More Power to Condo Boards
Recent Decision May Set Precedent
Historically, co-op buildings have had the market cornered on board-mandated restrictions, strict bylaws, and procedural red tape, while condos have been more black-and-white: co-op shareholders own shares, and condo owners own real estate. Co-op residents wishing to sell their shares faced the greater possibility of board interference in the sale process than condo owners, whose boards typically exert only the right of first refusal when it comes to who buys into the building. If exclusivity and "building character" is a priority for you, a co-op is probably the way to go. If liquidity and minimal board involvement is what you're after, you're likely a condo customer.
Thanks to a recent court decision, however, that sharp dividing line between co-op and condo may not be quite so sharp--and condo owners may find themselves pondering new powers and the consequences of using them. In a surprise decision rendered on May 31, 2005, the Appellate Division, First Department (which covers both Manhattan and the Bronx) ruled unanimously in favor of a Manhattan condo's right to restrict how units within the building can be sold and leased.Demchick vs. 90 East End Avenue
The case in question involved a 43-unit condo building on Manhattan's Upper East Side. According to Attorney Scott Greenspun of the Manhattan law firm of Braverman & Associates, who represented the condo during the proceedings, "90 East End Avenue was a new construction condominium with 38 multi-bedroom units. Prices for the multi-bedroom units ranged from approximately $600,000 into the millions. In addition to those 38 residences, there were five studio apartments on the building's second floor. In the initial offering materials, the sponsor marketed the studios essentially as maid's rooms, and reserved the right to purchase those units for the people who were already purchasing the largest and most expensive apartments. Every person who bought a studio was also simultaneously buying a multi-bedroom unit. In our case, it was pursuant to one contract of sale--both units were in one contract. The studios became a very, very popular amenity."
Questions arose, however, because despite the developer's intention that the five studios be reserved specifically for unit owners, nowhere was that intention laid out as an official rule. There was no specific prohibition against a unit owner with a studio selling or renting out that studio to an outsider--an oversight that one unit owner brought to the board's attention when he wished to sell his studio unit, but keep his multi-bedroom unit.
With the demand for studio units far outstripping the building's modest supply, it was no problem finding another unit owner happy to purchase the seller's studio--the seller got rid of his studio, and the buyer gained a much sought-after amenity. But the unofficial nature of the "studios for residents only" rule prompted the board to present the unit owners with a proposal: to draft a new bylaw specifically stipulating that studio units be sold or leased only to current unit owners.
"The board had realized at that juncture that there was no prohibition against selling the studios independent of the multi-bedroom units," says Greenspun. "Up to that point, it was an issue that simply hadn't arisen."
Given the great demand for the studio units, the board's proposed amendment easily passed among unit owners by a super majority--but that wasn't the end of the story. One unit owner--noted real estate developer Jules Demchick, whose JD Carlisle Development Corporation's projects include the ultra-fashionable Morton Square in Greenwich Village and the Penmark luxury rental building in Midtown--objected to the board's move from the start on the grounds that it constituted an "unreasonable restraint of alienation."
In a nutshell, the concept of restraint of alienation holds that most--though not all--restrictions placed against the transfer or sale of real property are not valid, because they infringe on the fundamental right of an owner to sell, and because there are certain rules against what's called perpetuity. In other words, you can't generally sell someone a piece of property on the condition that, should that purchaser later decide to sell it, they could only sell it to members of a certain family, or of a certain political persuasion.
Putting such limitations on property is considered too restrictive, and such conditions are usually struck down in court--particularly in the case of condos, which are considered real estate and not under much authority from building boards when it comes to sales and leasing.
In the case of 90 East End Avenue, that's exactly what happened--at least at first. The lower court that heard the case found in favor of Demchick, and ruled that the restriction on sales and leasing of the building's studio apartments was not reasonable. On appeal, however, the tables turned, much to the surprise of many observers. The Appellate Division found that in the interest of preserving "building character," a super majority of condo unit owners could indeed vote to include more restrictive bylaws governing sales and leasing of units--and the appeals court overturned the trial court's earlier decision, reversing the ruling for Demchick.
