted, which it was not, it did not appear to have been the basis for the condo's actions, noted the court. The condominium had failed to demonstrate that it was entitled to a summary determination and that it appropriately rejected PEI's proposed use of its unit because of inadequate notice.

The condo also claimed that its rejection of PEI's proposed use was warranted because occupancy of Unit 1NW by Subway would violate the limits set forth in the condominium documents. In his affidavit, Harold Grossman, a member of the board, alluded to limitations placed on the use of office space in the building, i.e., “for the medical arts and sciences and related activities.” It was clear to the court, however, that these restrictions did not apply to PEI's unit, as the declaration and corrected deed made clear.

Grossman also contended that the authorized use for Unit 1NW as set forth in the condominium declaration and revised deed, for “commercial retail space,” would not encompass a Subway shop. In the court's view, there was no basis for this interpretation, however, set forth in the condominium documents, the law, or in the ordinary meaning of the words. In the context of denying PEI's application for a preliminary injunction, another judge held that “a restaurant is not a retail operation” and that “the City had placed a restriction on the use of the plaintiff's premises in that the Certificate of Occupancy for the building does not permit the operation of a restaurant on the first floor of the premises.” The record failed to establish as a matter of law that the proposed use of the premises would not constitute use as commercial retail space.

The condo insisted that condominium rules - prohibiting uses that are illegal or disturbing to others, cause odors, noise, or vibrations, are a nuisance, injure the reputation of the condominium, or raise insurance premiums - would be violated if Subway occupied the premises. There was, however, no evidence to back that up. PEI had presented evidence that a Subway shop was run by two or three employees, that there was little or no cooking done on the premises, that there were only two or three tables for customers, and that the business simply involved the construction and sale of cold sandwiches.

Finally, the condo argued that such use would violate “the applicable zoning code or restrictions” to which PEI's unit was subject. In support of this contention, the condominium proffered the affidavit of an expediter and building code consultant who claimed that, although a restaurant was permitted in the C-5 zoning district of which 161 Madison Avenue is a part, it would be disallowed under the building's certificate of occupancy and under the building code. The building's certificate of occupancy reflects that the building is classified within Use Group 6 and Building Code Occupancy Group C. Madison's expert asserted that in order to use the premises for a restaurant, the certificate of occupancy would have to be amended to reflect an occupancy group classification of F-4.

In opposition to this argument, PEI proffered a “Letter of No Objection” from the New York City Department of Buildings stating that with respect to the condo's certificate of occupancy, the department would have no objection to an eating and drinking establishment for less than 75 persons in Use Group 6. PEI had also provided the court with the Department of Buildings' technical policy and Procedure Notice No. 6/87, stating that a new certificate of occupancy is not required for a change in zoning use if, as here, the new occupancy group is one within the same use group. So, whether an establishment such as Subway fell properly into Occupancy Group C or Occupancy Group F-4, the court concluded that the building's Certificate of Occupancy would not require amendment.

The condo contended that the restriction contained in the original governing documents that the use of PEI's premises be “in conformity with any applicable zoning code or restrictions” authorized the board to review and reject the proposed use without implicating the board's obligations under the right of first refusal.

The use limitation on which the condo relied, however, in the court's view simply restated limits placed upon all owners of real property under the law. The fact that unit-owners were limited to the legally authorized use of their premises did not expand the power of the board to withhold consent to a transfer. No additional authority was conveyed to the board by a statement that unit-owners must obey the law.

The board's right of first refusal provided it with a means to control an owner's use of a unit, in addition to and beyond enforcement of express use limitations. The governing documents did not actually state that the right is the board's exclusive remedy in the case of a tenant or purchaser it views as undesirable. There was authority, however, for the notion that right of first refusal provisions “serve as a substitute for the right generally afforded cooperative boards to consent to proposed sales or leases.”

The court quoted one commentator who noted: “While it is true that grants of power to a condominium board of managers to screen building occupants could often prove useful to the condominium as a whole, any such power would place corresponding limits upon the ability of unit owners to lease or dispose of their units. Tight restrictions on sales and leasing of units, which are currently standard in residential cooperatives, have often been found to be onerous by owners of cooperative space. Thus far, condominiums have provided a useful alternative for important segments of the market, such as investors and corporations, who prefer, and may require, less stringent limitations than those prevalent in cooperatives.”

Since the requirement of consent to the sale, assignment, or sublease of a condominium unit owned in fee constituted a restraint on alienation of real property, the court said that it should not be inferred where such a limit is not set forth in the bylaws under the Real Property Law, Section 339-v(2)(a).

The other unit-owners in the Madison Avenue condominium had agreed to dedicate their units exclusively to medical and related uses. This did not, however, provide a basis to infer that PEI's unit was similarly limited, or that it is limited in any way other than as set forth in the bylaws and deed provisions extant at the time of the proposed use.

On the record before the court, there was no convincing evidence that the use of PEI's unit for a Subway sandwich shop would violate any zoning or use restriction, or that it would have necessitated a change in the certificate of occupancy. The condo had therefore failed to demonstrate that it was entitled to summary judgment in its action against PEI, declaring that it properly rejected PEI's notice of intended use of its premises.

The condo also sought a summary determination that on November 28, 2001, the board properly adopted the following rule: “Owners of a Unit, their lessees, tenants, agents, servants, employees, invitees, licensees and visitors, shall not use or permit the use in his, her or its Unit in any manner for a food store, including supermarkets, grocery stores, meat markets, delicatessen stores and/or for restaurants, night clubs, cabarets, dance halls, ballrooms, banquet rooms, cafeterias, snack bars, taverns, and/or coffee-houses, and in which person [sic] assemble for dancing, or for the consumption of food or drink, or for any combination of dancing, eating, drinking, or entertainment.”

Because the condo had failed to establish that this rule simply clarified an existing use limitation, its promulgation implicated the board's general rule-making authority. Real Property Law Section 339-v(2)(I) provides that bylaws “may provide for provisions governing the alienation, conveyance, sale, leasing, purchasing, ownership and occupancy of units...”

The rule at issue here is not, however, contained in a bylaw, but was propounded by the board under its rule-making authority. The condominium declaration states, in Article 20(g): “Regulations promulgated by the board of managers concerning the use of the property shall be observed by the Unit Owners provided, however, that copies of such regulations are furnished to each Unit Owner prior to the time the said regulations become effective.”

The rule propounded by the board was in response to PEI's notice of its intent to lease its unit. In relying on that rule to prohibit the very use that precipitated its passage, the board failed to furnish PEI with a copy of the rule prior to its effective date. The court held that Madison was not, therefore, entitled to a summary declaration that the board was within its rights in adopting the rule or in prohibiting the lease.

Comment: It is obvious that the condominium board here did not want a Subway restaurant in the building. The board raised all types of objections to bar the restaurant's opening - none of which the court found to have merit. There was no danger to the building or its occupants. The ultimate remedy for the board would have been to exercise its right of first refusal to lease the premises intended for Subway. Of course, that would have required some risk and expenditure for the board that it was seeking to avoid. With the cost of litigation factored in, it might have been smarter for the board to have exercised the right of first refusal in the first place.