Board Power

As a board director in New York City, can you throw a neighbor out of the building? Can you be held personally liable and bankrupted for your actions as a board director? Twenty-five years ago, your answer to those questions might have been “no,” but in 2007 – as board power has grown with board responsibility – the answer has increasingly become “yes.” In fact, if you are sitting on a co-op board in New York City, you have one of the most powerful – and, potentially, one of the most vulnerable – positions in the city.

Nowhere is that duality seen more than in the co-op board’s power to reject an applicant for an apartment. While the courts have given directors great latitude in turning down potential residents, they have also said boards cannot break discrimination laws in doing so. If they do – as one East Side board discovered in the famous Broome vs. Biondi et al. case – they can face huge, personal punitive fines.

“You always have the dichotomy between the power of the board and the power of the shareholders,” says veteran co-op attorney Richard Siegler, a partner in Stroock & Stroock & Lavan. “There has been an enormous increase in the power of boards in New York State.”

Power Struggles

Board power stems from the certificate of incorporation, the bylaws, and the proprietary lease of each shareholder/unit-owner. “The board can make decisions about how much and when to spend on roof repairs because that issue existed when the leases were being drawn up,” explains attorney James Samson, a partner at Samson Fink & Dubow. “When you spend money on the roof, you charge everybody on a per-share basis. But, can you bring in a discount cable service to get cable for everyone at 40 percent of what they are now paying? No, you can’t. You have to amend your proprietary lease to do that. Because it says that all expenses have to be on an equal basis. [Similarly,] the board doesn’t have the right to require every shareholder to take out homeowners insurance. And yet they’re charged with protecting the co-op.”

Practically speaking, however, when the majority of today’s co-ops were born – in the heady 1970s and 1980s – boards had to struggle hard to get some measure of control over their buildings, starting with the landlord-tenant conversion negotiations. After the property was converted, the problems escalated: although they had bought their apartments, the directors usually had to deal with the former landlord. In his role as the sponsor, if he still maintained a majority of the units, he had control of the cooperative. Buildings were deteriorating – but the boards generally did not have control of their destiny. Although the directors would propose capital work, for instance, the sponsor would often block it as too costly.

“We were handicapped,” recalls 68-year-old Erma Rolle, a board member at the 1,000-unit Fairfield Towers complex in Brooklyn since its conversion from a Mitchell-Lama rental to a condominium some 16 years ago. “We couldn’t do anything. The sponsors controlled the board; they had the majority. Every board meeting was constant arguing. The elevators needed fixing, the buildings were infested with roaches. It was just a disgrace. But we couldn’t do anything about it. The [sponsors] would just say, ‘Well, we don’t have the money to do it.’”

“The reality was, it was business as usual as a rental building,” adds Barbara Taylor, who was on the board when the sponsors were still in control of her 125-unit Manhattan co-op in the late 1980s. “The sponsors were the managing agent. They controlled the laundry, the attorneys, the accountants, the vendors; they controlled it all.” The board, as a result, was powerless to deal with even the most egregious results of deferred maintenance: “Raw sewage was backing up into the first-floor apartments in both buildings, there were serious roof leaks, and the parapet walls were in bad shape.”

Boards generally had to suffer with such frustrations for five years (or at least until the sponsor had sold over 50 percent of the shares). Taylor notes that it was only when the sponsors finally lost control of the building that the board could start to address the problems. Fixing the parapet walls, for example, ran up a tab of $250,000.

In many conversions, the former landlord wrote the bylaws and proprietary leases, usually to his advantage (sale of his apartments did not need board approval, of course), and if there was a commercial lease, you can bet he had locked it up. Often a sponsor – or an unwitting board – would sign a lease that limited a co-op’s power and greatly favored the store, garage operator, or laundry room supplier who had drafted it (with or without the sponsor’s help).

This misuse of power was serious enough for a federal law to be enacted in 1980 called the Condominium and Cooperative Conversion Protection and Abuse Relief Act. However, there was a limited window of opportunity to terminate leases under the Relief Act and, while sponsors controlled the boards, few directors learned about the existence of the act until it was too late. Mark Lilien, a board member at the 137-unit 350 Bleecker Street co-op, for instance, spent four years leading an effort to end the sponsor’s 75-year garage lease, which was part of the master lease. In the end, although the co-op spent thousands on legal fees, the courts decided the board had missed the window of opportunity by months.

Power Increase

In other ways, however, there has been a steady growth of board power, buttressed by favorable legal decisions. As far back as 1959, New York State’s highest court, in Weisner vs. 791 Park Avenue Corp., pronounced that co-ops had, in Siegler’s words, “the right to restrain transfers [sales] for any reason or no reason.” This has been seen as critical to a co-op’s ability to function since there was a financial interdependence: every shareholder was responsible for meeting the mortgage payments or the building was at risk.

