Avoiding Conflicts of Interest Acting for the Common Good

Avoiding Conflicts of Interest

Successful association or cooperative living requires harmony between all parties involved, from management to staff to board to residents. Should one of these groups put their own self-interests above the common good, the wheels can come off quickly. A condo or co-op can see its resources depleted; be unable to pay for maintenance and repairs; or even find itself in serious legal trouble if board members make decisions with the intent of lining their own pockets (or those of their associates), instead of upholding their duty to the community as a whole. 

Because of this, it’s imperative that a board identify and avoid potential conflicts of interest – or even the appearance of such. Adopting specific protocols via which vendors are selected is necessary to ensure that any hire is made based on the job at hand and the specific company’s merits, and not because hiring them could benefit one or more board members in any way. 

The F Word

The sole purpose of a board is to make decisions on behalf of the association, ostensibly for the greater good of everyone living in it. By ignoring a conflict of interest, the board acts in direct violation of its fiduciary duty to owners and shareholders.

“All of a board member’s dealings must be for the good of the whole community, without question,” says Kara Cermak, president of Rowell Incorporated in Elgin, Illinois. “If a conflict of interest ever does exist, board members are required to disclose that conflict, and may need to seek a legal opinion as to whether that conflict is a problem for them.

“In instances where there is no outside manager,” she continues, “then the board is seeking bids for various projects, and handling these things themselves. Thus there can occasionally be what appears to be a conflict of interest. If the board is seeking bids appropriately, yet showing preference to vendors that treat the community right, do their job properly, and do it for a great price, then I find that no conflict exists. If the board is showing preferential treatment because a particular member is receiving something from these vendors, then that is a problem. The board should adopt a policy about ‘gifts’ such that everything is above board, in order to avoid these issues.”

Legal Ease

Jeffrey Diamond, a partner with the Manhattan-based law firm Marcus Rosenberg & Diamond LLP, explains that, in New York, the business corporation law (BCL) establishes that, should there be a transaction which a board member is party to or has a substantial financial interest in, that contract is enforceable, as long as the facts of the deal – and the board member’s interest in it – are disclosed, and it’s subsequently approved by the disinterested members during an official board meeting. 

“Now, in the real world, many buildings have policies against these types of dealings for obvious reasons,” Diamond says. “A board member who is involved in a dispute would ideally recuse themselves, but even if so, you have to be concerned as to whether they may have influence on other members who are making the vote in question, thus opening up the entire board for a general claim. It’s clearly the best bet to have interested board members not involved in any transaction wherein they may be compromised. And we have buildings that have adopted specific policies against that – or at the very least disclosure. Disclosure is an absolute.”

It is further recommended that a broker who is representing a buyer or a seller within a property on whose board the broker serves should recuse themselves from any official board decision about that transaction. “New York law protects...from second-guessing the board’s business judgments unless a board member has an interest in the transaction,” explains Thomas D. Kearns, a partner with the law firm of Olshan Frome Wolosky LLP in Manhattan. “Since a broker’s compensation is typically contingent on the closing of a transaction, they should steer clear of acting in the capacity of a board member in a deal where they may be compensated.”

In Illinois, there is specific language within the state’s Condominium Act to which a board can refer when considering a hire or any activity that could prove a conflict. 

“Section 18a-16 of the condo act says that the board of an association can’t even enter into a contract with a company where a member or member’s immediate family owns 25 percent or more interest in the company,” says William Chatt, a shareholder with law firm Cervantes Chatt & Prince P.C. in Chicago. “To the extent that the board does the right thing and notifies its membership, the membership then has 20 days to reject going into a contract with that company. So obviously conflicts were considered when the Act was being drafted. So when someone comes calling, insinuating that someone in their association has a conflict, that’s the first thing I consider: does it meet the criteria laid out in the Act, and did this person not inform everyone else?”

