The Board Decides

May a board, which receives an opinion from shareholders, then disregard the shareholders’ wishes and take action unilaterally? The answer was “yes” in Simon Schwarz and Theresa Otto v. Dorchester Apt. Corp. and Its Board of Directors.

Theresa Otto and her mother, Simon Schwarz, were shareholders of the Dorchester and resided in the same apartment. The Dorchester had one interior garage at the north end of the basement that contained 19 parking spaces. There was no other on-site parking. There were no provisions in the proprietary lease or bylaws pertaining to parking spaces. For at least ten years, Otto and Schwarz occupied two parking spaces in the garage.

During 2000, Otto and Schwarz paid $100 per month to Dorchester for the two parking spaces. In 2001, Dorchester hired Cooper Square Realty as a new managing agent. At some point (it is not clear when), Cooper Square sent Otto and Schwarz a notice that showed a monthly rent due of $160 for the two spaces. They disputed the $60 increase in writing. But in a letter dated January 24, 2003, Cooper Square notified them that they were in arrears and demanded payment. By a letter dated January 29, 2003, Otto and Schwarz claimed that they were not in arrears and requested an accounting. Cooper Square responded by sending another demand for payment that included an account history sheet, showing that they had been billed $160/month for some time. By letter dated January 20, 2004, Dorchester advised Otto and Schwarz that they were in default under the terms of their proprietary lease and that if they did not pay their arrears, the board would seek to terminate their proprietary lease and cancel their stock certificate. Via a letter dated February 3, 2004, the board changed its position and advised that since the arrears were for parking fees and not for maintenance charges, they were not in default under the terms of their proprietary lease.

On November 11, 2003, the board of the Dorchester had held a special meeting of shareholders to discuss the financial affairs of the cooperative. At that meeting, the shareholders discussed garage fees. Thereafter, the board unanimously voted to increase the monthly garage fees to $100 with a provision that those then paying $60 or $70 per spot would have their fees raised in annual increments until they reached $100 per month. The board also decided that no shareholder would be allowed to rent more than one space if there were shareholders without parking spots on a waiting list. Although not set forth in the court’s decision, it was clear that the rule was that no “apartment” could have more than one spot if others were waiting.

On January 22, 2004, the Dorchester held another special meeting of shareholders – this time to discuss assessments and other matters. At that meeting, the issue of Otto and Schwarz having two spots was raised, and some of the shareholders present expressed their willingness to allow them to keep their two parking spaces. By a letter dated February 6, 2004, the Dorchester notified the shareholders that the opinion expressed by them at the January 22, 2004, meeting was not binding upon it and that the resolution of the board made on November 11, 2003, that limited parking spaces would remain in effect.

Otto and Schwarz claimed that the board orally agreed to hear the views of the shareholders concerning Dorchester’s decision to limit the use of parking spaces and on the fee dispute over alleged parking fee arrears. Otto and Schwarz further contended that the Dorchester agreed to be bound by the shareholders’ expressed opinion. They claimed that the majority of shareholders present voted that the “one space” restriction should not be applied to them. The shareholders also allegedly voted that the Otto and Schwarz parking fees should not have been increased retroactively. Otto and Schwarz submitted a letter purportedly signed by 16 shareholders to buttress these claims.

The court conducted a three-day evidentiary hearing to resolve the underlying claim. Otto and Schwarz testified. The Dorchester called no witnesses.

The Dorchester court discussed the seminal Court of Appeals decision in Matter of Levandusky v. One Fifth Ave. Apt. Corp that set forth the Business Judgment Rule as the standard of judicial review when evaluating decisions made by residential cooperative corporations. The Dorchester court also acknowledged the Court of Appeals case that reaffirmed Levandusky, 40 West 67th Street Corp. v. Pullman. The court quoted from the Pullman decision: “The very concept of cooperative living entails a voluntary, shared control over rules, maintenance, and the composition of the community. Indeed, as we observed in Levandusky, a shareholder-tenant voluntarily agrees to submit to the authority of a cooperative board, and consequently the board “may significantly restrict the bundle of rights a property owner normally enjoys.”

The court discussed that the Business Judgment Rule was a common law doctrine by which courts exercised restraint and deferred to good faith decisions made by boards of directors in business settings. In the context of cooperative dwellings, the rule provides that a court should defer to a cooperative board’s determination “so long as the board acts for the purposes of the cooperative, within the scope of its authority and in good faith.” The court explained that Pullman held that courts should scrutinize the facts underlying a board’s decision to see if a tenant-shareholder can show that the cooperative acted (1) outside the scope of its authority, (2) in a way that did not legitimately further the corporate purpose, or (3) in bad faith.

The court stated that these three exceptions to the rule balanced protecting the interests of the entire cooperative community and the judiciary’s interest in protecting against the board’s possible abuse of its broad powers. The court also described the two-phase process of reviewing a cooperative’s decision established by Pullman. In the first phase, the court is required to determine whether the cooperative’s action was entitled to business judgment deference. It is the tenant-shareholder’s burden to show that the board vote was not entitled to deference. The tenant-shareholder satisfied that burden by showing that the board’s actions were outside the scope of its authority, that the board’s actions did not further the cooperative’s corporate purpose, or that the board’s decision was made in bad faith.

