Richard Siegler and Eva Talel
Richard Siegler and Eva Talel ()

Nearly a quarter of a century has passed since the New York Court of Appeals decided Levandusky v. One Fifth Avenue Apartment Corp.,1 the landmark case that established the business judgment rule as the standard for judicial review in lawsuits challenging condominium or co-op board actions: When a board acts for the purposes of the condominium or co-op, within the scope of its authority, and in good faith, a court may not substitute its judgment for the board’s. Thirteen years later, the Court of Appeals in 40 West 67th Street v. Pullman,2 cemented the business judgment rule standard, insulating protected board action from judicial review. To date, the business judgment rule remains intact.

Since our 2011 column, which surveyed business judgment rule case law,3 our research has disclosed approximately 80 cases where New York courts have applied the business judgment rule—in over half of these cases, the courts summarily and unanimously upheld board action, precluding judicial review. Importantly, the courts also adhered to the well-settled principle that conclusory and speculative allegations of bad faith, self-dealing or other wrongdoing by a board are legally insufficient to trigger judicial scrutiny of board action.

Where courts did not summarily uphold board action, the allegations of the complaint raised a triable issue of fact, and therefore warranted judicial scrutiny as to whether the board’s actions fell within recognized exceptions to the business judgment rule—bad faith, lack of authority, self-dealing, breach of contract, or disparate treatment of apartment owners.

This column discusses appellate decisions applying the business judgment rule since our 2011 column and also provides recommendations to boards and managers, so that boards may avail themselves of the protections of the business judgment rule.

Action Protected by Rule

Repairs. In Katz v. Board of Managers of One Union Square East Condominium,4 an apartment was rendered uninhabitable by a fire, and the unit owner claimed that the board delayed in completing the repairs and did not make them in a timely manner. The Appellate Division, First Department, held that the board acted within the scope of its authority under the bylaws, in furtherance of a legitimate corporate purpose, and in good faith, finding that complained-of restoration delays were caused by the unit owner, not the board.

Similarly, in Caldwell v. Two Columbus Avenue Condominium,5 plaintiffs challenged the manner in which the board determined to address the many construction-related problems in the building—including water infiltration—which was to pressure the sponsor to carry out and pay for the remedial work, using the contractors that had worked on the building from the outset, rather than carrying out the remedial work itself.

The First Department held the business judgment rule protected from judicial review the board’s actions in seeking to remedy water infiltration into certain units, notwithstanding unit owner allegations of breach of contract, private nuisance and negligence.

Parking. In 257 Central Park West v. Abraham,6 the board terminated plaintiff’s parking license and was awarded possession of his parking space. The Appellate Term, First Department, held the board’s action to be protected by the business judgment rule because plaintiff was delinquent in timely paying his monthly parking fees.

Charges and Fees. In 40-50 Brighton First Road Apartments Corp. v. Kosolapov,7 the board imposed a special assessment to finance completion of façade repairs required by New York City’s Local Law 11. The Appellate Term, Second Department, upheld the board’s action as being within its authority under the co-op’s bylaws. Some 47 apartment owners had refused to pay the assessment and in defense of the nonpayment summary proceedings commenced by the board, contended that the board had fraudulently misrepresented that the assessment was for Local Law 11 work but in fact was imposed and used to balance a budgetary shortfall, and that the board acted in bad faith by not using a mortgage loan to finance the repair costs.

The court reviewed the board’s assessment letter to apartment owners, which explained that a new cycle of Local Law 11 work could require an $800,000 special assessment as well as the basis for the board’s rejection of mortgage financing (maintenance charges would thereby be increased), and held that the board’s broad financial management authority under the bylaws and the absence of a claim that funds collected for the special assessment were used for purposes other than the co-op’s legitimate interests precluded judicial review of the assessment under the business judgment rule. Importantly, the court held that even if, as the apartment owners claimed, “the assessment [only] cure[d] a budgetary shortfall [because] of ongoing façade work expenses throughout 2010, the assessment represents merely an indirect financing of the façade repairs.”8 Citing Levandusky, the court held that “[a]bsent proof sufficient to establish a triable issue of fraud, self-dealing, unconscionability, or other action taken without notice or consideration of the relevant facts,” the board’s actions were insulated from judicial review.9

Leases and Transfers. In Big Four LLC v. Bond Street Lofts Condominium,10 the owner of commercial space in the condominium sought to rent it to a 7-Eleven store. The board objected, citing the condominium bylaws’ prohibition of on-premises cooking in the space. The First Department refused to review the board’s decision, ruling that the board acted in good faith and in furtherance of the legitimate purpose articulated in the bylaws—to prevent vermin and rodent infestation and odors from permeating the property—and rejected the commercial unit owners’ conclusory and unsupported conjectures of the board’s bad faith.

