Taking Over From the Developer: How Can an Association Take Control?
I was recently asked to speak to an ad hoc committee of unit owners on the subject of what an association should do when an independent board takes over from the developer/declarant of a condominium. Based on recent changes in the way the law is interpreted, this issue is important to the wider condominium community, and I thought it would be timely to share my thoughts with you.
The transition from developer to independent board elected by unit owners is not to be taken lightly, as there are many hidden issues. But before we discuss these issues in light of the evolving state of the law, it is important to review basic principles that have not changed:
1.CREATION OF THE ASSOCIATION. Frequently, unit owners are under the mistaken impression that the association is not created until an independent board takes over from the developer’s board. That is not true. Under the control of the developer, the association exists from the first day the Master Deed is recorded at the Registry. But when an independent board takes over, it does so as the successor to the developer’s appointed board members who have been operating the association since the formation of the condominium. As will be demonstrated below, if owners wait until control is turned over, important rights may be lost. In fact, a developer would want to hold onto its control of the association for as long as possible so that in the event of any wrongdoing by its board, the statute of limitations would have expired by the time the independent took over. Thus, the developer could escape the threat of litigation.
2. TAKEOVER OR OPERATING EVENT. The takeover or operating event is an occurrence that is left to the drafts person of the condominium documents and usually is stated to occur at the takeover of the transfer of title to a certain number of units or a certain date, whichever is sooner. It is also deemed to occur if the developer has abandoned its marketing of units. But beware: If the developer keeps a majority of units, even though a meeting is called for an election, the developer may retain sufficient control to elect his own cohorts to the board.
3. EVOLUTION OF THE LAW. The law has been slowly evolving over the years. The fact that some of what I have to say now may differ from what I have said before is the result of a particular line of cases. To wit: Barclay vs. Deveau, Tosni vs. Chelmsford Village Townhouse, Queler vs. Skowron, and Scully vs. Tillery. Those cases can be summed up by saying that they stand for the proposition that the Massachusetts Condominium Act is basically an enabling statute and that whatever the drafts people write into the condominium documents, so long as it does not violate public policy or directly conflict with the statute itself, will be upheld. Those cases also stand for the proposition that an individual has the right to opt into the document scheme by purchasing a unit or opt out of the scheme by not purchasing the unit. If you buy, you are stuck with the language that you bought into. In so stating, the Supreme Judicial Court has opened a can of worms.
Whereas before one could state with some degree of confidence that all owners control the association in accordance with their percentage interest by voting the percentage interest that appears in the Master Deed, a question is whether a draftsperson could state that regardless of percentage interest, each unit has one vote that is equal to the votes of all other units. At first blush, it seems that the line of cases cited above would hold that is correct. On the other hand, the justices could state that such language violates the statute because of the statutory language that seems to require a percentage vote.
What Boards Need to Do
In light of those cases, let us revisit what boards should do when transition takes place:
1.) THE DOCUMENTS. The new board as well as prospective purchasers should review the constituent condominium documents and, with the help of counsel, try to understand what those documents say and what the obligations of the board consist of.
2.) THE FINANCIALS AND COMMON FEE ISSUES. Some developers either “low ball” common fees, fail to budget and collect for adequate reserves, bury their construction costs in common fees/association’s operating budget, or fail to pay all common fees when due for the unsold units they own. Let us review these issues:
In the past, I held the position that everyone (unit owner and “declarant as unit owner”) was obligated to pay 100% of his/her/its share of the budget as represented by the unit’s percentage. Now, it appears that so long as 100% of the condominium’s expenses are fully provided for, the documentary language can contain provisions that alter the requirement that each owner pay in accordance with the percentage schedule of the Master Deed. . For example, in one case in which I am involved, I believe that under the principle of the cited cases, it was proper for the developer who caused documents to be drafted that announced a set fee for all units with the developer agreeing to pay for any deficiency in the operating budget.
In this case, no one paid their percentage interest. They paid the amount set by the developer. However, all expenses were paid either by the set fees or the developer. No budgeted money is missing. The only issue would be whether the developer set fees that were so low that they amount to lowballing, whereby individual unit owners could make claims that they were enticed into purchasing units that they could not afford had the actual common fees been made known. Some developers will artificially reduce the budget and secretly subsidize common fees to enhance sales. In some jurisdictions, that practice has been held to be fraudulent.
A condominium unit exists as of the date the Master Deed or amendment, creating the phase in which the unit is filed with the Registry of Deeds. The owner of every unit (including the developer, until the unit is sold) owes 100% of the common fees attributable to the unit. In the past, I believed that if the developer caused a certificate under G.L.c 183A 6(d) to be issued without having collected the full amount from each unit in accordance with that unit’s percentage, the 6(d) Certificate may be invalidated and the developer and developer-controlled board members may be guilty of fraud. However, under the line of cases cited above, I now believe that so long as the developer complied with the condominium documents and leaves the association with no outstanding major bills, the 6(d) Certificate issued by his board is valid. Previously, I believed that work performed by the developer, such as snow plowing, may not be counted or credited the payment of common fees due on unsold units, and the developer needed to pay the money on a monthly basis for each unit when due. Now, I believe that the documents control and that what really counts is that the association’s bills and the budget are probably funded.
