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The Gray Zone

It was a triumph - or so it seemed. The board president at a high-rise cooperative in Brooklyn had just negotiated what he felt was a successful deal with CBS television to place cameras on the roof of his building to cover a marathon. As part of the deal, the TV network was throwing in seven varsity jackets with the "CBS Sports" logo on the back for the co-op's seven directors. The board worked hard throughout the year, so its members felt they deserved a little payback. What's wrong with that?

Plenty, and if you don't see why, you may have more problems than you bargained for. "It was a clear conflict of interest," says attorney Steve Wagner, a partner in Wagner, Davis & Gold. "You're a fiduciary. You're holding the property for another; it's as simple as that. You can't do anything that would not look right. This example stinks."

"There should be no tolerance for ethical lapses," adds David Khazzam, vice president and director of management at PRC Management, "Every action should be thought about well in advance."

Yet when talking ethics and boards, violations are among the grayest of gray areas. They are the unseen enemies, creeping up on you when you least expect them. They can come in many shapes and forms, from board members jumping ahead on the list for parking spaces and storage bins to preferred treatment by building staff.

"I have a friend who is a real estate attorney who has had several board members do self-serving things," notes Gerry Fifer, board president of a 32-unit condominium on Manhattan's Upper West Side. "When he points that out to them, they say, 'What's the point of being on the board if I can't do something in my own interests?' Which I find outrageously shocking. One board member actually managed to block some other shareholders from buying or selling so he could get the apartment. He was very out front about it to my friend, and he felt no one would challenge it. No one did."

Ethical dilemmas are cropping up more and more. And as they do, boards are - or should be - wondering how to recognize and deal with them. Ethics are dangerous to ignore. The courts are very sensitive to self-dealing, so boards must make stringent efforts to protect themselves.

Recognizing Conflict

The most important move is to recognize the conflicts themselves. The clearest ethics violations come in cases where there is clear financial gain. That can mean hiring a contractor who is a board member or is related to a board member.

It gets grayer when it involves hiring attorneys or accountants. Should they advise you and get paid for it? After all, the argument goes, who knows the building better than a professional who lives there?

But it gets downright black with murkiness when you deal with personal agenda items, such as subletting rules, flip taxes, and pet policies, among others. "A lot of people get on the board because they have personal issues - extensive leaks, noise complaints, or renovation requests that they want to look over as board members," says Donald Levy, a vice president and account executive at Brown Harris Stevens, "so sometimes the ethics of trying to maintain some independence and having a legitimate shareholder issue when you're trying to look out for your own family and your own apartment creates some ethical conflicts. Ideally, a board member should not have an agenda when they get on the board, but they usually do."

One Manhattan co-op, for instance, had decades-old plumbing that potentially could not take the strain of washers and driers in every apartment. The board had no policy on the issue, but the president felt it should be addressed. When she brought it up at one meeting, a director asked - politely - if the issue could be deferred or if his machine could be grandfathered in? It was deferred, out of courtesy to the board member. Is that ethically wrong? It is a moral gray area: there were others who had washers and driers, too, so one could argue that he represented a constituency. But others might say he was getting special treatment because of his board membership.

One way to identify conflicts is to employ what Wagner calls "the smell test." "If it looks bad or smells bad there's probably a conflict," he says, noting that accountability and the appearance of propriety are two key elements in all ethical questions. "If you run a contracting company, you can't go around and offer to do work in other board members' apartments if they vote for you. That stinks. It doesn't pass the smell test. In selling your apartment, there's a smell if you sit in on the application, or call up to get it expedited. That's not fair or right, so it stinks."

The smell test should have been applied to the situation at Richard Huttner's cooperative. Huttner was a family court judge from 1979 to 1985 and has been a New York State Supreme Court justice since 1986. In 1996, he moved into the Murray Hill Mews cooperative in Manhattan. From May 19, 1997 until September 25, 2001, he was the board vice president.

Before becoming an officer, Huttner admitted later that he had been aware of the law, which states that a judge may only serve as an officer of a co-op's board if it does not involve him in litigation. Between June 1999 and January 2001, however, Huttner signed five affidavits that were filed in court by the co-op's attorney in connection with litigation by the co-op against Rio Restaurant Associates, a commercial tenant.

