Do Sponsor/Investor Sublets in Co-ops/Condos Need Board Approval?

Sponsors or investors who own co-op apartments have the right to sublet without board approval and to avoid any fees associated with it. One board took action last year to change that policy, and it didn’t end well. Can you explain what happened? 

The case is Dunnegan v. 220 E. 54th St. Owners. William Dunnegan was a holder of unsold shares who had litigated previously with the board, and there had been a stipulated settlement where he was allowed to sublet with impunity and not to pay fees by virtue of his being a holder of unsold shares. In 2019, the Appellate Division came down with a one-page decision in a case called Pastina v. 61 West 62nd Owners Corp., in which the court found that a woman who was an original purchaser was not allowed to sublet. It also found that if she had been a holder of unsold shares, then it’s possible that the prohibition and the proprietary lease against anybody subletting might not apply to her. Based on that, the attorney for the board in the Dunnegan case told the board: “OK, you can tell everybody, including holders of unsold shares, that they have to pay fees, and they can’t sublet.”

So Dunnegan goes to Federal District Court, which held that New York’s Business Corporation Law, which says you can’t discriminate between shareholders in the same class, didn’t apply to him because he was the holder of unsold shares. But you can differentiate between the holders of unsold shares and all other shareholders, and this was found for him in a summary judgment. 

Ultimately the board had to settle the case and allow him to sublet. What happened here is the board acted precipitously and didn’t think it through when it changed its sublet provision and told everybody in the building that they could no longer sublet without board approval. It ended up spending thousands of dollars on legal fees to no benefit. 

Presumably the board members aren’t legal experts and must have consulted an attorney. How did things go so wrong?

Let’s assume for purposes of this argument that there are no attorneys on the board. So the question becomes “What should boards ask attorneys to avoid these pitfalls?” So your attorney comes to you and says: “Hey, there’s this new case that I think will allow you to start regulating all the sublets, even for the sponsor.” You have to say: “That sounds great, but on what do you base your decision? Can we see a copy of it?” 

Even though a lot of decisions are opaque legalese, reasonably intelligent people can discern certain things, which enables them to ask other questions. You want to ask: “Do you agree with this decision, and is there any precedent for it?” “Was this an appellate court or a trial court?” “What are the arguments of the other side, and do you find any of them compelling?” You really have to sound out your attorney on whether he or she is taking a sustainable position.

In other words, it’s actually incumbent upon board members to make an independent determination. 

Yes. Otherwise you’re taking a risk that the case that the attorney is relying on might be limited to its facts. It may be that your attorney says, “Hey, board, you’re in the right.” And there’s always a cost-benefit analysis to be applied. Is the sponsor going to take your subletting policy lying down? Chances are, you’re going to find yourself in a lawsuit, and will your budget support that? And even if you think it’s a slam dunk, which litigation seldom is, what’s the fallout, and is worth it? Are you going to get that much more income from sublet fees to warrant tens of thousands of dollars in legal fees? You are engendering animosity with a sponsor, which you don’t want to do because the sponsor can become uncooperative and not support you in capital projects or deny you a quorum and things like that.

Since boards often have different agendas from sponsors and investors who own apartments, what’s your advice on working with them?

Really one has to maintain collegiality as much as possible. Although you have different contractual rights, you all have the same fiduciary duty to the shareholders and are working toward the same ends. So you want to appeal to their goodwill and common sense. You want to try to engage in dialogue as much as possible as opposed to a full-frontal assault, which is what happened in the Dunnegan case.

I represent people in a condo where the sponsor had the right to put a big for sale sign on the side of the building that everybody found aesthetically displeasing. And so the board reached out to the sponsor and said: “Look, we know you have a right to do this, but can we at least be involved in a conversation about what it’s going to look like?” And the sponsor said fine. People still weren’t happy about the signage, but it’s something that looked a lot better. Everybody worked together, and nobody’s suing each other.