A board of directors can often rely on “the business judgment” rule when faced with a homeowners’ lawsuit over a particularly unpopular board decision.  The business judgment rule limits judicial scrutiny of actions of association boards when they act in good faith, exercise honest judgment, act with the best interests of the association, and in an informed prudent manner.  Although generally regarded as a rule of liability (or non liability) for corporate directors, it has been used as a test to determine the validity of association board decisions. 

The business judgment rule serves to protect the types of decisions that boards must necessarily make in the course of fulfilling their governing duties.  For example, in the frequently cited case of Levandusky v. One Fifth Avenue Apartment Corp., the highest New York court refused to overturn a board’s refusal to permit internal architectural building modifications requested by an owner to relocate heating pipes.  An association rule prohibited the proposed plan, and the board decided not to approve it.  Before denying the proposed modification, however, the directors consulted a qualified engineer who confirmed that while the relocation was feasible and may not cause problems, any change in the old piping systems presented risks that should be avoided if possible.  Although the board could have approved the relocation, and perhaps required a deposit or an indemnity agreement, the court concluded that the board’s decision fell within its discretionary power. 
 
Another frequently cited case from California provides another example of the use of the business judgment rule in the association context.  Lamden v. La Jolla Shores Condominium Association, addressed a board’s decision to use spot treatment of termites rather than a global “tenting” approach that the member proposed.  The court determined that deference to the board was appropriate where the board’s exercise of discretion in selecting repair methodologies was “clearly” within the scope of its authority and the directors acted in good faith, upon reasonable investigation, and with regard to the best interest of the community.
 
The Colorado Court of Appeals has also held that an association can assert the business judgment rule as a defense to contract and fiduciary duty claims.  Specifically, the business judgment rule can be used to defend against a claim for failing to enforce covenants.  Colorado Homes, Ltd. v. Loerch-Wilson, the court noted that the substance of the business judgment rule requires a board to make decisions in good faith and to not be arbitrary.
 
What steps can an association board take to better ensure that a court will defer to the board’s decisions? 
 
1.  The board should be aware of requirements set forth in its governing documents and should comply with them.

2.  Directors should be informed.  Directors should ask questions of management, legal counsel, engineers or other experts before making decisions.  Directors should consider alternative courses of action.  When alternatives are proposed, the board should give appropriate consideration to the alternatives.  Decisions made in good faith are likely to be upheld; arbitrary decisions are not likely to survive challenge. 
 
3.  In many cases, directors do not have adequate training or expertise to make certain decisions.  Therefore it is appropriate to rely on the advice of experts.  Although directors are not required to accept the advice of experts, that advise should be carefully considered in making decisions.  If that advice is disregarded the board should document the reasons.
 
4.  Directors should take care to avoid conflicts of interest and act in good faith.  Even though conflicts of interest may be legal upon proper disclosure and approval, they are not generally advisable.  
 
5.  When making decisions that the board recognizes may result in litigation, the board should consider how board conduct will be viewed by objective observers.
 
6.  Properly document decisions and the basis for those decisions.  Proper documentation can enhance a board’s credibility and the potential success of a claim or defense. 

7.  The board should ensure that relevant due process requirements are met, including notice and timing requirements.  For example, if a response must be made to an architectural application within 30 days, that time deadline should be met.  Similarly, if the architechtural review committee can reject an architectural proposal based on consistency with community standards, the notice of disapproval should identify those standards and identify why the proposal does not meet those standards.