After considering the hearing evidence, the pleadings, oral argument, and the memoranda of law submitted by the respective parties, the court found that Otto and Schwarz did not meet their burden. They did not show that the Dorchester acted in bad faith or outside the scope of its authority, or in a way that did not legitimately further the corporate purpose. While Otto and Schwarz may have reasonably perceived that the Dorchester’s decision to limit parking spaces was specifically directed against them since they were the only shareholders who occupied two parking spaces, this alone did not support a finding of bad faith. It was in the cooperative’s interest to increase the number of parking spaces available to its tenant shareholders, especially when there was more demand than supply. With a waiting list in existence, the determination to limit spaces to one per shareholder (or apartment) was objectively reasonable and clearly within the board’s business judgment prerogatives.

With regard to the claim that the Dorchester breached an agreement to abide by the expressed opinion of the shareholders, the court found this to be unsupported. There was no evidence that shareholders were notified that the special meeting was considered to be a binding referendum on the Dorchester.

Furthermore, the terms of the agreement, even if true, were too indefinite and uncertain to be binding or enforceable under contract theory law. The court did not find the claim to be credible. Rather, the court found much more plausible and persuasive that the Dorchester agreed to hear the shareholders’ views regarding the disputes and to take the shareholders’ opinion under consideration. This was consistent with the Dorchester’s letter to the shareholders of February 26, 2004.

Once again, it was within the scope of its authority to listen to the shareholders and, notwithstanding the shareholders’ expression of disapproval, to make a decision to adhere to its prior decision so long as they deemed it to legitimately further the cooperative interest. The court found that this was what occurred. The Dorchester’s decision to limit parking spaces to one per shareholder while a waiting list for spaces existed was entitled to deference under the Business Judgment Rule and was neither arbitrary nor capricious. Otto and Schwarz’s request to enjoin enforcement of this decision was denied.

Otto and Schwarz also claimed a fee dispute regarding past parking fees. In particular, they alleged that Cooper Square unilaterally chose to raise their parking fees for their two parking spaces from $100 to $160 retroactively and by doing so created previously non-existent arrears.

In the absence of any evidence to rebut this claim either in the pleadings or in the hearing, the court found that Otto and Schwarz proved their claim that there were no parking fee arrears. The court found that Cooper Square made a claim for parking fee arrears that it had created by unilaterally and retroactively increasing petitioners’ fees from $100 to $160 monthly. Cooper Square, by its letter to Otto and Schwarz dated February 3, 2004, partially corrected its error by conceding that the alleged arrears did not support a notice of default under the proprietary lease agreement. It did not, however, set aside the determination of arrears. Although Cooper Square had the authority to take this action on the Dorchester’s behalf, the issue is in substance a billing error unrelated to the proprietary lease rights. The court, nevertheless, found that Dorchester’s determination, through Cooper Square, to have unilaterally increased parking fees retroactively to be arbitrary and capricious. The action was improper and was annulled.

Finally, the Dorchester sought to recover reasonable attorney’s fees associated with its defense of the proceeding. In New York, a prevailing party may not recover attorney’s fees from a losing party except where authorized by statute, agreement, or court rule. The Dorchester did not claim a right to attorney’s fees based on a statutory right or court rule. Rather, it relied on paragraph 37 of the proprietary lease agreement as authority. That provision pertained to defaults by the lessee and provided as follows:

“If the Lessee shall at any time be in default hereunder and the Lessor shall incur any expense in performing acts which the Lessee is required to perform, or in instituting any action or proceeding based on such default, or defending or asserting a counterclaim in, any action or proceeding brought by the Lessee, the expenses thereof to the Lessor, including reasonable attorney’s fees and disbursements, shall be paid by the Lessee to the Lessor, on demand as additional rent.”

There was no dispute that Otto and Schwarz were not in default of any provision of their proprietary lease agreement. In fact, the Dorchester corrected itself and advised them by letter dated February 3, 2004, that their dispute over parking fee arrears was not a default of their lease agreement. Inasmuch as attorney’s fees were only authorized when the lessee was in default of the lease agreement, there was no authority or basis to award attorney’s fees.

Comment: This case serves as a reminder that, except for decisions specifically reserved to the shareholders, it is a board’s right and obligation to make decisions for the best interests of all of the co-op’s shareholders. This is consistent with Business Corporation Law Section 701, which prescribes that “the business of a corporation shall be managed under the direction of its board of directors.”

The board’s power is broad, but it does not go unchecked. Here, the decision to limit parking spaces to one per apartment was made by the petitioners, within its authority, in good faith, and in the legitimate interests of the cooperative pursuant to the Business Judgment Rule. However, the decision to retroactively charge increased fees to the petitioners was not and thus the court annulled that decision.

The case also reminds us that being successful in a lawsuit does not necessarily allow the prevailing party to obtain attorneys’ fees from the other side. There must be a statute or a written agreement (typically a proprietary lease, or in condominiums, the bylaws) that allows fees to be awarded to the successful party. In this case, the co-op conceded, by its own letter, that plaintiffs had not breached the proprietary lease. Without such a breach, no fees could be awarded. H

Attorneys for the Parties:
Plaintiffs Pro Se
Defendants Robert Chicco