Normally, a co-op, condo, or HOA management team is well-equipped to handle a wide variety of day-to-day matters, like leaky roofs and faulty garbage disposals. There are other bigger issues—such as embezzlement and fraud—that require outside professionals well-versed in traversing these specific problems.

“Unless a board or managing agent has experienced the exact same situation before and it was resolved by them successfully, to the benefit of the cooperative or condominium, they should consult with someone—whether it is an attorney, accountant or engineer,” says Attorney Eric Goidel, a partner with the New York-based law firm of Borah, Goldstein, Altschuler, Nahins & Goidel, P.C.

“Clearly, anything that can give rise to any kind of litigation, any chance of criminal prosecution, any chance to file an insurance claim or anything deemed to be a breach of fiduciary duty by a board member or managing agent should immediately be brought to the attention of the appropriate parties,” said Goidel.

The BCL

According to New York’s Business Corporation Law (BCL) section 717, the directors of a corporation must perform their duties “in good faith and with that degree of care which an ordinary prudent person in a like position would use under similar circumstances.” In other words, board members have, as Goidel noted, a fiduciary duty to shareholders and unit owners. And while the instances of fraud and embezzlement might seem uncommon, one only has to follow a paper trail if financial problems are realized.

“When it comes to finances, many co-ops simply depend on the management companies and in most cases that is fine,” says Andrew Brucker, an attorney and partner with the New York-based law firm Schechter & Brucker, P.C. “We have a number of clients that have big sums in the reserve that hire third party experts to tell them where their money should be—but it’s often not necessary as nobody should be gambling or investing with this money.”

With over 200 clients, Brucker explains that he has experience with building managers who work for larger companies and create fraudulent schemes, including “hiring” phony contractors who invoice the board. These crooks are paid without working or even stepping foot on the property.

“No matter how you look at it, this is embezzlement. Boards have to be vigilant and look at every check that goes out,” says Brucker. “We actually had an embezzlement at one of our buildings. I took a look at the invoice and Google mapped the address. It turns out it was an empty lot in Brooklyn. With better board oversight, this could have been found earlier.”

In some cases, the fraudulent act might be on a smaller scale, explains Matthew Leeds, an attorney with the New York-based law firm of Ganfer & Shore, LLP. Take, for example, an officer who was having the deli that delivered sandwiches to board meetings also send food to the president’s apartment. A suspicious board member might raise this to other board members and insist on an investigation.

“Because regular corporate counsel to the board was presumably employed during that period of time, it would be feared that there might be some conflict, so it would be appropriate to hire special counsel to conduct an investigation,” says Leeds. “Also, the board could look to forensic accountants to determine what had happened. The facts could be reported to the insurance carrier (for the losses to the corporation) and to the District Attorney (for potential prosecution of criminal activity).”

Board Member Protocol

By accepting a position on a board, that member is volunteering their time and efforts for the betterment of the community. As such, if they suspect foul play they have a duty to investigate the suspected illegal behavior. If they ignore the issue or wait too long to act, serious consequences could be in store.

“Failure to do so can actually suggest culpability on the part of the directors, which his tantamount to abetting a wrongdoing,” says Leeds. “If the co-op or condominium suffers damage from the bad action, the board members can be personally responsible for any losses.”

Aside from being responsible for fraud-related losses, a negligent board member could further hobble operations when it comes to insurance. “If a board member does allow illegal activity to go unchecked, then the board’s directors and officers liability insurance might not protect the individual directors,” says Leeds. “And their own individual liability polices might not cover them, either.”

Goidel says managing agents can also adversely impact insurance rates or coverage if they are deemed negligent. This is especially important when looking at directors and officers liability insurance, a notice of occurrence policy.

“The carrier might have to provide legal defense and may, in certain situations, have to pay out on a claim,” says Goidel. “While there isn’t always fire where there is smoke, if you believe there is smoke and you ignore that smoke and it turns out to be a fire—that is criminal activity—and you haven’t given the carrier notice in a timely fashion, it could be grounds for the carrier to deny coverage.”

When asked if a board member could be found liable for ignoring signs of fraud or embezzlement, Brucker responded: “It would be pretty rare for a board member to be held liable, unless there was gross negligence, which is rare.”

Actionable Intel

For many board members, discovering questionable information—on purpose or by accident—is a slippery slope. If actionable intelligence is attained, the way in which the information is reported is critical. Often, board members are cautious about blowing the whistle on a fellow board member or managing agent for fear of personal repercussions.

“A board member or unit owner should seek to raise their concerns to the board, at a meeting or by some other communication. It would be inappropriate to engage in a campaign directly to the unit owners that could amount to libel or would involve direct conflict with decisions that had already lawfully made by the board,” said Leeds.

If the situation is more serious and could possibly involve criminal charges or prosecution, unit owners, shareholders and board members are advised to seek legal counsel before raising the situation to the board. This approach can eliminate the “he said, she said” scenario, giving way to structured discourse.

“Such counsel might help to craft a written presentation to the board of the issue. A copy of the presentation might also be sent to management and maybe also separately to counsel to the board,” says Leeds. “This would be for the record. The presentation would ask the board to investigate the matter. The board might then hire special counsel and maybe also special forensic accountants to try to determine if there was wrongdoing, and then would evaluate and follow the direction of the findings of the independent counsel.”

In the majority of cases, the approach for suspected fraudulent behavior is the same whether in a cooperative or a condominium. And Leeds adds that in the aforementioned case, it’s possible that an insurance policy will cover such an effort. “If the board refused to act, then the director might sue in a so-called derivative action, which is an action brought by the plaintiff in the name of the corporation.”

In Brucker’s experience, board members, especially those new to the field, should implicitly trust the board president or those with tenure…and that goes for managing agents, too. To this end, he liked the suggested approach to safety that inspired the slogan visible on New York City subways: “If you see something, say something.”

“It’s the same with a board member: if you see something suspicious; you shouldn’t sit by and not question it” Brucker says. “And if you don’t want to do that, you should get off the board. Board members are there to protect the shareholders and the property, and not worry so much about personalities.”

He said, for example, that if a board member or unit owner were to discover that the board president wasn’t paying his or her maintenance fees, this information should be properly presented to the co-op’s or condominium’s legal counsel to take appropriate action.

“If, somehow, it is discovered that the manager and the president are in cahoots, I will hold a meeting with the entire board, we will discuss it and see how we can cure the problem,” said Brucker. “I have called meetings, and not told the board what the reason for the meeting is, because I don’t want to give anyone a heads up.”

    In the final analysis, Brucker says that most problems can be avoided, or quickly mediated, when a board has a solid team in place. “I can’t stress this enough. The team has to have a good accountant and lawyer who know co-ops and condos, and a professional management company with experience—you also have to have a system of checks and balances in place that watch these professionals.”    

Brad King is a freelance writer and a frequent contributor to The Cooperator.