Protecting Your Building from Fraud An Inconvenient Truth

Most individuals have a healthy sense of ethics, choosing to run their personal lives and business affairs aboveboard. Unfortunately, a few bad apples are inevitable.

Co-op and condo board members and managers are in positions of authority and regularly handle hefty amounts of money, often without much supervision or oversight. When the "bad apple" happens to be a board member or manager and perpetrates fraudulent use of monies or chooses to abuse relationships and/or resources, the effects on a co-op or condo can be devastating.

Types of Fraud in the News

Aaron Shmulewitz, a partner at the Manhattan-based law firm of Belkin Burden Wenig & Goldman, has specialized in representing the interests of co-op and condo boards for over twenty-five years and says that he's seen his share of sneaks. "Unfortunately, the structure of co-ops and condominiums—ownership by one group of people, management by a second and day-to-day operations by a third - makes co-ops and condos ripe for being taken advantage of by unscrupulous managers and employees," Shmulewitz says.

History tells us that those who engage in fraudulent activities are awfully good at hiding what they do—all too often, their crimes go unnoticed for years. That said, there are some places that fraud is likely to grow like a weed. "The most common form of fraud in co-ops and condos is building staff taking advantage of their positions by doing things like over-ordering building supplies and keeping or selling the excess, [or] working at another building during regular hours so as to be paid twice," Shmulewitz says.

Many who engaged in these types of fraudulent activities in the mid-1990s suddenly found themselves the center of attention in 1994. In June of that year, the Manhattan district attorney announced that a whopping 86 managing agents, companies and even a co-op board president had been indicted on charges of taking millions of dollars in payoffs from contractors and suppliers. Those who investigated found fake receipts, fake contracts and "lost" records—they didn't come up with much of the money that was lost, however.

Eric Goidel, a partner at the Manhattan-based law firm of Borah Goldstein Altschuler Nahins & Goidel, who has also specialized in co-op and condominium representation for nearly twenty-five years, remembers that when the smoke cleared, "About a dozen or so individual agents and companies were nabbed. A few principals of higher profile companies actually went to jail. Others essentially got their hands slapped, and many of those were even able to continue in the industry."

Goidel says that the crackdown scared a lot of people straight and led to industry-wide reform among managing companies and their agents and employees. He warns, however, that reforms some 10 years ago don't make it impossible for something similar to happen again. "The publicity eventually died down, and it is likely that with a slight hiatus to 'look over their shoulder' some of those individuals disposed to such conduct a decade ago may still continue such conduct today."

Stopping Fraud Before it Starts

The very nature of fraud means that it is cloaked in secrecy and largely hidden from sight —if it were easy to spot, it wouldn't be such a big problem.

Of course, the best way to spot fraud is to see to it that it never starts. "It is far easier to create financial systems and controls which can reduce the opportunity in the first place," says Goidel. "While there is no one common form of fraud in cooperatives or condominiums, the area where there is often the greatest risk is that of major construction contracts, where the contract sum can be enormous, and thus the ability to build in and hide fraud can be the greatest."

Sam Irlander, president of Manhattan-based management firm Parker Madison Partners Inc. and associate professor at New York University, agrees, and stresses the importance of an active, fully-engaged board, particularly when it comes to the bidding process.

"Everything should be on a sealed-bid basis and should always go directly to the board," says Irlander. "That way, no one should know what the bids are until they open them up." Irlander goes on to say that one way to decrease the chances of fraud is to remember that choosing a contractor should always be a board decision, and not left purely up to the managing agent or management company.

Goidel outlines a few possible controls for boards interested in safeguarding against this common form of fraud:

• Obtain multiple bids and unit pricing for all major contracts and services, as that will establish possible aberrations from contractor to contractor.

• Opening bids before either the entire board or a committee will reduce the opportunity for one individual to have had an independent contact with a contractor or vendor.

• Periodically check pricing, even for non-major contracts and services, as comfort in believing that one is the "preferred" contractor often breeds the opportunity for fraud.

