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A Case Study in Property Management Ethics

A recent change in ownership of two apartment communities within a master association, comprised of four PUDs and the two apartment communities, provoked a question from the potential buyer during escrow: “Where else besides the By-Laws might the Governing Documents give definition to proportional control of the master association?” Thinking this was an odd question, I forwarded the question to legal counsel for the master association.

Not thinking anything else of it (other than the natural question as to how much control the two apartment communities would have), I received a preliminary opinion from the attorney representing the master association: though the By-Laws were explicitly clear as to proportional control of the master association, a significant and costly error had been made as to the calculation of control, thus bringing up the related question as to how much the two apartment communities would pay in association dues.

My first dilemma

For twenty years the calculation of both total number of votes and the total number of “doors” to pay association dues had been calculated upon the number of “apartment doors” instead of the number of “lots” that the two apartment communities own and sit on. The difference between the two methods of calculation was 339 “doors”. My first ethical dilemma came when the attorney asked me if I wanted an opinion letter until further prompting from the new asset owner (the two apartment properties had already closed escrow by this time).

I thought that it was only right to get the opinion letter, as it would be unfair to deny both the previous asset owner and the new asset owner such important information.

It was suggested that I get a “second opinion” to confirm the first legal opinion I received. Given the enormous gravity of this error, I sought a second opinion and was informed that the first opinion was essentially correct.

Having received the second opinion, I suggested an emergency meeting of the Board of Directors as the escrow had already closed by the time I had both opinions.

My second dilemma

The Vice-President and Treasurer of the Board of Directors worked for the asset management company that represented the previous owner that had been paying association dues for the previous seventeen years! I was concerned about corporate liability to the association and personal liability to the Vice-President and Treasurer once this information was disclosed.

I told this board officer my concerns and suggested that we devise a strategy for the timely release of the information. However, I was also concerned about my company’s liability, as it had provided pro forma budgets each year for seventeen years, and the liability of the asset manager, as she and her superior had approved these incorrect budgets for so long. This overlapping relationship between the board member and her relationship to the old asset owner further complicated the decision to, not only disclose the information but also imply an immediate correction to the proper association dues based upon the legal opinions to the new asset manager/owner of the two apartment communities.

The Solution

With permission from the Board of Directors, I wrote the new asset management company and disclosed that their association dues had to be adjusted from 444 “doors” to six “lots”, thus deeply affecting this year’s calendar budget for 2017. The new asset manager actually called me to confirm what I wrote in the letter as it seemed to be a mistake to her upon the first reading!

Being that there is real jeopardy to the master association and our company, I placed the insurance broker for the master insurance policy on notice of a potential claim which may involve both the association itself and my company.

The Board of Directors has been kept abreast of all transactions to date, even though this indirectly empowers the potential claimant of potential conflicts, which may support their position that they have a claim for overcharged association dues against the master association. This seems counter-intuitive, but fair to the damaged previous owner to the tune of nearly 1.8 million dollars. To be fair, the opinion letter also highlighted corrective measures and a defense for the master association which has now been disclosed to all parties involved. Again, somewhat unorthodox, but seemingly fair.

Furthermore, it was necessary to immediately lower the services rendered to the master association for landscaping, irrigation, management fees, and the reserve allocation. It will also be necessary to raise the association dues the maximum allowed under the civil code over the next two calendar years to restore essential services and funding of the reserves. This is workable for these properties given that most of the budget is for landscaping and irrigation and the master association is currently over 100% funded.

In working through all these issues and potential conflicts, at each step I asked myself these four questions (taken from The Rotary “Four – Way Test”): is it the truth?; is it fair to all concerned?; is it beneficial to all concerned?; and does it build better relationships?
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An Overview

In response to the first question, I had asked for two opinion letters to consensually validate the truth and determined that the truth/facts did or did not support the current method for calculating voting control and association dues. The disclosure, in spite of conflicting relationships, brought transparency and fairness to all concerned in spite of potential litigation to both the association and my property management firm. The information and recalculation of dues and control were both answered fairly and truthfully and should better serve all 1040 members of this association in the long run. This will likely make for better relationships over time as the newly re-apportioned control of the master association, not only better represents all the owners within it, but also gives better financial control moving forward after the association dues are adjusted over the next eighteen months.

Is it perfect? No, I do not think so. Ethics are not always clear in the present moment. However, striving for the right answer and allowing others to share in the process hopefully brings fairness to all in the long run! I remain confident that all of this will work itself out in a reasonable manner over time.

 

-by John T. Kalas, President, CACM

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