Friday, March 12, 2010

Bankruptcy Won't Work!

Bankruptcy Won't Work!
Tyler Berding and Sandra Bonato explain why members get no protection when the association goes under.


Don Nordeen said...

I have suspected that bankruptcy does not provide relief. This paper explains why.

The owners are in the position of "Pay me now, or pay me later."

The lesson is to elect a board that can step up to the difficult problems of good planning and budgeting for the long term for both operations and the Replacement (I like the term Preservation) Fund.

However, I believe there are serious questions as to whether or not a volunteer board will consistently have that capability — a fundamental flaw in the common ownership concept.

Anonymous said...

That is why homeowners "must be willing to surrender their ownership interests and be renters."

The flaw is not with the concept of HOAs and corporate governance. The HOA property managers and attorneys are doing just fine, thank you very much. The problem is that homeowners have any say at all. They shouldn't even be allowed to own their own homes. See my modest proposal for private property reform here (slightly more polished version here; I'm still working on the idea).

On a serious note, Berding and Bontano's observation about the difference between most corporations and HOA corporations is something that home buyers probably don't have a clue about (emphasis added):

But bankruptcies don’t typically occur with community associations for a big legal reason ― owners are essentially liable for the association’s debts. “What?” you say. Community associations are corporations, and aren’t shareholders protected from corporate obligations? Isn’t that the whole point of a corporation?

Yes, most community associations are corporations ― non profit mutual benefit corporations. But there is a major difference between a community association and the typical business corporation. With a typical corporation the investors’ (shareholders’) liability is limited to the amount of their individual investment. Community associations usually have something more ―lien rights to an individual owner’s separate interest, either a lot or a unit, and the personal obligation of an individual owner for his or her share of assessments.

Far from protecting an individual's property, the existence of the HOA corporation endangers it.

If Corporation X goes bankrupt, or is fined, my only risk is the amount of my shares. Corporation X protects my personal assets from liability.

If HOA Corporation goes bankrupt, or is fined, my risk is my most valuable personal asset. HOA corporation does not protect my home from the corporation's liability.

As another commenter on this site used to say, "HOAs are a defective product."

Fred Pilot said...

The distinction Berding and Bonato draw between a stock corporation and its limitations on shareholder liability and an HOA mutual benefit nonprofit corporation is a critical. It also reinforces how HOAs are like local governments. Local governments alsso cannot as a pratical matter get relief in bankruptcy since they continue to have ongoing public service and employee pension obligations that can't be discharged via a BK filing. In both cases, the taxpayers/property owners must either come up with the funds or go without needed services.

A reader said...

Of course, this is lovely for the HOA industry and the lawyers in particular.

My HOA board can mismanage funds, put up a fight when I try to look at association documents, spend the reserves while hiding it in an "audit" and then come after me for MY equity.

"Far from protecting an individual's property, the existence of the HOA corporation endangers it. "

Absolutely right. The homeowner is screwed again, as always.