Since my column in June of this year, there have been some significant cooperative and condominium cases that have been given little publicity. The most interesting case, may be the West Gate House case which brings the infamous Jennifer Realty (sponsor divestiture) and Pullman (shareholder "objectionable conduct") doctrines together for the first time. In a few cases, the courts give the business judgment rule a good workout. In two cases, we learn more about the courts' views on board rulemaking and in another case, we learn what could happen if a contract is not drafted thoroughly.
The First Department's decision is less than one page long, but it is noteworthy in the continued battle between co-ops and sponsors who fail to divest themselves of apartments. The well known Jennifer Realty decision recognized that a sponsor might be liable in contract to a co-op for failing in good faith to timely sell so many apartments as necessary to create a fully viable co-op. The Jennifer Realty Court left many questions unanswered (such as, what exactly is a "fully viable co-op"), and left plenty of room for the law regarding sponsor divestiture to evolve for some time.
An interesting argument was crafted by West Gate House, Inc.'s counsel that piggy-backs the Jennifer Realty doctrine with the infamous Pullman opinion regarding a board's decision to terminate a shareholder's tenancy because the shareholder engaged in "objectionable conduct." The co-op's argument was that the defendant sponsor's continued rental of its non-rent stabilized apartments to tenants who were undesirable constituted "objectionable conduct." The sponsor owned 51 percent of the co-op's shares and apartments for almost 20 years after conversion and sold only one apartment since conversion. According to the co-op, the sponsor's tenants in those unsold apartments were impinging upon the quality of life in the building by not following move-in, move-out rules, not cooperating in correcting building code violations in apartments and creating security risks. The co-op board notified the sponsor that the continued subletting of the unsold apartments was "objectionable conduct." The sponsor ignored the notice and commenced a lawsuit seeking an injunction preventing lease terminations by the cooperative.
The Appellate Court affirmed the lower court's denial of the injunction not under the Pullman doctrine, but on the ground that under the Jennifer Realty doctrine the sponsor should have been divesting itself of the apartments, and not renting them to undesirable tenants. Between the lower court's decision and the Appellate Court's decision, the co-op terminated the sponsor's proprietary leases for its non-rent stabilized apartments because of the sponsor's "objectionable conduct." The court did not discuss the co-op's mixture of the Jennifer Realty and the Pullman doctrines. However, by leaving intact the co-op's termination of the sponsor's leases for "objectionable conduct," the court validated the co-op's argument piggy-backing the two doctrines. Co-ops may be able to add this decision to their arsenal in dealing with sponsors who are holding unto their apartments and renting them to undesirable tenants.
Some boards mistakenly believe that the business judgment rule applies to all of their actions. Essentially, the rule is that board decisions are not subject to judicial scrutiny unless the board acts for purposes other than those of the co-op, acts without its authority or acts in bad faith. Justice Deborah James of the Supreme Court, New York County, decided that the business judgment rule does not apply with respect to the One West 126th Street co-op board's refusal to honor a contract to buy plaintiff Rouette's apartment in return for another apartment owned by the co-op.
The co-op contracted with Rouette to exchange apartments. The co-op refused to go through with the exchange claiming that Rouette allegedly breached the contract by not allowing the co-op to inspect his apartment prior to the sale. The court recognized that the "business judgment rule does not protect a cooperative corporation from liability for breach of contract."
By entering into a contract with its shareholder Rouette, the co-op subjected itself to possible contractual liability for which the business judgment rule does not apply. In Justice James' words, "Defendants cannot circumvent their contractual responsibilities by attempting to resort to procedures available to them under the business judgment rubric applicable to relations between cooperative boards and shareholders."
Although the business judgment rule may not work as a defense all of the time, it remains one of the most powerful defenses in a cooperative or condominium board's arsenal. Heron Pointe on the Beach Condominium's Board of Managers adopted and enforced certain rules restricting street parking in the condominium. The plaintiff commenced this suit challenging the board's decision regarding the parking restrictions and the condominium moved for summary judgment.
