Warning Signs: The Reasons Boards Might Treat Shareholders Differently

Say a board has a long-standing policy stating that shareholders cannot finance more than 50 percent of the value of their apartments. In January, a new shareholder seeks consent to finance 75 percent, and the board refuses, citing the policy. Then in February, a longtime shareholder asks the same question and the board approves the financing.

Has the board discriminated in favor of a friend or was it just changing the policy after multiple requests? Or does the board feel more comfortable bending the rules for a shareholder who has paid maintenance on time for 20 years rather than for a shareholder who has been in the building for a few months and has no track record? These are legitimate questions. The board can actually have different policies in place for recent purchasers versus long-term residents.

Here is another example. Say the board allows a shareholder on the second floor to extend the bathroom five feet, but does not allow another shareholder on the fifth floor to do the same. It may seem like the board is treating these shareholders differently. Extending the bathroom on the fifth floor, however, would violate the board's policy of having "wet" areas over "dry" areas, while the same project on the second floor would be okay as long as nobody lives beneath that shareholder. In this situation, the board has a rational basis for treating the two shareholders differently.

Still, when a board rewards its friends and punishes shareholders and unit-owners whom it views as enemies, then it is acting improperly. A board cannot have one set of rules for friends and a different set for others. That is a basis for a shareholder or unit-owner to file a discrimination claim.

The issue of discrimination is crucial because the Business Judgment Rule, under which all cooperatives and condominiums operate, provides that the courts will not question the actions of a condominium board of managers or a cooperative board of directors unless there is evidence that the board was guilty of bad faith, self-dealing, or discrimination. If the board gets sued and the court determines that the board violated the Business Judgment Rule, then the members of the board could be found to be personally liable and neither the indemnification contained in the bylaws nor the Directors and Officers Liability Insurance policy will protect them or their assets.

It is one thing to be on a large public company's board and make decisions that will affect shareholders differently, and another to be on a co-op or condo board and make decisions that will affect your neighbors.

Stuart Saft is a partner at Holland & Knight.

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