California HOAs and Arbitration

In the recent case of Aldea Dos Vientos v. Calatlantic Group, the California Court of Appeal recognized that it is reputed that condominium projects have three phases—planning, building, and the lawsuit. The court found that the case is an example of the third phase.

A condominium association sued the developer alleging construction defects. The association’s governing documents required arbitration of such disputes and a vote of approval of at least 51 percent of the association’s membership prior to beginning arbitration.

The association began arbitration without obtaining a vote of its members. Later, the members overwhelmingly voted to pursue the arbitration.

The arbitrator dismissed the arbitration for lack of a membership vote prior to its commencement. The trial court confirmed the award and entered judgment for the developer.

The Court of Appeal reversed, and specifically disagreed with the decision of Branches Neighborhood Corp. v. CalAtlantic Group, Inc. that holds otherwise.

Aldea Dos Vientos is a condominium project in Thousand Oaks. The project is a common interest development subject to the Davis-Stirling Common Interest Development Act (Civ. Code, § 4000, et seq., hereafter Davis-Stirling Act).

The project is governed by the Aldea Dos Vientos homeowners association (Association) and recorded covenants, conditions, and restrictions (CC&R’s).

CalAtlantic Group, Inc. is the successor to the developer of the project (Developer).

The Association claims it discovered $5.6 million in construction defects in the common areas and individual units. Beginning in November 2012, the Association engaged in discussions with the Developer about the defects. In November 2013, when the discussions were unproductive, the Association brought suit against the Developer. The trial court stayed the litigation on the parties’ stipulation to enter into mediation, and if that failed, arbitration administered by JAMS. Mediation failed to produce a settlement.

Section 7.01A of the CC&R’s requires that all disputes between the Developer and the Association or its members, including construction defect claims, be resolved by arbitration.

On June 24, 2016, the Association filed a demand for arbitration. The Developer filed an answer in arbitration for the first time raising section 7.01B of the CC&R’s (hereafter section 7.01B) as a defense. Section 7.01B provides: “Required Vote to Make Claim. Prior to filing a claim pursuant to the ADR Provisions, the Association must obtain the vote or written consent of Owners other than Declarant who represent not less than fifty-one percent (51%) of the Association’s voting power (excluding the voting power of Declarant).”

The Association admitted that it had not obtained a vote from its members prior to beginning arbitration. The arbitrator stayed the arbitration to allow the Association to petition the trial court to resolve the issue of arbitrability.

In the meantime, the Association obtained the approval of over 99 percent of its members to continue the arbitration, with only one member voting against continuing out of 116 votes.

The Association moved the trial court to rule that the retroactive vote allowed arbitration to proceed. The court denied the motion on the ground that arbitrability was a matter for the arbitrator to decide.

The matter returned to the arbitrator. The arbitrator heard oral argument on motions for summary judgment by the Association and the Developer concerning interpretation of section 7.01B. The Developer filed a motion to dismiss based on the Association’s failure to comply with section 7.01B prior to beginning arbitration. The Association filed a cross-motion on the ground that the ratifying vote of the Association members satisfied section 7.01B. The Association also filed a second demand for arbitration. The arbitrator summarily dismissed the original demand for arbitration.

The Developer moved the trial court to confirm the arbitrator’s award. The court concluded that the dismissal of the arbitration constituted a final determination of the rights of the parties notwithstanding the second demand for arbitration. The court entered judgment in favor of the Developer and against the Association.

The trial court shall vacate an arbitration award if the arbitrators exceeded their powers and the award cannot be corrected without affecting the merits of the decision upon the controversy submitted.

Arbitrators exceed their power by issuing an award that violates a party’s unwaivable statutory rights or that contravenes an explicit legislative expression of public policy.  That is particularly true of the rights and policies governing the conduct of the arbitration itself.

The Appellate Court found that Section 7.01B in the CC&Rs contravenes explicit legislative expressions of public policy.

The California Legislature has stated that “housing is of vital statewide importance to the health, safety, and welfare of the residents of this state . . . .” The Legislature intended housing to be free of substantial construction defects. Provisions such as section 7.01B contravene statutory policy by giving the Developer the unilateral power to bar actions for construction defects.  

The Davis-Stirling Act prohibits the enforcement of unreasonable provisions in the CC&R’s. The covenants and restrictions in the declaration shall be enforceable equitable servitudes, unless unreasonable.  