• Require multiple signatories on expenditures over a certain dollar limit, and always require multiple signatures when tapping into either a reserve account or bank credit line.

• Make certain that your management company internally separates the employee responsibility for receivables and payables.

• Obtain monthly financial reports and bank statements, and compare them with the prior months' reports/statements.

Irlander says that a board can require two signatures on all checks, or can "choose to set a maximum check amount that the agent can sign on [his or her] own, then require two signatures on all checks exceeding that amount." Although signing each check may seem inconvenient in practice, it's one very effective way to ensure that the manager's expenditures on behalf of the building are accounted for.

Another level of transparency can be added by having your building's attorney look over financial documents and other money-related items periodically. If keeping a lawyer around full-time is a little daunting to you or your building's budget, relax. Not every invoice for winter rock salt or garden mulch needs to be checked by an attorney.

"It would not be practical or cost-effective for a building to get its attorney involved in negotiating or arranging garden-variety transactions like the purchase of supplies, fuel oil or the like," says Shmulewitz. "Attorneys normally get involved only in the negotiation and preparation of written agreements for extraordinary things like large repair projects." When those do come up, the eyes and ears of an attorney can help keep every part of the deal aboveboard.

Hot On the Trail

If such safeguards have been taken and questionable activity is still suspected, Shmulewitz says that's when a professional should be contacted to take the next step.

"If a board member or manager suspects his/her building is being ripped off, he/she should report it to the building's auditor and attorney. Frequently, the auditor will perform some sort of in-depth review to determine if the suspicions have any foundation.The attorney would get involved as soon as the board believes it has enough evidence to proceed."

Each situation is unique; much of the process of ferreting out the bad guys—and bringing them to justice—happens on a case-by-case basis. "The manner in which an investigation will have to be conducted is dependent upon who is suspected of fraud, as well as [the person] who is making the allegation," says Goidel."Upon the results of the investigation (and, if fraud is confirmed, its magnitude) a decision will then have to be made whether to deal with it internally, or whether to go to the authorities."

Making that call comes down to the reason the building was probably defrauded in the first place—money. If you've found proof of fraud, you've got a case. But how far will you have to go with it? Will it be worth the time and energy to pursue justice? These are the kinds of questions boards, owners and lawyers ask when deciding how to proceed.

Truth & Consequences

According to Shmulewitz, defrauding a co-op or condo is usually not a federal offense."It is usually prosecuted in state court as larceny or fraud," he says. "Theoretically, a federal charge could be brought if the fraud involved the use of interstate commerce, like telephone calls or mail.However, from a practical perspective, the amounts involved are usually much too small for a federal prosecutor to be interested in pursuing."

"The bottom line for a cooperative or condominium is to surround itself with an honest and experienced managing agent, accountant, attorney, engineer and board/committee members whose fellow shareholder or unit owners believe are beyond reproach. While internal controls are essential, at the end of the day, your co-op or condo is only as financially secure as its leaders and professionals are honest."

Mary Fons is a freelance writer and a frequent contributor to The Cooperator.

