In 2016, the California Court of Appeal case Palm Springs Villas II Homeowners Association, Inc. v. Parth led to a crucial new ruling on Business Judgment rule. Business Judgment rule, as stated by USLegal, is a legal principle that absolves corporate agents from liability cases for loss incurred in corporate transactions when there is evidence to prove that their decisions and transactions were made in “good faith”. Business Judgment rule has, in the past, served as an affirmative defense for corporations’ Boards of Directors against liability claims, as it, as stated in the published record of the court case, “sets up a presumption that directors’ decisions are made in good faith and are based upon sound and informed business judgment.”
The case appealed against a previous court decision exonerating community association volunteer director Erna Parth from claims that she did not adequately investigate and solve a series of issues with roofing and contract renewals for her association. The Court concluded that regardless of whether Parth acted in good faith, there were triable issues of fact as to whether she had acted with “reasonable diligence”, and concluded that “an absence of diligence may reflect a lack of good faith.”
To put it succinctly, the court decision mandates that Business Judgment rule now may only protect board members and directors if they are able to provide evidence of a diligent and thorough investigation before taking (or not taking) action. Previously, board members and directors could use ignorance or lack of means as a sufficient defense; for example, they could say that they could not afford proper coverage and nothing more, and could likely be acquitted. Under the new court ruling, board members now have to show that they have researched the subject and their options before declining. While it is good to hold board members accountable and encourage proper coverage, there are some negative implications that come with this ruling.
As we stated in a piece from November on earthquake insurance, while some HOA board members in California may wish to reduce costs by not purchasing certain types of coverage, this could lead to liability issues in the future as suppressing dues at the expense of community members’ safety is not an action that can be considered “in good faith”. HOA board members and directors who lack coverage will likely not be able to use Business Judgment rule as a defense today. As the new court ruling mandates that association members must diligently investigate all issues, it is crucial that you know the coverage that you have or do not have. If you find that you do not have enough coverage, the “good faith” action would be to ensure that you are adequately covered on all counts. Rather than dismissing earthquake or other types of insurance as too expensive or as having too large a deductible, we recommend bringing it up to owners for a vote to see how they feel about the coverage. Finally, as we have previously mentioned, do not necessarily take the agent’s proposal at face value. Look into coverage limits (e.g Building Ordinance Demolition and Code Upgrade), hold your agent accountable, and don’t be afraid to ask about better coverage or for your agent to be more involved with your claims.
About Scott Litman
Scott Litman Insurance Agency, Inc. has provided the highest level of coverage at the lowest possible price for over twenty years. We provide insurance advice and education to property management companies, HOAs, landlords, and boards of directors in areas including commercial earthquake, property, home, auto, life, HOAs, General Liability, Director and Officer Liability, and many more. We were honored as “LA Magazine’s Best Insurance Agency” in 2013, 2014, and 2015, and are committed to working closely with each client to secure the perfect amount of coverage. To hear more about how we can assist you and your insurance needs, give us a call at (855) 999-4505 to speak with one of our professionals, or fill out our online form.