The Appellate Court held that Section 7.01B as interpreted by the arbitrator is not just unreasonable, it is unconscionable. It gives the Developer veto power over the Association’s claims in spite of the members’ vote to proceed with the arbitration.

The Developer relied on Branches Neighborhood Corp. v. CalAtlantic Group, Inc., where a condominium development’s CC&R’s contained a provision similar to section 7.01B, requiring the condominium association to obtain a vote of at least 51 percent of its members before beginning arbitration against the project’s developer. The association began arbitration without seeking a vote. When the developer sought to dismiss the arbitration, the association obtained a ratifying vote from over 51 percent of its members.

Nevertheless, the arbitrator dismissed the arbitration and the trial court entered judgment against the association. The Court of Appeal affirmed. The court rejected the association’s argument that the ratification vote was sufficient, pointing out that the CC&R’s require the vote before arbitration. The court also rejected the association’s argument that the arbitrator exceeded his powers by issuing an award that violates a party’s unwaivable statutory rights or that contravenes an explicit legislative expression of public policy.

According to the interpretation of section 7.01B confirmed by Branches, unless the Association has obtained approval by a vote of at least 51 percent of its members prior to beginning arbitration, it has forever forfeited its right to pursue its claims in any forum in spite of an overwhelming ratifying vote. The Appellate Court found that interpretation directly violates the public policy expressed in Code of Civil Procedure section 1286.2, subdivision (a)(4). It amounts to a trap for the unwary set by the Developer to bar claims against it. The Developer is burdened with no similar hurdle prior to seeking a determination of its rights.

Branches suggests provisions such as section 7.01B are for the benefit of the association’s members. Branches states the membership vote requirement “balance[s] the association’s need to operate efficiently with the rights of its members to be informed and participate in decisions that could impact the association for years, if not decades, to come.”

But the members voted to ratify the Association’s decision to arbitrate. It is an odd benefit that deprives the members of the right to proceed with an arbitration they voted to undertake. The benefit suggested by Branches is better realized by treating covenants such as section 7.01B as between the association and its members only, and not a covenant giving the developer standing to assert the clause as a bar to the rights of the association.

The language of section 7.01B does not give the Developer veto power over claims against it. Nor does section 7.01B inform the Association or its members of the devastating effect the failure to comply will have on its rights, or that the initial failure to comply, no matter how inadvertent, will be irremediable. Therefore, the Appellate Court declined to follow Branches.

The Legislature has also determined that provisions such as section 7.01B are unconscionable.

Senate Bill No. 326 bars the use of provisions such as section 7.01B as a defense for developers against claims of condominium associations.

The Developer relied on Civil Code section 5986, subdivision (d), also added by Senate Bill No. 326. That subdivision provides: “This section applies to all governing documents, whether recorded before or after the effective date of this section, and applies retroactively to claims initiated before the effective date of this section, except if those claims have been resolved through an executed settlement, a final arbitration decision, or a final judicial decision on the merits.” The Developer argues the section is not retroactive because there has been a “final arbitration decision.”

But the Appellate Court found that the most reasonable construction of Civil Code section 5986, subdivision (d) is that the phrase “on the merits” following “final judicial decision” also applies to “final arbitration decision.” There is no reason why the Legislature would intend to require a final judicial decision to be on the merits but not a final arbitration decision to be on the merits.

Here the arbitrator’s decision was not on the merits and the judicial decision was not final.

Also, the arbitrator’s decision was not final. The Association filed two demands for arbitration, one filed on June 24, 2016, before the membership vote, and the other filed on October 31, 2017, after the membership vote.

The arbitrator found the first demand for arbitration void because it was made prior to the vote required by section 7.01B. The arbitrator’s order expressly states, “This finding does not directly impact the viability of the Demand in Arbitration filed October 31, 2017.” The arbitrator ordered that: “The Demand (Claim) in Arbitration filed June 24, 2016 . . . is dismissed.” The arbitrator never ruled on the October 31, 2017 demand. His decision did not end arbitration.

Because the arbitrator’s award violated other explicit legislative expressions of public policy, the judgment was reversed.

LESSONS:

1.         California HOAs need to carefully review their CC&Rs before initiation any legal actions to make sure any legal action is in compliance with its provisions, including arbitration.

2.         This case illustrates the problems that can arise from arbitration provisions, and parties to written agreements should always review those agreements to determine if they include arbitration provisions.