Typically DIRT strives for day to day variety in topics. The editor apologizes for having three in quick succession on the same topic - but we have here a current unresolved issue that is bedeviling many communities around the nation, and it is useful to ponder the many imponderables that are coming up. The original discussion was submitted by Ira Meislick in New Jersey, but the editor has extensively edited the text and added the comments, so don't blame Ira.

Daily Development for January 14, 2002

By: Patrick A. Randolph, Jr.
Elmer F. Pierson Professor of Law
UMKC School of Law
Of Counsel: Blackwell Sanders Peper Martin
Kansas City, Missouri
prandolph@cctr.umkc.edu

ASSOCIATIONS; EXPENDITURES: Easement holders within a homeowners association who pay assessments to a quasi-related recreational entity are entitled to have those funds segregated from the entity's other funds and are entitled to vote on how those particular funds are used..

Novack v. Upper Greenwood Lake Property Owners Association, Inc., C-36-98 (N.J. Super. Ch. Div. 2001), July 19, 2001 (Unpublished)

This case dealt with a series of disputes over the governance of a lake community. Property owners on or near a lake had easement rights to use the lake for bathing, boating, and fishing. An association owned the property over which the property owners held the easement, consisting of the land under the lake and a strip of land around the water's edge. Unlike many other lake communities, these property owners had no provisions in their deeds giving them a right of membership in the Association. Instead, the independently-created association bought the lake from the developer "and then through legal action successfully sought contributions from the easement holders to maintain it." As a consequence, the easement holders became obligated to pay fees to an association over which they had no control.

Many similar lake communities had generated considerable litigation, but there is no legislation governing such relationships and there are few reported decisions governing the resulted disputes. In earlier cases, where property owners argued "taxation without representation," courts issued orders providing that easement holders had the right to approve each year's proposed easement budget at an annual public meeting. Here, the easement holders asked the Court "to take what they [asserted were] the next logical steps to make the easement budget process as fair as possible." They sought to have "actual control of the easement and the budget-creation process turned over to a committee which would be part of an association but which would be selected by the easement holders."

In the alternative, they asked the Court to order "that an entirely new organization be created solely to maintain the easement and collect fees for that purpose." In support of those claims, the easement holders accused the existing Association of "violating its fiduciary duties to the easement holders in a number of respects, including alleged commingling of easement funds with other Association funds, and appropriation of easement property for the exclusive use of the Association or its members." Specifically, the easement holders claimed that the Association had "improperly required [them] to join the Association (entailing payment of a membership fee in addition to the easement fee) in order to use the Lake's only improved beach or to use a dock." Other similar charges were made.

In response, the Association contended that the easement holders were confusing their easement rights with ownership. The Association argued that the fact that the easement holders had the right to use the lake for bathing, boating, and fishing did not mean that the Association could not use the lake property, which it owned, for other purposes not inconsistent with the easement rights. It argued that the existence of a clubhouse, the beach, and other amenities did not interfere in any significant way with the right of the easement holders to bathe, boat or fish in the lake. Further, the Association contended (and there was no dispute) "that any easement holder [could] become an association member for an additional fee and thereby [have] the right to use the improved beach and the docks." Further, there were at least 25 unimproved access points around the lake which could be used for swimming, fishing or boating.

The original developer's scheme was that the development would become a municipal corporation and that the Association would then convey the lake, the area around the lake, the amenities, and the roadways to a municipal corporation and the municipality would take over the Association's responsibility for maintaining the property for the benefit of the residents and lot owners. Also, there was no dispute that, from the beginning of the development, there was a "members only" beach operated in the same way that the clubhouse became available only to association members. In short, the situation that existed at the outset of the development, remained unchanged to the present date. Consequently, the Court found that access to the property managed by the Association, including the clubhouse and beaches, was intended to be one of the amenities of property ownership and was one of the inducements for prospective purchasers to buy lots. However, the Court also found that it was the intent of the Association to provide two classes of privileges. The basic privileges included the easement of fish, boat and swim in the lake and the right to join the Association. "Association membership carried with it the further privilege of using the beach and the clubhouse." Thus, according to the Court, lot owners had a choice.

