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D&O Insurance Shortfalls and Lawsuit Trends

06/01/2017 12:00 PM | Anonymous

By Candyce Cavanagh, Orten Cavanagh & Holmes, LLC

If you are a volunteer member of your association’s board of directors, it is in your best interests to ensure your association maintains a comprehensive directors and officers (“D&O”) liability policy. A claim against board members may or may not be justified, but defense may be an expensive undertaking and in some instances awards for damages may be substantial. 

Colorado law address indemnification of directors and officers. Association bylaws sometimes also address indemnifying committee members or other volunteers. However, without D&O liability insurance to fund the indemnification obligation, an association is faced with the prospect of funding defense as an association common expense of the association.

What are the most common types of D&O claims? This past month at the CAI Luncheon, Adam Collins with Ian H. Graham Insurance identified the following claims as the most common: breach of fiduciary duty; failure to adhere to bylaws; challenges to assessments; failure to properly notice elections or count votes; improper removal of board members; challenges to architectural review decisions; Fair Housing Act discrimination claims; challenges regarding easements and variances; board’s failure to maintain common areas; defamation by the board of a member; and failure to properly disburse funds. This list represents the most common claims, but there are many other types of claims an association may face. 

All directors and officers policies are not created equal. In general, there are two types of policies: package policies and stand-alone policies. Package policies often limit coverage to monetary claims and may only cover lawsuits, but not administrative proceedings (i.e., fair housing claims before state civil rights division) or alternative dispute resolution proceedings (i.e., mediation or arbitration). Additionally, insured persons may be only directors, officers and the association. The policy may not cover committee members or the association’s manager. 

Stand-alone policies typically cover monetary and nonmonetary claims and also cover administrative proceedings and alternative dispute resolution claims as well as lawsuits. Further, insured entities typically include not only the directors, officers and association, but also employees, committee members, volunteers and community association managers. 

Even stand-alone policies are not created equal. Types of coverage the board may consider when reviewing D&O policies include the following: defense for breach of contract; defense outside policy limits (i.e., attorneys’ fees included within or above the coverage limit); third party employment discrimination and harassment; employment practice liability; cyber liability, lifetime reporting period; full prior acts coverage; defense for libel and slander; defense for failure to maintain insurance; employees recognized as a claimant (i.e., standard insured vs. insured exclusion would not apply); and coverage extended to a spouse or partner. Basic definitions such as the definition of a claim may not be the same on every policy and can have a substantial impact on coverage. If you do not know why these types of coverage are beneficial for your association or why policy definitions are important, then do not hesitate to ask questions. 

How do these differences in coverage play out in the real world? Here is a real world example. A single mother moves into a community of primarily age 55+ residents, but the community is not a 55+ community under the terms of federal law. The board adopts a rule prohibiting play structures and after receiving a complaint, the board modifies the rule to prohibit play structures that can be seen above the fence line. The single mother files a complaint based on discrimination against families with children. After the complaint is filed, the rule is rescinded, but the discrimination action proceeds. The D&O insurer provides a defense, but this association’s D&O policy only covers defense costs and not damages in the event of a finding of discrimination. Ultimately, two fines of $15,000 each for each of the two rules are imposed and damages of $28,000 are awarded to the claimant. Although the association had its legal defense costs covered, it was uninsured for a total of $58,000. If this association had a policy that covered the damages award, the policy premium difference would have been well worth the investment. 

In addition to administrative claims, there are also lawsuits that could be covered by D&O insurance. For example, the Colorado Court of Appeals ruled in 2015 on a case involving validity of a rule limiting short term leasing (Houston v. Wilson Mesa). The owner filed an action to contest two $500 fines for violating a short term leasing rule. The court ruled that short-term leasing is not a commercial use and the minimum lease term had to be in the declaration because the lack of any minimum term in the declaration means that there is no restriction and a rule cannot amend the declaration. We do not know if D&O insurance was involved in this case, but ideally the association had D&O insurance that covered non-monetary claims. If not, the association would have to pay its legal fees for the trial court and appellate court actions out of association funds. 

The costs for claims that may be covered by D&O policies can be substantial, whether defense costs or awards for damages. It is important for boards to ask questions of their insurance professionals and not automatically select the least expensive policy without comparing available coverage offered on policies in the marketplace. Boards may also consult with their legal counsel if they have D&O policy questions.

Candyce Cavanagh is a founding member of Orten Cavanagh & Holmes, LLC, a law firm that advocates a preventive approach in providing legal representation to community associations. Candyce is long time member of CAI and also a fellow in CAI’s College of Community Association Lawyers. 

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