Q&A: Titleholders can get restitution after suffering losses from bad management

Question: Our management company unilaterally chose and assigned one of their employees to manage our homeowner association’s property. As president, my worst fears were realized when I discovered that the manager was hiring his friends as vendors and contractors without the board’s approval. Those vendors charged exorbitant prices and performed unnecessary work, or they re-did or replaced work on items that were recently completed by approved licensed vendors.

In order to pay his friends, the manager stopped paying our association’s routine invoices, such as utility and phone bills, security, trash pickup, plumbing and laundry. Our phone and fax lines were shut off for nonpayment and several association accounts were sent to collection agencies.

How can our association be reimbursed from the manager we since terminated, or from the management company who hired him and placed him on our account?

Answer: Your worst fears were realized because you handed over too much control to a manager without questioning his actions and demanding accountability. The board’s supervision of association vendors, including management, is a hands-on job. Hiring a third party to perform services never relieves the board of its duty of oversight, even when dealing with reliable vendors and contractors.

There are three primary ways that the association can seek reimbursement: have the titleholders make a demand on the board for restitution; tender the matter to the association’s insurer; or make a demand on the management company.

Because the board had a duty to oversee the manager’s actions, owners might look first to the board to recover the association’s losses. Each director owes a duty of care to the association, and a breach of that duty — such as allowing a third party to damage the association — may give rise to a claim against the board. Such a demand could be covered by the board members’ directors and officers liability policy, which typically covers costs associated with negligent acts by the board.

An alternative would be for the association to file a claim with the underwriter of the association’s umbrella policy. If there is no insurance coverage for these types of losses, then you and the rest of the directors should consider pursuing the management company.

If your association has a written contractual agreement with the company, then it is time to have an attorney review that agreement. Two of the most important provisions to look for are the specific duties required of your manager with regard to paying bills and hiring vendors, and any wording that deals with “disputes.”

For example, some management contracts specifically require a manager to obtain board approval before hiring any vendors. Some contracts also require that any disputes between a manager and the association be submitted to mediation, or that disputes be resolved in binding arbitration rather than in civil litigation. The next thing you or an attorney may want to delve into further, is if the management company was negligent in their own hiring practices of this manager.

Depending on the wording of your management contract, the association may have claims for breach of contract allowing you to recover damages or even rescind the entire agreement. In addition to assessing your possible claims, an attorney can educate the board on the types of recovery available and the likelihood of success in the pursuit of reimbursement. Some contracts even provide for the recovery of attorney’s fees for the prevailing party in the event of litigation.

Because situations like this can have an alarming effect on owners, once a decision is made, it should be shared with the owners so they understand that the board made a thorough cost-benefit analysis of the available options.

Without excuse, every board has an active duty to supervise its vendors and employees — and that doesn’t just mean directors popping their heads in the door and saying hello, asking if everything is OK and leaving.

Just because the management company chose this employee to manage your association does not mean the board should have blindly trusted that employee, or even agree with the company’s selection of manager.

Zachary Levine, a partner at Wolk & Levine, a business and intellectual property law firm, co-wrote this column. Vanitzian is an arbitrator and mediator. Send questions to Donie Vanitzian, JD, P.O. Box 10490, Marina del Rey, CA 90295 or noexit@mindspring.com.