According to Siegler, however, the most important recent development was a decision in 1990 called Levandusky vs. One Fifth Avenue Apartment Corp. “Co-ops are a subspecies of mini-government and the courts treat them with great deference. They kind of say, ‘We want to give them a free ride,’ unless somebody shows that what they’ve done is outrageous and self-dealing, or beyond their powers, or not done in good faith – for example, done with some ulterior motive.” The court said that it would defer to the board’s “business judgment” on this issue and upheld the decision. “Deference to that [‘business judgment’] principle has had a huge influence on legal developments affecting boards,” says Walter Goldsmith, a partner at Sonnenschein Sherman & Deutsch.

Such power is exercised in small as well as large matters. Hope Goldstein, president of her 220-unit co-op on Manhattan’s Upper East Side, recalls that shareholders were failing to provide their keys for emergency situations. “We eventually threatened that we would have a locksmith come and change the locks. It was suggested by legal counsel that we do so,” she says, adding that she has experienced the problems a board faces when it does not have the kind of control it needs. “We had situations where we didn’t have access to someone’s apartment when their radiator blew up and water was pouring out. We had to sit there and wait several hours for a locksmith to come while water poured out.”

But, for good or ill, that doesn’t mean that there are no restraints on a board’s actions. One limit is a ruling that a board’s actions may not conflict with the governing documents or applicable law. The court decision in Fe Bland vs. Two Trees Management Co., et al. in 1985 was a severe blow to any boards that thought they had the power to introduce flip taxes. They didn’t. “The court decision was a clear limitation of board powers,” notes Samson. “Only a super-majority of the shareholders can make that decision, unless it’s already written into the governing documents.”

Still, the pendulum has recently swung towards giving boards unchallenged authority. “The highest court in the state,” notes Goldsmith, “[has] said they would not get involved in deciding whether the conduct of a shareholder was objectionable.” In 40 West 67th Street Corp vs. Pullman, it was successfully argued that the proprietary lease of the co-op gave a super-majority of the shareholders the right to vote to evict an objectionable shareholder.

Some observers are worried that, if boards are not careful, the axiom “absolute power corrupts absolutely” may be a result of such trends. “I’m waiting for the bad side of Pullman,” says Samson. “It gave the boards too much power. In no other corporation can the boards take shares away. In a co-op, if you violate a house rule often enough, the board can send you a notice saying, ‘You do it again, we’ll view your conduct as objectionable.’”

This seemingly random use of power has led to boards getting black eyes. Besides being characterized as fascists, racists, gangsters, or worse by the media, an increasing number of lawsuits have been filed in attempts to challenge board power. In the most notorious, Broome vs. Biondi et al., the court ruled against a board that had rejected an applicant for a sublet. President Nicholas Biondi and his Upper East Side Manhattan board were successfully sued for racial discrimination and civil rights violations, and Biondi was slapped with punitive damages of $125,000, for which he was personally liable. Biondi had to sell his apartment to meet his debts.

“Biondi delineates a limit on indemnification of board directors. The law says that people are not going to be indemnified for conduct that gives rise to punitive damages,” says attorney Howard Schechter, a partner at Schechter & Brucker. “Biondi was a warning to boards that they can’t consider themselves as having unlimited powers.”

The Next 25

Looking to the next 25 years, Schechter points to areas that the courts still have to flesh out. “Where proprietary leases require boards to act reasonably, I think that co-op boards generally have ignored that language. And somewhere along the line, the court is going to rule that they’ve acted unreasonably.” He adds that this is one reason for boards “to carefully review their governing documents.”

Oliver Rosengart, who recently retired after 25 years in the attorney general’s office, notes a significant change that has been occurring in the New York City housing market. “In the ’80s, about half of all apartment offerings were conversions, which had a rule that the sponsor had to give up control after five years. Now more than 90 percent of offerings are new-construction condominiums. These have no rule about when the sponsor has to give up control. And in many offering plans, sponsors have said, ‘We will maintain board control until an enormous number of units, and sometimes, even, all the units, have been sold.’” In effect, there are an increasing number of boards in the city where control is not in the residents’ hands.

Douglas M. Kleine, executive director of the National Association of Housing Cooperatives, says affiliates of his organization are concerned about legislative proposals requiring boards to provide written reasons for the rejection of applicants. “More and more states are adopting things that put more power back in the hands of the shareholders in the co-op. It democratizes it. It could create some real problems. These measures erode the powers of the board.”

Attorney Geoffrey Mazel, a partner at Hankin, Handwerker & Mazel, agrees: “This is the hot issue right now; this is where boards are scared.” He also says that such legislation is unnecessary, because, as Biondi demonstrated, “there are protected classes and there are laws that are enforced all the time.”

Siegler believes that the proposed requirement “would chill the whole atmosphere for boards to act. Most act very responsibly and are very concerned about doing the right thing.”