For a community facing what appears to be an overwhelming challenge – perhaps high delinquency rates or a ruinous lawsuit – one option that can be considered is having the Association file for bankruptcy. Just how viable is this? While extremely rare, it does occur, but involves more than the typical individual Chapter 13 or Chapter 7 bankruptcy.
The biggest surprise is the power that the trustee, appointed by the court, has over the Association. Realize that the trustee’s sole duty is to the creditors: He is evaluated on how quickly and effectively he pays off debt. For corporations, debts are not forgiven in bankruptcy.
Once a trustee is in charge, the Board effectively ceases to operate or have any input in to how business is conducted. What amenities are supported, bills paid, etc. are now all handled by a designated dictator.
This trustee can prosecute, assign or sell all Association claims - and can liquidate all assets to satisfy creditors. He is paid commission based on selling assets. Assets include not only items like a lawn mower, pool equipment, or clubhouse furnishings - but actual real estate, such as the land held by the Association (think common areas!). Imagine what could be done with that piece of green space sold to an outside party or business!
Assets also include all the money in all the community’s bank accounts, and more importantly, the ability to levy assessments. Yes, you read correctly: The power of the Board to establish annual or special assessments is an item that can be sold off, and the one purchasing this power does not have to gain homeowner approval for its usage. There are no votes on budget approval, and no cap on the amount of a special assessment imposed unilaterally. Homeowners are faced with the prospect of having assessments of any amount imposed at any time without any avenue of input. And incidentally, lending institutions will refuse to provide home loans for purchases or refinances, making it nearly impossible for current homeowners to escape.
The trustee can also sell claims, such as the right to pursue the Board for breach of fiduciary duty by permitting the circumstances leading to bankruptcy. This claim permits the holder to tap the juicy D&O (Directors and Officers) Insurance policy valued at $1 million or more. Attorney/client privilege goes out the window, providing the trustee or claim holder access to any sensitive information that may compromise a Board member’s legal defense.
Before handing away such expansive and sweeping powers, be sure to consult your attorney about any options other than bankruptcy.