When the conflict arises between a vendor and a management company, that can be trickier, since a board is even less likely to be privy to any low-key relationship between those external parties. “Our standard way of looking at it is, management companies have been in this business for a number of years, they’re working with multiple associations, and one of the things they’re essentially charged with bringing to the table is the weeding out of bad contractors from the good,” says Chatt. “So sometimes, I think that associations are taken aback if a management company were to forcefully suggest ‘Here’s the roofer for you,’ or, ‘Here’s the snowplow guy you should use.’ Everyone is used to open bidding and—especially in Chicago, where everyone is so familiar with graft and corruption when it comes to bidding—should the system not be transparent and regulated, we assume that something must be afoot, but that’s not always the case. Management companies might be operating based on experience; they’d hired other people in the past, and thus they’re quick to recommend a particular vendor because they’re familiar with the quality of their work.

“At the same time, I come from a construction family,” he continues. “And my dad used to say, ‘You can never go wrong by taking three bids, getting rid of the low and the high, and taking the middle. No one can dispute that you considered your options.’ So the tendency is to—at the very least—get more than one bid for something. If you solicit and consider multiple bids, I believe that you greatly whittle down the appearance of conflict.”

Hey DJ

Conflicts of interest can be completely inadvertent, but just because they’re accidental doesn’t mean they can’t be quite serious. Take for example the inevitable scenario wherein a board member also operates as a DJ, and offers their services - at a price - for an association event. This seems innocuous enough, but there is still due diligence to be served. And a board member simply should not sell their services to their own community. The offer may come from an innocent place, but a board member making money off of the community he or she is expected to serve could incentivize less well-meaning individuals to take advantage – even to the extent of creating or exacerbating problems with the intent of lining their pockets by swooping in to solve those problems with their own services.

“Board members can be hired to render services to the board—this happens frequently, for example, with lawyers—but the board member being hired should not participate in the hiring decision,” says Kearns. “But a restriction in the bylaws on board compensation would not apply to DJ services rendered for a fee.”

Joseph W. Scharnak, an attorney with Arnstein & Lehr LLP in Chicago, explains that governing documents indicate that board members cannot be compensated for performing “association duties,” but being a DJ for an association-sponsored party would not be considered such a duty.

“There is nothing in an association’s governing documents or Illinois law that obligates an association to hire a DJ,” Scharnak says. “So, a restriction would not be extended to this scenario. Association duties include things like obtaining appropriate insurance, preparing an annual budget and collecting assessments. All of these are typically spelled out in the bylaws.”

Should an association enter into contract with a board member for their DJ services, “Notice of the decision should be sent to the unit owners, and there should have been a 20-day waiting period after notice was sent to wait and see if a unit owner petition was submitted,” explains Scharnak. “In these situations, whenever a board intends to contract with one of its board members, the contract should be signed until the 20-day waiting period has expired. There could be a non-binding letter of intent; however, the board does not have legal authority to enter into a binding contract with a board member until that 20-day waiting period expires.”

Honestly, above all, the only criteria that should be weighed when hiring a DJ is what they’ll be spinning. Oh: and don’t take advantage of your association to make a little scratch!                 

Mike Odenthal is a staff writer and reporter for The Cooperator. 

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  • Excellent reporting. Thank you very much. Relevant, even a thousand years from now. I have a what if question if you will. What if a co-op has a 3-person board, and the president out of the blue one day comes to the other two board members and say to them “Actually, I found a buyer for my apartment, therefore I command you two to sign my buyer’s stock and lease”? Obviously such president is aware of the conflict of interest and self-dealing involved and would be trying to protect itself by such actions. Would it be prudent for the other two board members to decline the command and either force the president to sign on to the buyer’s stock and lease in order to have evidence of the self-interest dealing transaction and later go to court to have the board take back the unit, or should both these other board member not sign at all, force the president to resign first, get a new president, then the new board can review the purchase questionnaire, buyer’s financials, contract details in order to make a decision of whether to approve or not? Inquiring minds want to know. Thank you. God bless.