Until about fifteen years earlier, the Association had carried the entire financial burden of maintaining the lake. Then, the Association imposed an easement fee and later obtained a court ruling that the easement holders were required to make financial contributions to the Association. The Association created a separate easement fund for that purpose and created an easement budget every year. The Association had two budgets. The first was a basic budget, which the Association deems to be the absolute minimum needed to maintain the easement. The second contained proposed enhancements to the basic budget. If the easement owners disapproved the second budget, the Association implemented the minimum budget without further voting. The resulting annual assessments were characterized by the Court as "relatively modest." The easement owners did not object to the reasonableness of any budget item, but objected to the manner by which the budgets were proposed and adopted. The Association created an informal voluntary easement committee whose membership was open to all easement owners regardless of Association membership. This, however, was a self-selected group and membership did not appear to be genuinely open to all who were interested.

The Court stated that there was "no dispute in this case" that the community was a common interest community. It relied on Restatement (Third) of Property (Servitudes) for the proposition that developments with "social and recreational facilities built on land that is conveyed in fee simple to the owners' association" constitute common interest communities. Under case law, and in accordance with the Restatement, "[t]he duties of a common interest to its members include the obligation(s) to (a) use ordinary care and prudence in managing the community's property and finances; (b) to treat members fairly; (c) to act reasonably in the exercise of its powers; and (d) to provide members reasonable access to information about the Association, the common property and the financial affairs of the Association."

Based upon the facts before the Court, it found that the Association was not mishandling the assessment funds. It did, however, find that the system of accepting a single check for easement fees and membership fees and then taking as long as a month to divide those funds into separate accounts, even absent any intent to misuse the funds, constituted improper commingling. Therefore, the Court ordered that the Association collect dues by separate checks and directly deposit those checks into separate accounts. Further, the Court approved use of the easement property for the clubhouse and beach "because those uses [were] clearly consistent with the Indenture."

Nonetheless, "since a majority of the easement holders [did] not belong to the Association, [there was] a need to ensure that the Association [gave] sufficient consideration to the interest of all easement holders in making future decisions on setting aside easement property for use by the Association." Therefore, the Court ruled that no additional easement property could be set aside "for the exclusive use of Association members without the approval of a majority of the non-member easement holders." Further, "because there might be an interest among the non-member easement holders in having additional improvements to the easement which [would] be open to all easement holders, (e.g., an additional improved beach, additional boat launches, etc.), the Association [was] required to consult with the easement holders concerning those issues."

Lastly, as to the budget process, the Court required that the Association incorporate into its by-laws a detailed description of how the budget will be voted on at its annual meeting. "At a minimum, the process must allow the easement holders to vote separately, yes or no, on any proposed increased expenditure for any line item, and on any expenditures for new items not previously appearing in the budget." Further, if any choices would result in substantial increases to the assessment, those choices would have to be presented to the easement holders who would be allowed to vote on the available options. As to the Association using the easement fund to pay for counsel fees for this particular litigation and various other law suits, the Court held that only those legal fees used to support the easement or to carry out the Association's responsibilities with respect to the easement could be in the budget. Disputes about payment of such fees could then be decided by a court.

Comment 1: Not every dispute is best resolved through judicial intervention. Undoubtedly the court concluded that these parties were already enmeshed in an elaborate interdependent relationship from which none could easily escape, bound up with conflicting expectations and objectives. Therefore, it concluded that it was the sole guardian of the light that could lead these residents to peace and harmony. The editor suspects that the court was wrong.

Had the court not attempted to craft a global resolution of these issues, the parties likely would have negotiated to some rough compromise that reflected the true political balance in the contending groups. This would have been far better for the individual community involved and the greater community as well.

The only method of leading these residents to a peaceful, harmonious resolution of their disputes is a bargained out Declaration that includes all the kinds of things that an organic institutional document ought to include: voting rights, amendment rights, representative government, budgetary control, etc.,.etc. If the editor were a resident of New Jersey, he would resent paying taxes so that a court can take up courtroom time baby sitting these people, who, after, all bought into this community voluntarily. Are criminals walking the streets while these judges work out the intricacies of the contractual relationship among these parties?

The thing that makes this dispute different from ordinary contract disputes is the fact that the solution to the problem is not a "one shot" infusion of declared results. The issues here are complex and long term and thus, in the editor's view, beyond the appropriate scope of judicial oversight.

Note, as an example, the court's conclusion that no future property within the easement can be set aside for the exclusive use of association members without the approval of a majority of the non-member easement holders. What happened to the property rights of those non- member easement holders who object to a further contraction of their easement rights? Did they ever agree that their rights could be reduced by a majority vote? Even in a statutory condominium regime, common elements normally cannot be converted into limited common elements except by a unanimous vote, except when the Declaration specifically provides otherwise. Here, of course, the court made up the Declaration, so one supposes it felt it could throw in there whatever it thought was just.

