A Word About Karma and Development Rights: The Cautionary Tale of a Luxury Condominium Developer on Goat Island, in Newport, RI
In the case of In re: IDC Clambakes, Inc, Chapter 11 Case No. 05-12267-MSH (2014) the U.S. Bankruptcy Court for Rhode Island earlier this spring made some interesting law here when it determined that because a Master Association and its sub Associations had impliedly consented to the developer’s use and occupancy of a reserved area after the expiration of development rights, the developer was under no obligation to pay for the use and occupancy thereof.
At first glance, that decision looked and sounded unfair to me until I read the 29 page case opinion. Briefly, by way of background, the developer of a luxury condominium project on Goat Island, in Newport, Rhode Island (IDC) recorded a Declaration in 1988 which gave it six years (or until 1994) to either fully or partially build out the project within that given time period. The developer sought to give itself more time to develop the project, including some remaining vacant land, by filing several amendments seeking to extend the time period. In 1997, 3 years after the development rights in the original Declaration had expired, the developer spent approximately 3.5 million dollars to construct a beautiful banquet facility called The Regatta Club on a vacant lot that was part of the condominium project. Unfortunately for the developer, the amendments seeking to extend the development rights were deemed invalid, and, as a result, the Rhode Island Supreme Court in two related cases involving this Condominium held that the title to land and airspace in which the developer’s development rights had lapsed was owned by the unit owners of the Condominium in common ownership.-America Condominium Association, Inc. et al vs. IDC, Inc 870 A 2d 434 (2005). In other words, even though the developer had erected a 3.5 million dollar facility on the land, the whole facility and the land under it was now owned by the unit owners. Ouch!
Not surprisingly, the developer subsequently filed for bankruptcy and the Condominium Association filed a proof of claim with the Court seeking reimbursement out of the developer’s remaining assets for the developer’s seven year use and occupancy of the banquet facility. After much litigation in the lower and appellate courts, the Bankruptcy Court on remand, held that the Association had impliedly consented to the developer’s use and occupancy of the banquet facility, and that under those circumstances, it would not be entitled to compensation for that use and occupancy.
This appeared to be a harsh ruling on its face because, as a general principal of real property law, if you use someone’s property, you should be required to pay that person the fair market value of your use of it. However, the Court here determined that the Condominium Association received the benefit of a beautiful, new banquet facility on its land, and that it did not have to pay “one penny for it”. Moreover, the Court found that the fair market rental value that it could have received was approximately 1 million to 1.6 million, which was far exceeded by the fair market value of the facility, which with improvements by the developer totaled approximately 3.5 million dollars. In addition, it could look forward to receiving hundreds of thousands of dollars annually in rental and event income from the property for years to come. The Bankruptcy Court does have equitable powers in general, and this was clear here as it sought a judgment that was fair under the circumstances, the general law notwithstanding.
So then, what is the take-away for a developer from this case? For one, given what is at stake, a developer should take pains to ensure that he/she gives himself sufficient time to fully develop the project, or, if more time is needed, to correctly amend the documents to give him more time. Alternatively, he could withdraw the unbuilt or developed land within the original time frame, and start a new condominium.
Not to overstate the obvious, but if there is the slightest question that the land might be lost to the Association by a lapse in development rights, before undertaking a major construction project on the subject property, perhaps he or she could negotiate with the Association to compensate it for the extension of time or perhaps a fair rental agreement. I suspect that any alternative would achieve a better result for the developer than what happened in the IDC case.
The take away for a Board or an Association would be to closely monitor the timing here. If time grows short for the developer, perhaps a Board might consider negotiating a fair price for its assent to extend the rights. Or, if the rights have in fact expired, seek to have the developer pay a sum of money to fully build out the property. More importantly, the Court in the above case made much of the fact that there was no real evidence that the Association ever objected to the construction of the facility. Had they objected from the beginning, I suspect the Court may have ruled differently. Accordingly, once construction begins, the Association should immediately decide how it wants to play its cards. I suspect here that the Association chose to stand pat while the facility was being built, hoping that the Court would invalidate the Amendments and that they would have a free facility, courtesy of the developer. Aside from the bankruptcy ruling against them, fortune was indeed on their side. Another Association may not be so lucky.
And finally, a word of caution: while the Association in the IDC case apparently received a windfall with the banquet facility, this did not occur without almost two decades of disputes, 5 lawsuits and one bankruptcy. That’s probably not good karma for the developer certainly, but also for the folks enjoying that facility on Goat Island. All sides would have been better off negotiating a settlement before litigation.