Why Community Associations Need Proper D&O Coverage

It’s called “sleep insurance” for a reason.

Directors and officers (D&O) liability insurance helps community association board members sleep well at night without worrying that their personal assets are at risk because of a decision or action — or inaction — they make on behalf of the association.

When board members join a community association board, they are volunteering their time and effort and taking on the responsibility of making decisions for the association. Board members are required to interpret and enforce the association’s governing documents. They have a fiduciary duty to make decisions as a reasonably prudent person and to make decisions they believe to be in the best interest of the association.

Even with their best efforts, these actions can lead to potential lawsuits alleging breach of contract, breach of fiduciary duty, employment or housing discrimination, slander or libel or a host of other potential claims. Lawsuits can seek monetary or nonmonetary relief. A good D&O policy will cover both.

Most states require associations to indemnify board members for decisions they make on behalf of associations. Indemnification is an agreement to provide financial reimbursement to an individual board member or association in case of a specific type of loss.

This means that, if they are sued, the insurance company will pay legal fees or assume the defense. Should they lose the court case, it will pay any judgment or settlement. Not only state laws, but most association governing documents also require board members to be indemnified.

The “insured” in a D&O policy is typically the community association as an entity and any subsidiary of the association. “Insured persons” are commonly defined as those who act in the capacity of past, present, duly elected or appointed officers, directors, trustees, employees, volunteers or committee members. Spouses of insured persons also are covered, which is not always known. Often the community manager is covered under the policy as well.

If a board member is accused of intentionally dishonest or fraudulent acts, a majority of D&O stand-alone policies will provide a defense for the insured persons. Coverage is terminated if it is proven that the allegation is true. A good stand-alone policy will continue coverage until a court or other body makes final judgment. Any theft loss is generally covered by a fidelity or “employee dishonesty” policy, which is separate from a D&O policy.

Common Claims

Community associations face a variety of claims these days. However, there are several types of claims commonly seen. Here are some examples that illustrate why this insurance is so important.

Foreclosure and bankruptcy. One of the fastest growing areas for claims is the wrongful foreclosure of individual units. This has caused a financial burden for many associations who are now being sued for breach of fiduciary duty for failure to maintain the property and mismanagement of funds. A current claim involves a bankruptcy alleging the board conspired with the property manager to defraud the association out of thousands of dollars.

Breach of fiduciary duty. When associations hold elections problems can arise. We have seen claims where losing candidates sue over the election process. In one claim, the candidate demanded a new election, alleging the election was conducted improperly.

Insured v. insured. Another claim seen quite often is “insured vs. insured.” A good example of this is when a unit owner sends a letter to the president of the board of directors demanding that the board use “all means available” to stop improper actions of a board member. The letter alleges they are using association funds to pay personal debts and other expenses not authorized by the association. The unit owner demands that the association recover the allegedly misappropriated funds as well as fees and costs. He files a lawsuit in the name of the association and for the benefit of its members. Sometimes even board members sue other board members.

Many D&O policies specifically exclude coverage of “insured v. insured” claims. Yet it is a potentially costly liability facing associations. A board member’s legal expenses won’t be covered if such claims are excluded.

Breach of contract. When boards terminate contracts with vendors they can be sued for breach of contract. If things go wrong and board members need to break a contract, they are left vulnerable to a lawsuit.

Employment discrimination. When associations decide to terminate employees, problems can arise. Even if you have just one employee, there is a potential for litigation. Wrongful termination, sexual harassment and discrimination are seen all of the time in the community association world.

One way for clients to avoid some of these pitfalls is to hire professionals who specialize in community associations. A professional manager can help ensure board members are making day-to-day decisions in a prudent manner.

Source: http://www.insurancejournal.com/magazines/mag-features/2011/04/04/192850.htm – April 4, 2011

About Kevin Davis
Davis is president of Kevin Davis Insurance Services in Los Angeles. .