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10 Comments

  • Michael & Jenny DuBasso on Tuesday, November 20, 2007 12:48 PM
    I call my case "Horror on East 69th Street- Never buy a CO OP" There are four owners each with one vote; One owner, the President of the board and the other the secretary decided to carve up ALL the common area of our small Landmark Brownstone building. One owner, the President took over 800 square feet ($1,200,000) and with a false set of building plans created a luxury lower floor apartment while taking away the fire emergency exit (basement) removing the laundry room and placing the new one at my front door (hopeing I would leave).I had just completed a renovation of my apartment and shortly after with no warning from the so called board anything had been done, (I was away six months), my contractor who dropped by to inspect my apartment called me with the above news plus the baring walls had been removed under my apartment partially collapsing it, breaking out parts of tile, mouldings etcetera. When I contacted the secretary she ignored my protests and simply stated how nice everything was now. I then discovered the President had bought her a larger apartment in the building for her "BOARD APPROVAL" a net increase of about $400,000 for her!! THen I started calling EVERYONE, the Department of Building & Safety, Buildings Enforcement, Attorney General (they could not be bothered) and lastly the District attorney who sent out an assistant who informed me they were not interested. All thatwas left was expensive litigation with my defenedents hiding behind the CO OP rules, Board members can carve up the common area. Of course they lied in deposition saying I had "verbally" given permission to have all the wonderful things above done; can anyone help? There appears there is no relief for the little guy.
  • Co-op manager and president of the board not getting back to share holder that has questions on updating apt
  • the president has no maint reciepts fofr 7 yrs and has an apt that was listed as vacant filled with her stuff for storage and her daughter is also in an apt with few reciepts of payment and the treasures has only 2 yrs the tax and waters bills are very behind and the building bills due to there mis management of funds are way over 300 thousand what can be done we really need help or who this can be reported to its a co op an its hdfc thank you
  • We believe out management is being taking money for years. How can I find a lawyer that can help us COOP owners Does any one knows a good lawyer that will be on the owners side and not the management?
  • Question: should all units of same size be charged same basic maintenance? For instance, if I'm in a 1-bedroom for 20 years, should someone who moved into a 1-bedroom (same line even) a few years ago be paying less for his basics? I'm on 5th floor; he's on first.
  • Concerned shareholder on Friday, December 25, 2009 1:25 PM
    I have recently joined my coop’s board of directors and came across a filing for building’s management company where one of the existing board members also served as the CEO of our existing management co. Is this a conflict of interests and a red flag I should further look into? Any input would be appreciated.
  • Disgruntled homeowner on Tuesday, June 8, 2010 12:00 AM
    I live in Forest Hills and found out that a member of the coop board has been issues a check for an outrageous amount. That is a complete breach of fiduciary duty. Not to mention over $100k from our operating account issued to a private account. Again when the current board was questioned, no answer.
  • For years in my coop we suspected the director taking money. It is very difficult to prove anything. We are in the middle of suing her since she does not show financial statements to other board members and she is vere unfriendly and aggressive--the shareholders are in fear of her. She rules like a dictator. We had a nice reserve fund when she was elected, now three years later we are 12 million dollars in the minus.
  • When I moved into my little co op community several years ago I received a print out for a luncheon at the club house. When I asked the neighbors who was going, they told me they don't go and that the vice pres. of the board makes people very uncomfortable about going. I later learned that no one shows up and watched him pack up the food into his car. Is he stealing food? Omg, I couldn't believe it!!! Where there is smoke there is fire! Here the board is a handful of the same people for years and years, it seems that they maintain control by way of harassment, bad so no one dare have a shareholder meeting. They live in fear of this board. Ive been living in a Lakeview Terrace (movie) except its worse! Fidicuary duty, why bother with that when we can do this? Cant blame them, blame Congress and the lack of laws. Ive been a strong advocate for the Condominium Cooperative Ombudsman sitting stale in the Senate. For those Rogue boards such as mine, That law needs endorsements, it needs your voice!!!! Co-op and condo owners may finally get legal reprisal, a way to level the playing field so “bossy boards” who “rule” instead of manage will have to justify their decisions to a higher power: The Office of the Co-op/Condo Ombudsman. That’s if bill AB00034 in the State Assembly passes to law!!!
  • The management at my coop has recently announced that they have to increased the monthly maintenance fees by a significant amount to pay for a loan they borrowed against the building. According to them, they had to do this because there were several shareholder who had not paid their maintenance fees for several months. My question is: Does this sound even remotely plausible? The management seems to assume that ALL the shareholders are apathetic to such things as "we owe significant sums of money; and therefore we must borrow a lot of money to pay it back...ergo were raising the maintenance fees". Who can we contact to look into this further? Should we as shareholders be seeking legal representation?