As far as the owners at 90 East End Avenue are concerned, the ruling was a victory. For other condo owners in the city, however, the decision may have more far-reaching, if less case-specific, ramifications.
"Courts have recognized for a long time that condos are still a type of communal living," says Greenspun, "and that there are instances where individual unit owners must give up their individual preferences for the will of the majority--it's the nature of what you buy into. If you don't want to be subject to that, a condo or a cooperative is probably not for you. What Mr. Demchick argued--and what the trial court bought into--was that the offering materials [for 90 East End Avenue] were not a contract, and that there was nothing in the declaration or bylaws or contract of sale that precluded Mr. Demchick from leasing or selling independently. And we conceded that. The question before the court was whether it was reasonable to change that expectation based on the fact that this was going to be a certain type of community--one of exclusive residences."
"For example," Greenspun continues, "people buy into gated communities all the time, and they don't buy in with the expectation that their neighbors would ever start renting out their garages for people to live in. That's your prerogative as a buyer. Don't buy into that kind of building if you'd rather live somewhere more diverse."What It All Means
While the situation at 90 East End Avenue is unusual, if not unique, the Appellate Division's overturning of the trial court's original decision could have far-reaching implications for condo buildings. While some decisions in cases like these speak very specifically to the circumstance of one particular case, the court's decision in the Demchick matter was handed down in very broad language that could be viewed as a precedent with ramifications further down the line.
"The court's decision didn't contain any cautionary language that would indicate to the trial courts that the decision that they reached in this particular case shouldn't be extended very far just because we're dealing with a peculiar set of circumstances," says Greenspun. "It was a unanimous opinion in fairly broad language. The court indicated that preserving the character of the condominium is a reasonable justification for putting restraints on alienation. I think that this is the first case that I'm aware of where a New York court has upheld a restriction on sales in this fashion on a condominium."
Which could mean that condo owners and their elected boards of directors have one more tool to use when it comes to controlling how their buildings are run--and who gets in. Which is a good or bad thing, depending on your point of view, and how far your board and fellow unit owners decide to take the idea.
For his part, Greenspun says that the ruling, "at least opens the door and lets condo boards know that, when reasonable, it's permissible for them to put these restraints in place. The argument that boards are precluded from exercising any control other than the right of first refusal just because they're a condominium is not an argument that will hold any water."
"Also, I think this decision will really empower unit owners--not necessarily boards. A board can't just enact something; two-thirds of a condo's unit owners would have to agree that such a restriction [as the one at 90 East End Avenue] benefits them. This decision allows unit owners to make a decision as to what's best for their community. You have to remember that there may be a number of restrictions that could be upheld as a result of the Demchick decision--the question is, which restrictions do unit owners want to place on their investment? The more restrictive the environment, there's the possibility they could erode the value of that investment."Other Points to Ponder
Aside from the issues of unit owner empowerment, "building character," and what it means to live communally with hundreds of other people, there's another important point to take from cases like Demchick vs. 90 East End Avenue. Namely, that in order for a co-op or condo building to be a functional, thriving community--or a profitable, solvent corporation--its governing documents should be open for review, revision, and discussion. Circumstances change, building populations change, and the best, most workable governing documents allow for alterations and amendments such as the shareholders and unit owners see fit to make as time goes on.
"You have to have your eyes open to the fact that the declaration and the bylaws are going to provide for amendment," says Greenspun. "You can't buy into a building with the assumption that any rights that you may have had from the moment you decided to sign your contract are never going to be viciated--unless there's a provision that says there are rights which can't be taken away."
And now, more than one legal expert in the city suspects that post-Demchick, condo boards may use the decision to make a few changes around the house, as it were. Absentee unit owners renting out their apartments as investment properties, for example, may come under fire as a practice in some condo buildings. Use of commercial or retail space may also be more closely scrutinized--and unit owners may use the precedent set in this recent case to argue for or against any number of other issues brought before them and their boards.Hannah Fons is the Associate Editor of The Cooperator.