In Bregman v. 111 Tenants Corp.,11 the co-op board instituted a policy that prohibited subleasing, without board approval, for more than two years in any four-year period. The proprietary lease provided that no subletting was permitted without the consent of the board and only upon such conditions imposed by the board, and that such board consent could be granted or withheld for any or no reason.

Plaintiff owned two apartments which she had subleased for the past 30 years and she challenged the board policy, claiming she had obtained preferential subletting rights in 1992, when the building was converted to cooperative ownership, and that she was also being singled out by the policy because she was the only owner who sublet her apartments.

The First Department upheld the board’s policy, holding that the evidence failed to support plaintiff’s entitlement to preferential treatment and, even if such entitlement could be shown, it would violate §501(c) of the New York Business Corporation Law (which requires that each share of a corporation must be equal to every other share of the same class, and therefore precludes special subletting rights).12

The court further held that the board’s desire to maximize owner residency, and thereby maximize the value of the co-op’s shares, satisfied the business judgment rule’s “in furtherance of a legitimate interest” standard, and that plaintiff’s allegations that she was the only apartment owner whom the new board policy would affect were insufficient to establish the board’s bad faith because all owners had the same subletting rights and restrictions under the proprietary lease.13

In Cia Naviera Financiera Aries v. 50 Sutton Place South Owners,14 the U.S. Court of Appeals for the Second Circuit, applying New York law, held that the board had acted in good faith in refusing to recognize a purported inter vivos gift of co-op shares to the plaintiff, finding that none of the transfer provisions of the co-op’s bylaws or proprietary lease had been satisfied.

Governance and Business Decisions. In Board of Managers of the 25 Charles Street Condominium v. Seligson,15 the commercial unit owners claimed that the condominium board had not been “elected” and was therefore not properly constituted when it hired a managing agent and prepared the annual budget. The First Department held that the board was properly constituted because the bylaws provided for the “designation” (not election) of board members, and thus the business judgment rule protected the board’s subsequent actions.

Similarly, in Cannings v. East Midtown Plaza Housing Co.,16 the First Department upheld board action to obtain a private loan in order to finance replacement of windows in the co-op’s building because a public loan would have obligated the owner to remain in a Mitchell Lama program for an additional 15 years, holding that by doing so, the board had not engaged in self-dealing.

In Carroll v. Radoniqi,17 a condominium board determined not to pursue legal action against an employee accused of misconduct in connection with a unit alteration and an adjoining unit owner sued the board for breach of its duty of loyalty. The First Department dismissed the complaint, holding that the board had made appropriate inquiries and acted within its authority and in good faith in determining not to pursue legal recourse.

Acts Not Summarily Protected

Bad Faith. In 534 East 11th Street Housing Development Corp. v. Hendrick,18 an apartment owner alleged that the board refused to approve a proposed transfer in retaliation for his refusal to participate in a fraudulent tax scheme to sell the apartment to another shareholder’s son. The First Department held that the seller had sufficiently pleaded evidence of bad faith and thus the board could not rely on a business judgment rule defense.

In Linda Tenants Corp. v. Spanakos,19 the board instituted a holdover proceeding against an apartment owner to recover possession of a parking space. The Second Department held that the business judgment rule did not protect the board’s action because the board failed to allege or prove a reason for terminating the owner’s parking space lease, thereby precluding a determination as to whether its action was taken in good faith; the proceeding was dismissed.

Material Issues of Fact. In Board of Managers of White Sands Condominium v. Cooper,20 the board sought to recover certain common charges from the unit owners, but the Second Department found a material issue of fact as to whether the board was legitimately constituted and had authority to assess and collect the common charges at issue. This precluded summary judgment in favor of the board based on the business judgment rule.

Similarly, in Board of Managers of 85 8th Avenue Condominium v. Manhattan Realty,21 the board assessed the condominium’s garage and commercial unit owners certain charges for repair and maintenance of the common areas; the unit owners raised a material issue of fact as to whether the board was properly constituted when it imposed such charges. The First Department therefore held that the business judgment rule did not entitle the board to summary judgment in its favor.

Self-Dealing. In Irene David Realty v. Moyal,22 the board president owned two corporations that leased space in the commercial co-op. Plaintiffs, minority shareholders in the co-op, sued the board alleging it had approved a sublease between the two corporations and a third party that did not benefit the co-op, but benefited the president of the board. The First Department held that to the extent the president had an interest in the sublease, an issue of fact existed as to whether the sublease had been properly ratified by the board and whether alleged self-dealing caused any unfairness to the co-op. As such, the court refused to summarily protect the board’s actions under the business judgment rule.