You can bet that if and when the Association does seek further exclusive rights within the easement, everyone will be back to court. Of course, since they'll have been there on a frequent basis arguing about allocation of budgetary monies and control, the court will be abundantly familiar with this group. And apparently it's only one of many.

Traditionally, courts have not granted specific performance of complex contractual duties that require extensive oversight (except in matters of extraordinary public moment - such as schools and prisons). In essence, that's what the court is doing here - making up rules right and left to "fill in the blanks" that resulted from this botched up attempt to create a lake community. From the reporter's comments, it sounds like New Jersey courts have been engaged regularly in this sort of conduct. Figures.

Comment 2: It is true that owner's associations represent a new challenge to the courts, and that a special group of rules likely ought to be established for their governance. But if courts elect to get into the business of setting these rules, they "bail out" the legislature from addressing them in a more proper manner. The public policies at stake here are not such that they ought to vary depending upon the quality of the evidence and the perspicacity of the judge. A true sense of just treatment will arise when there are, to the greatest extent possible, uniform standards and clear expectations. Judges can nibble at the edges to make these things work better - but we can't afford to put them into the business of serving as philosopher kings and queens for every unhappy association.

Readers are urged to respond, comment, and argue with the daily development or the editor's comments about it.

Items in the Daily Development section generally are extracted from the Quarterly Report on Developments in Real Estate Law, published by the ABA Section on Real Property, Probate & Trust Law. Subscriptions to the Quarterly Report are available to Section members only. The cost is nominal. For the last six years, these Reports have been collated, updated, indexed and bound into an Annual Survey of Developments in Real Estate Law, volumes 1‑6, published by the ABA Press. The Annual Survey volumes are available for sale to the public. For the Report or the Survey, contact Maria Tabor at the ABA. (312) 988 5590 or mtabor@staff.abanet.org

Items reported here and in the ABA publications are for general information purposes only and should not be relied upon in the course of representation or in the forming of decisions in legal matters. The same is true of all commentary provided by contributors to the DIRT list. Accuracy of data and opinions expressed are the sole responsibility of the DIRT editor and are in no sense the publication of the ABA.

Parties posting messages to DIRT are posting to a source that is readily accessible by members of the general public, and should take that fact into account in evaluating confidentiality issues.

ABOUT DIRT:

DIRT is an Internet discussion group for serious real estate professionals. Message volume varies, but commonly runs 5 ‑ 10 messages per workday.

Daily Developments are posted every workday.

To subscribe to Dirt, send an e-mail to:

To:	ListServ@listserv.umkc.edu
Subject:	[Does not matter]
Text in body of message	Subscribe Dirt [your name]

To cancel your subscription to Dirt, send an e-mail to:

To:	ListServ@listserv.umkc.edu
Subject:	[Does not matter]
Text in body of message	Signoff Dirt

For information on other commands, send the message Help to the listserv address.

DIRT has an alternate, more extensive coverage that includes not only commercial and general real estate matters but also focuses specifically upon residential real estate matters. Because real estate brokers generally find this service more valuable, it is named "Brokerdirt." But residential specialist attorneys, title insurers, lenders and others interested in the residential market will want to subscribe to this alternative list. If you subscribe to Brokerdirt, it is not necessary also to subscribe to DIRT, as Brokerdirt carries all DIRT traffic in addition to the residential discussions.

To subscribe to Brokerdirt, send an e-mail to:

To:	ListServ@listserv.umkc.edu
Subject:	[Does not matter]
Text in body of message	Subscribe Brokerdirt [your name]

To cancel your subscription to Brokerdirt, send an e-mail to:

To:	ListServ@listserv.umkc.edu
Subject:	[Does not matter]
Text in body of message	Signoff Brokerdirt

DIRT is a service of the American Bar Association Section on Real Property, Probate & Trust Law and the University of Missouri, Kansas City, School of Law. Daily Developments are copyrighted by Patrick A. Randolph, Jr., Professor of Law, UMKC School of Law, but Professor Randolph grants permission for copying or distribution of Daily Developments for educational purposes, including professional continuing education, provided that no charge is imposed for such distribution and that appropriate credit is given to Professor Randolph, DIRT, and its sponsors.

DIRT has a WebPage at: http://www.umkc.edu/dirt/