The Appellate Division, Second Department, affirmed the lower court's grant of summary judgment in the condominium's favor in view of the business judgment rule. The court decided that the business judgment rule applies because Mr. Martino "failed to establish any bad faith, fraud, self-dealing, or other misconduct by the board," and the "adoption and enforcement of parking restrictions was a matter within the board's authority." Because the business judgment rule applies, the Court was foreclosed from reviewing the board's decision.
The 1025 Fifth Avenue, Inc. co-op's building was constructed in 1954. At that time, a 30-foot awning was erected over a terrace to Michael Horowitz's apartment. Although allowed in 1954, the co-op now promulgated a house rule that prohibits such awnings. The co-op also has a house rule restricting the use of air-conditioning units to through-the-wall installations. When the owners of the apartment above Horowitz's apartment wanted to install a through-the-wall air conditioner, the co-op's board decided to require Horowitz to remove the awning to accommodate the installation of the air conditioner.
The Appellate Division, First Department, decided that the business judgment rule applies to the board's decision and thus, the court would not scrutinize the board's decision. The interesting aspect of this decision is that the board was allowed to apply, retroactively, the co-op's house rule prohibiting awnings like Horowitz's. The court said "[i]rrespective of whether it was permissible at the time it was installed, the cooperative's house rules presently prohibit the awning, and the cooperative's right to require its removal is preserved by the nonwaiver provision in the proprietary lease." This decision supports the proposition that board's can enact new house rules and enforce them retroactively. The court decided that there was no waiver by the co-op in not requiring Horowitz to take down the awning for half a century because of the typical non-waiver provision in the proprietary lease. The court did not mention an equitable estoppel argument. Some shareholders in Horowitz's position might be able to argue that they relied to their detriment on the co-op's inaction for fifty years and therefore, the co-op should be estopped as a matter of equity from applying the new house rule to them.
Like many buildings, the condominium involved in this case had a no pet provision in its rules and regulations. The complainant, a unit owner, was seeking the court to order the condominium's managing agent, Tudor Realty, to enforce the condominium's no pet rule against another unit owner. For whatever reason, the condominium board decided not to enforce its no pet rule against the unit owner with the pet and Tudor followed the board's direction.
The most interesting aspect of the court's decision is the court's determination that the condo board had discretion in applying its no pet rule. According to the court, it was appropriate for the board not to enforce its rules against a violating unit owner. As the court put it, "[m]andamus does not lie to compel a discretionary act." This decision, thus, supports the proposition that boards have discretion in applying their rules and can waive their rules.
The court went on to confirm that managing agents like Tudor are not free to countermand their boards' decisions and thus, a claim cannot be sustained against Tudor. Because the court concluded that the complaint was frivolous, it awarded Tudor $1,100 in attorneys' fees under a rule that allows courts to sanction frivolous complaints.
This case involved a dispute between a laundry operator, Cointech, and a Mitchell-Lama limited profit cooperative housing corporation, Masaryk Towers, over an agreement for Cointech to provide laundry services in Masaryk Towers' building. Mitchell-Lama housing companies like Masaryk Towers are under the direct supervision of the New York City Department of Housing Preservation and Development ("HPD"). The cooperative's board president signed an agreement with Cointech that did not contain a provision making the HPD's approval a condition precedent to the contract. In other words, if HPD did not approve the agreement, the co-op would not be bound by the agreement.
In this case, HPD did not approve the agreement and Cointech sued Masaryk Towers for, among other things, damages for breach of contract because Masaryk Towers could not honor their agreement with Cointech. The court recognized that HPD rules require that contracts entered into by Mitchell-Lama housing companies include provisions such as one granting HPD the right to cancel any contract on 10 days' written notice. The contract here, however, did not contain such a provision. The court decided that "[i]n the absence of a condition precedent in the lease providing notice to Cointech that approval by a municipal agency [HPD] was required, Cointech is not prohibited from recovering damages caused by the breach of that lease."
The lesson here is to make sure that your contracts contain as much protection as legally possible and if the law requires certain contract provisions, make sure that the contract contains those provisions. Some boards try to save legal fees by executing contracts without first consulting with competent counsel. This case is an example where a simple provision in the agreement would have saved the cooperative litigation fees and costs.