Breach of Contract. In Goldstone v. Gracie Terrace Apartment Corp.,23 the board adopted a building restoration plan that reduced, de minimus, the size of an owner’s apartment. The owner sued, alleging that the plan violated her proprietary lease. The First Department agreed, holding that a breach of contract (i.e., the lease) by the board was not protected under the business judgment rule. However, the court declined to interfere with the board’s plan and relegated plaintiff to breach-of-contract damages.

In Wood v. 139 East 33rd Street Corp.,24 the board stopped work on plaintiff’s approved apartment alteration. The First Department held that a material issue of fact existed as to whether the work stoppage constituted a breach of the proprietary lease and alteration agreement. Thus, the business judgment rule did not protect the board’s action.

Disparate Treatment of Shareholders. In Razzano v. Woodstock Owners Corp.,25 the board instituted a policy allowing only those owners who purchased apartments prior to October 2002 to sublet them. The First Department denied the board protection under the business judgment rule, holding that the sublet policy violated Business Corporation Law §501(c), by treating shareholders disparately.26

Recommendations

The business judgment rule remains a strong legal principal for boards to rely upon in actions brought against them by shareholders. Numerically, there have been a number of decisions in the last several years refusing to summarily protect boards under the business judgment rule. However, the courts’ reasoning has remained the same since the rule’s inception. When boards act in good faith, within their authority, and in furtherance of a legitimate corporate purpose, their actions will not be questioned by a reviewing court.

However, if a plaintiff can show that a board demonstrably engaged in bad faith or self-dealing, acted outside its authority, breached contracts with apartment owners, or treated owners disparately, the board should not expect to receive protective treatment in court. It therefore behooves boards to ensure that the actions which they take merit the protection of the business judgment rule. If a board is not certain, it would be prudent for it to review the proposed actions with an appropriate professional.

Richard Siegler is of counsel to Stroock & Stroock & Lavan. Eva Talel is a partner at the firm and is an adjunct professor at New York Law School. Max Vogel, a law student, and Margaret Jones, a reference librarian at Stroock, assisted in the preparation of this column. Stroock is counsel to the Real Estate Board of New York.

Endnotes:

1. 75 N.Y.2d 530 (1990).

2. 100 N.Y.2d 147 (2003).

3. See Siegler and Talel, “Levandusky at 21: Board Protection Continues,” NYLJ, May 4, 2011, at 3, col. 1.

4. 83 A.D.3d 501 (1st Dept. 2011).

5. 92 A.D.3d 441 (1st Dept. 2012).

6. 40 Misc.3d 138(A) (1st Dept. 2013).

7. 39 Misc.3d 27 (App. Term, 2d Dept. 2013).

8. Id. at 30.

9. Id. See Levandusky, 75 N.Y.2d at 554.

10. 94 A.D.3d 401 (1st Dept. 2012).

11. 97 A.D.3d 75 (1st Dept. 2012).

12. N.Y. Bus. Corp. Law §501(c) (McKinney 2003); See Wapnick v. Seven Park Ave. Corp., 240 A.D.2d 245 (1st Dept. 1997) and Krakauer v. Stuyvesant Owners, 301 A.D.2d 450 (1st Dept. 2003).

13. cf. Abrons Foundation v. 29 E. 64th Street Corp., 297 A.D.2d 258 (1st Dept. 2002). There, the court held that an issue of fact was presented as to whether a new sublet fee was imposed in bad faith by the co-op board because the evidence demonstrated that the fee could only have impacted plaintiff.

14. 510 F. App’x 60 (2d Cir. 2013).

15. 85 A.D.3d 515 (1st Dept. 2011).

16. 104 A.D.3d 443 (1st Dept. 2013).

17. 105 A.D.3d 493 (1st Dept. 2013).

18. 90 A.D.3d 541 (1st Dept. 2011).

19. 43 Misc.3d 137(A) (2d Dept. 2014).

20. 35 Misc.3d 32 (2d Dept. 2012).

21. 102 A.D.3d 548 (1st Dept. 2013).

22. 107 A.D.3d 430 (1st Dept. 2013).

23. 110 A.D.3d 100 (1st Dept. 2013).

24. 104 A.D.3d 620 (1st Dept. 2013).

25. 111 A.D.3d 522 (1st Dept. 2013).

26. See, supra, note 12.