In June 1992, the board of directors of a 160-unit co-op in Port Chester, New York made the same decision that countless
boards have made before and since: They rejected the proposed sale of an apartment within their property. However, in this case, shareholder Dorothy Tomaskovic Oakley took the board to court, claiming breach of contract, breach of fiduciary responsibility and intentional interference with contract.
At the center of the board's rejection was the fact that Oakley's proposed selling price of $37,500 was more than ten percent below the $49,000 minimum sales price the board had established for units comparable to Oakley's. Although the board apparently set this minimum price policy in an attempt to protect the value of the property, Westchester Supreme Court Justice Donald N. Silverman ruled in May 1995 that the board's floor-price policy is outside the scope of a board's authority, that it represents an unreasonable restraint on the transfer of apartments, and that it is an exception to a board's generally broad right of approval. Judge Silverman further held that the board had exceeded its authority because the property's shareholders had neither been allowed to vote on the minimum sales price resolution, nor had been given prior notice of the board's intention to establish such a policy.
The Oakley v. Longview Owners, Inc. case raises salient issues about the limits of board authority with regard to protecting the market value of a building's units. Although the Oakley case was a trial court decision and therefore not a binding precedent on any other co-op, boards should ask themselves whether such a policy can be enacted, should be instituted and if so, whether it is beneficial for the building as a whole.
Are Price Floors Good Policy
The practice of co-op boards setting bottom prices raises two separate and distinct questions, says Bruce Cholst, senior real estate attorney with the New York law firm Rosen & Livingston. Question A is, M-Is this course of conduct legal?' and question B is, M-Is it good policy?' In my opinion, the practice is legal, but it constitutes poor policy.
Notwithstanding the recent Oakley decision, I believe that a board's enactment of a minimum floor price policy is protected by the Business Judgment rule (assuming uniform and non-discriminatory enforce-ment), and therefore is not subject to judicial interference, Cholst continues. The Oakley decision was predicated upon a legal principal which generally prohibits restrictions upon the transfer of property. However, since the 1930s, this doctrine has been uniformly held inapplicable to the sale of co-op apartments. Thus, in my opinion, the Oakley decision is an aberration unlikely to survive any appeal.
Cholst points out, The legality of this practice, however, does not mean that it constitutes good policy. A minimum floor price scheme is bad economics, unenforceable as a practical matter, and unnecessary. The vast majority of sellers willing to accept far less than market price for their units are experiencing financial distress. The effect of a minimum floor price policy is to trap these sellers in their apartments, thus ensuring that sooner or later they will fall into arrears on their maintenance.
Patricia Kantor, partner in the law firm Edwards and Angell, agrees: The issue of placing a minimum price on a unit is dangerous. If you have an incident in which one shareholder comes up with a low price because of personal hardship, then I question the board treating that person in the context of a property-wide rule or policy. I think that boards have an obligation to look at each situation individually. While I don't know that I agree with the Westchester court's reasoning for why it's inappropriate, I do believe that co-op boards get involved in areas that are best left to market forces.
On the surface, floor pricing may appear reasonable to cooperative boards and shareholders, adds Robert Marino, a New York State Certified General Real Estate Appraiser and Tax Consultant who is also president of his Manhattan condominium. But the marketplace ultimately establishes value. By limiting the ability to sell units, boards might actually hurt prices by promoting foreclosure and abandonment.
I don't recommend that boards set a price floor as a policy, because it can be somewhat inflexible, says Aaron Shmulewitz, partner in the law firm Parker Duryee Rosoff & Haft. I believe that situations like this should be treated on a case-by-case basis, as should any purchase. On a case-by-case basis, the board has the right to turn down a purchaser and doesn't require disclosure to anybody. Of course, the Westchester judge disagrees with me.
In most cases, boards are protected from judicial review of decisions on whether to accept or reject a buyer based on the business judgment rule, which holds that boards need not provide the rationale for their rejection of a proposed sale within their property as long as their decision is made in good faith and is not based on discrimination.
The Rationale Behind Price Floors
The rationale most often expressed by boards for imposing minimum selling prices appears to be flawed, according to Cholst. Boards are fearful that one excessively low sales price will adversely impact all future bank appraisals in their building, he explains. The reasoning goes that one bad sales price sets off a chain reaction which limits financing prospects and thus inhibits future sales in the building. However, virtually every real estate appraiser with whom I have spoken confirms that isolated M-fire sales' are discounted and treated as aberrations and therefore do not adversely impact other appraisals in the building. Thus, minimum floor price policies are an unwarranted over-reaction.
A properly completed appraisal will include sales prices from within and outside of a subject building, Marino explains. An isolated sale should not adversely impact the value of units within a cooperative. However, lenders should be concerned when numerous sales result from foreclosures and below-market fast sales. These sales might flag future financial instability within a cooperative.
However, Marino points out that, Co-ops are technically stock corporations and not real estate. Owners of units in co-ops where minimum floor pricing has been established might be right in challenging the rule as a form of restraint of trade. It can be viewed as an encumbrance, much in the same way as maximum financing restrictions. They both limit the number of potential buyers, so the impact in an appraisal might be a slight negative adjustment when comparing a sale to the larger, unrestricted market.
Such Policies Could Hurt
Price limitations do not advance the ultimate benefit of the cooperative, according to Kenneth Horn, president of Alchemy Mortgage Properties and Alchemy Mortgage Finance, firms that specialize in real estate consulting, marketing and mortgage brokerage. Prospective shareholders may be hesitant to purchase in a building where minimum per share sales prices have been established because they may fear that they will be stopped when it's their turn to sell. By placing too many restrictions of transferability on individual shareholders, the cooperative itself becomes damaged in that its reputation may be adversely affected, Horn concludes.
I believe that individuals should have the right to sell their apartments for any price they can get, says Odette Wilkins, board president of her 126-unit co-op in Forest Hills. I think it should be between the shareholder and the buyer. We live in a capitalistic society and the market sets the rates. Playing with the market rate is artificial, and I don't believe it's within the board's responsibility to get involved with that. If there's something else objectionable about the purchaser, that's a different story. But boards should not reject sales based solely on price.
Adele Zasloft, president of Gotham Towne House, a 185-unit Manhattan co-op, agrees. We had that come up on our board and the board felt that we could not stop the sale, especially in a down market. That would be forcing people to sit with something that maybe they're going to lose. There can be times when shareholders must sell rapidly for financial or other reasons. The board must also look at the market as it is. I don't think the board should create an artificial market.
Boards don't want to see the value of their property lowered, says Jimmy Lanza, president of Boulevard Gardens, a 963-unit co-op complex in Woodside. But if the seller is willing to take a beating, the board doesn't have the right to stand in his way unless the cooperative corporation itself is willing to purchase the apartment and give the shareholder some other higher value.
Cooperative stock is like any other stock, says Lanza. If IBM told me that I couldn't sell my stock until the price increases, it never would and I could never sell. Nobody would be interested in buying. It's all supply and demand. Nobody wants to sell for a loss. So if you're selling for a loss, it's because the shareholder has to get on with his life and he's willing to take the loss. He shouldn't have to suffer emotionally or financially because the board won't let him out. Everybody has to realize what reality is in 1995.
If, after considering the benefits and drawbacks of establishing minimum sales prices in their property, a board is still inclined to do so, they are well-advised to take such a resolution to the shareholders for ratification. Boards that act unilaterally in creating such policies may find themselves in for more problems than they may solve.
Barbara Dershowitz is a former contributing editor to The New York Cooperator.