Massachusetts General Laws Chapter 183A, the “Condominium Statute,” requires that condominium associations maintain adequate reserves. Reserve accounts are created for the purpose of replacing capital items, such as roofs. Many developers, knowing that capital items will not have to be replaced for many years will not start a realistic savings process to fund a capital account “adequately” in order to keep common fees lower. In order to avoid special assessments in the future, a reasonable and adequate sum should be included in the budget for reserves from the first day of the condominium. Of course, the developer will be long gone in the future, so there is no incentive for the developer to do this except for the FHA and FNMA requirements before they will lend on the developer’s units. Considering that FHA and Fannie Mae now require 10% of the budgeted amount be reserved annually, one should make certain that budgeted amounts are being reserved.
C. Fiscal audit
Notwithstanding the above, it is recommended that the association undertake a financial audit upon relinquishment of control by the developer. Many issues must be determined, but they can only be determined, as stated above, after a review and understanding of the documents. If there is no provision changing the method of payment or collecting common fees, then my original proposition that all unit owners must pay 100% of the budget in accordance with their percentage interest still stands.
Other questions need to be asked: Have association dumpsters been used to haul away construction debris? Does the landscaping expense or snow removal expense include costs of maintenance of undeclared phases for which current owners have been paying? Are there other development costs buried in owners’ fees? Overall, it is an unfair and deceptive practice for developers to bury construction/development costs in the association budget while the developer is in control of the board.
The Condominium Statute requires condominium associations to maintain certain records. Those records belong to the association and not to the developer or the manager. They are to be kept for the association and available for review by owners. They should be turned over to the association by the developer on transition. Those records include unit owner records, financial records, contracts, and insurance policies.
E. Sweetheart deals
Unless the documents otherwise specify, review contracts to determine if the developer has made deals that should have inured to the benefit of the association but that in fact enriched the developer. Some sweetheart deals are improper in any event. For example, it has been past practice for laundry machine operators to make a lump sum payment to the party in control of property in return for the right to install laundry machines from which they collect money. This lump sum is in addition to the sharing of the funds collected. Some developers consider the money being paid to them as their property or profit. However, it is paid for the privilege of using common property.
F. Physical audit
The general rule is that a statute of limitations begins to run when a defect is known or should have been known after the property is put into service. Most statutes of limitations dealing with construction defects last for three years. Therefore, if a few original owners know of a defect in construction of the common areas, such as leaks, when they first purchase, they should not wait to rely on an independent board to take action. They may have to take action while the developer is in control. While nothing is guaranteed, they can seek reimbursement of any legal fees and costs if they are successful. In any event, many defects may be barred by a statute of repose, which takes effect six years after the defect is created regardless of whether it was known or not.
G. Document audit
The developer usually prepares a fairly routine set of condominium documents (Master Deed, Declaration of Trust/By-Laws, Rules and Regulations) designed to offend no one in order to enhance sales. This is perfectly acceptable. However, when unit owners take over, their agenda may differ from that of the developer. They may want restrictions on pets, parking, rentals, or other items. They may wish to strengthen certain areas in order to assist in day-to-day management. Often, documents are defective due to improper drafting. While most documents are adequate, a review by counsel (often termed a document audit) ought to be performed.
H. Review of professionals and contractors
People who have been working for the developer may not have your best interest at heart. While it is not required that all of these people be replaced, you should consider their loyalty, quality of past performance, and cost compared to others in the industry or profession as well as other factors you consider to be pertinent.
The key word is investigate. Investigate the common property for defective construction; investigate the financials for accuracy and completeness; investigate your contractors and professionals; investigate your documents.
Take action, if action is necessary, in a timely fashion. Do not wait for the takeover or operating event if you know of problems. Act as soon as such issues become apparent. Although not every transition becomes confrontational, construction and operation of a condominium is complex. Nothing is perfect. Problems arise, most often innocently. However, they need to be addressed.
I. Exculpatory clauses in favor of developer
Many developers will have exculpatory clauses drafted into the documents. If those clauses were drafted by the developer or developer’s attorney, they will probably be void as against public policy. However, if the language is general and covers all board members, whether they are developer- appointed board members or generally elected, they may be held invalid as to the developer and yet valid as to non-developer-appointed board members. Often, the argument can be made that requiring a super majority of the unit owners to approve litigation before it can be undertaken will be held to be void as against public policy for two reasons: (1) the developer may control enough votes to effectively stymie any litigation against it; (2) it takes a board function away from the Board and transfers it to the unit owners in violation of Ch. 183A Sec. 13.
Notwithstanding the fact that many exculpatory clauses may be declared void or voidable, it appears that if documents are properly written and give the developer a break, they will be upheld. The time to be upset with the documents is before and not after you purchase.
Responsible unit owners should start considering transition long before the date set for transfer arises. Failure to do so may result in loss of rights due to the passage of statutes of limitations. Therefore, they should begin to organize early. Form an ad hoc committee. Begin lining up accountants, attorneys, and engineers, none of whom should be involved with the developer. Those professionals can start you down the road to a successful transition.
At GSL, we strive to inform our clients about complex matters so they can make the right decisions.
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