Huttner's affidavits were full of legal conclusions and arguments, while the attorneys representing the co-op in the litigation used Huttner's name and referred to his judicial position in correspondence that was sent to the attorneys for the restaurant and to the Supreme Court of New York County. On March 24, 2000, an attorney representing the co-op sent a letter to an attorney representing the restaurant, which said that the board had selected Huttner as "its representative before the Court during settlement discussions." The letter also stated that Huttner had "participated in all aspects of the litigation thus far" and had "submitted all of the Cooperative's affidavits supporting its motions for injunctive relief and summary judgment."

On April 12, 2000, Huttner attended a settlement conference held before a Supreme Court of New York County court attorney. Huttner attended as the representative of the co-op and participated in the conference. They did not settle.

On May 11, 2000, Huttner visited the restaurant and mentioned to the manager and assistant manager of the restaurant that the litigation should and could be settled if the tenant were represented by a different law firm. During the discussion, Huttner referred to his judicial position and gave the assistant manager of the restaurant a card issued by the Patrolmen's Benevolent Association (PBA) to judges. The card had the word "judge" on a picture of a police badge. The PBA gives such cards in large numbers to judges.

When a complaint was filed with the New York State Commission on Judicial Conduct questioning Huttner's actions, he resigned from the board, effective September 25, 2001, and agreed to play no further role in the litigation, either as a witness or representative of the co-op. Huttner was censured by the commission. Although nothing happened to the board itself, it was an embarrassment that did not reflect well on the co-op.

"Huttner overdid it; he threw his weight around" says Richard Siegler, a partner in the law firm of Stroock & Stroock & Lavan who is familiar with the case. "There's nothing wrong with having a judge on the board if he keeps matters in context. I have a number of co-ops with judges on the board, and they will use their skills to adjudicate disputes between shareholders. They can be helpful. It's the extent of their involvement that makes a difference. It was Huttner's use of his official function to achieve results that was improper. If you use your official role to try and intimidate someone, that's improper."

Protecting Yourself

Wagner's "smell test" may work if your nose is very sensitive, but for others, it may be helpful to have stated policy and procedures to help identify and protect themselves in case of ethical dilemmas. The National Association of Housing Cooperatives, for one, has released a "Director's Code of Ethics" that spells out areas to avoid in general terms ("A director owes allegiance to the cooperative and must act in the best interests of the cooperative") and more specific ones ("A director may not use the position for personal profit, gain, or other personal advantage over shareholders of the cooperative").

Others suggest these practical steps:

Insist on full disclosure. In contract situations, it is just as important for boards to know where they stand. Some go further, insisting that board members with a financial interest in a decision remove themselves from discussion and final vote. If they are not present, the rest of the board is free to have a more candid discussion. Yet determining the stake a director has in an undertaking can be challenging if he or she is not forthcoming. Most standard bylaws require a disclosure of conflicts, but you are dependent on the individual's honesty in such matters.

Consider your colleagues, but get bids. If a shareholder wants to work for the co-op or condo, make him take part in a competitive bidding process like everyone else. Fully disclose in the minutes that this is being done. "Let's say I'm a contractor," says Wagner. "I want to bid on a job, and I own a reputable contracting company; and I disclose my relationship to this company. I have this company qualified independently. I don't participate in any part of the selection process or in the discussion at the board meeting, I allow myself to be treated like everybody else who is bidding. In other words, I take my board member hat off. That's acceptable."

Some say there may even be advantages to having an insider work for you, although they think it is risky. "Sometimes people work harder for people they know," says Michael Wolfe, president of Midboro Management, "but I still don't think it's worth it. If something goes wrong, you come into criticism."

Avoid paid professional advice from attorneys or accountants on the board. Getting paid advice from a board member is fraught with potential land mines. Many experts claim it is a mistake to have an attorney or accountant on the board represent the co-op. Boards would do well to have a strict policy about not doing business with board members' law or accountancy firms. One way questionable things are caught is by professionals looking at the books. It is not easy to get an impartial decision if you are the head of the law firm that is representing the building. If the attorney in charge of your building finds something wrong, it is unlikely that he will take it to the board.

"People can always abuse what sounds like independent information if they have their own personal issue or their own axe to grind," says Levy. "That can clearly color the advice that they give. The board members should have the ultimate protection of going to the outside professional."

But that doesn't mean you should avoid having volunteer professionals offering opinions on legal or financial matters - as long as you have an outside, independent adviser to guide you. Having experts act in a non-paid "unofficial" capacity can help.

"That is legitimate and worthwhile," says Neil Davidowitz, president of Orsid Realty. "When you're seeking people to join the board you're seeking people who will have the kind of business and educational experience that will enhance their roles as managers. If you have a legal background or you have an accounting background or you have an engineering background, that's a wonderful thing because you're able to evaluate the independence of advice you're getting from outside sources."

Examine the role of brokers on the board. Having a broker on the board is one obvious gray area. According to attorneys at the city's Human Rights Commission, it is illegal to bar someone from serving on the board of a co-op or condo based on his or her lawful occupation. Brokers can serve, but it is important that they recuse themselves from any decisions involving the resale of apartments they are involved with. That can get difficult, since one could argue that any building improvements, maintenance increases, or policy issues (such as prohibiting pets or imposing a flip tax) can have an impact on sales (see "Hotline: Brokers, Boards, and Buildings," Habitat, January 2004).

Be wary of staff members offering you freebies. It's hard to avoid staff members favoring board members; after all, the board is the boss. You may be unable to avoid having the hallways cleaner on your floors, but you can insist on paying for extras that the staff members try to give you for free.

One board president in a 78-unit Upper West Side co-op says: "I have had to complain to the managing agent about my hallway floors being cleaner than everyone else's. I feel if my floor can be this clean, so can the others. I really try to be careful. If people perceive that my floor is better and that the staff gives me help it doesn't give other tenants, that will be a source of irritation. And if anything goes wrong, the board president is the first to get blamed anyway."

"Favoritism by the staff is a natural occurrence, and it's wrong," Wagner notes. "All shareholders are equal and should be treated equally. It's a natural response that staff are going to respond favorably to people that grease them."

One way to avoid that is to set up a work order system for requested jobs in an apartment. A written request is sent to the super and the manager and is dealt with in the order in which it is received.

Boards should also set out strict guidelines for work done in apartments by the super and staff, insisting that nothing is done for free. "If it's easier for you to get repair service because you're on the board, I'm not sure anybody would say that's criminal," says attorney Robert Tierman, a partner in Litwin & Tierman. "But once you cross the line and receive services or something else not given to other shareholders of a co-op that could be conceived as criminal. It could be seen as services offered in exchange for the ongoing approval of the employee."

All for One...?

But the best test for ethical conflicts is one involving a simple question: does it benefit everyone or does it just benefit me? Since board members are also owners in the building, you cannot entirely eliminate ethical conflicts. Simply because you take a position on pet policy - and you want a pet - doesn't cross the ethical line. You could see yourself as representing all pet owners in the building.

"People run on platforms and they may have a constituency," says Wagner. "If it applies to everyone - if everyone gets the maintenance increase, if everyone gets the opportunity to have a pet, then that's not an issue. You're allowed to have an opinion and vote according to your opinion and conscience. The issue is when you're sticking money in your own pocket. Sure, everybody has a financial interest in every decision. It's when you have a financial interest distinct from everyone else's that that creates the conflict."

One common case is the building that is about to begin capital improvement work. The decision before the board is, "Do we borrow the money from the bank and refinance, or do we assess?" The board member who sees himself selling in a year or two will invariably vote for borrowing, thinking, "Why be assessed and pay all this money if I'm out of here?" While the board member that sees himself there for a long time, says, "I don't want to pay interest on this money forever, let's do an assessment and get it over with." From an ethical standpoint, experts say there is nothing wrong with either viewpoint.

Finally, most agree that the board president should set an example by his or her transparency. "If the president establishes an open forum that serves the owners' interest," explains Arthur Davis, a corporate consultant, "he wants to show that he openly subscribes to ethics and morality. He should lead an open discussion of every board member's responsibility and openly discuss anything in conflict or that may be in conflict, anything that would compromise a relationship. Full disclosure has to be the common theme between interactions - that drives trust, confidence, and team building. People are more productive because there's nothing hiding in any closet that could come back and expose them to liability."

Board president Gerry Fifer thinks being conservative in ethical matters is the best route. "I always look at everything through an ethical filter," she says. "I know it sounds tedious, but I think it's important. A lot of boards do not consider questions of legality. They see it as semi-social, semi-business, and don't realize that there's a legal framework to follow. The board president should remind them of this. A board has a legal responsibility not to be self-dealing. A lot don't even know they do have legal obligations. They should familiarize themselves with what they should be doing on the board."

 

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