Can a Shareholder Withhold a Portion of the Maintenance Fee When an Amenity is Not Available?
First, the shareholder should carefully review the terms of his proprietary lease, which will generally establish the conditions under which a shareholder may withhold payment from the cooperative. Most proprietary leases contain language providing that “the Lessee (shareholder) will pay maintenance to the Lessor” (cooperative) upon the terms established by the cooperative “without any deduction on account of any set-off or claim which the Lessee may have against the Lessor.” Language similar to the foregoing will enable the cooperative to threaten dire consequences, such as declaring the shareholder in default, if the shareholder resorts to self-help by withholding or escrowing a portion of the maintenance. A threat of default may subject the shareholder to late fees, interest, legal fees and possibly revocation of his proprietary lease if he does not promptly “cure the default” by paying all of the money withheld. The shareholder should further be advised that, assuming the apartment is subject to financing, a default under the proprietary lease would also constitute a default under their financial agreement with the lender. So a shareholder should pursue all other options before withholding a portion of the monthly maintenance.
Second, except as provided below, it appears that depositing the maintenance in a rent escrow may not be an option for the shareholder. Real Property Actions and Proceedings Law Section 770, which applies in New York City, Westchester, Rockland, Nassau and Suffolk counties, allows a tenant to deposit money into a “rent escrow” account where there is a “loss of essential services.” However, a loss of essential services is defined as loss of “heat, water, light, electricity or adequate sewage disposal facilities, or an infestation of rodents.” The loss of a swimming pool, which would be appropriately characterized as an amenity, would not qualify as a loss of essential services.
Third, the shareholder should carefully review the cooperative by-laws, which may allow the shareholders to remove directors with or without cause. The threshold to remove directors “without cause” is more difficult. However, the failure to close out old permits resulting in expensive upgrades which would have been unnecessary if the permits had been timely closed out and a season-long pool shut down could arguably be wasting corporate assets and grounds for removal for cause. Should the shareholder wish to proceed in this fashion, the procedures for calling a special meeting of shareholders to remove the directors “for cause” will be spelled out in the by-laws. Generally, cooperative by-laws will require a petition demanding a special meeting of shareholders, signed by 25% of the outstanding shares in the cooperative and specifying the reason for the meeting (to remove directors for cause) and the grounds for removal, be presented to the Secretary of the cooperative. If the requirements are met, the Secretary must call the special meeting of shareholders. If the requirements are not met, the Secretary may deny the petition. Those shareholders who called the meeting have the burden of convincing the shareholders that the directors violated their fiduciary duty to the shareholders and must be removed from office.
Fourth, shareholders could bring a lawsuit against the directors, in their official capacity and individually, for breach of fiduciary duty, corporate waste and whatever other claims the shareholders have against the directors. This will require substantial investment in an attorney familiar with corporate matters and litigation to prosecute the lawsuit. Such lawsuits are expensive to bring and are time consuming so there may not be any immediate benefit for those who invest their money into the lawsuit. The lawsuit may encourage the Board to get the repairs completed promptly so they can request that the lawsuit be dismissed or settled in some way.
Last, the shareholder could, either in a stand-alone lawsuit or part of another lawsuit, commence a shareholder derivative action in the name of the corporation and against the directors alleging corporate waste and breach of fiduciary duty. New York’s Business Corporation Law requires at least 5% of the corporation’s outstanding and issued shares be plaintiffs in order to commence and maintain the action. As part of the derivative action the shareholders could seek a court order allowing them to withhold a portion of their maintenance until the lawsuit is dismissed or otherwise resolved. Armed with such a court order, the shareholder could push the Board to settle the case and get the pool repaired and open.
A final word about lawsuits. The shareholder should know that by suing the cooperative he is suing himself and his neighbors. The Board may attempt to vilify the shareholders for forcing the cooperative to spend money defending itself, money which could go into repairing the pool. A particularly vindictive Board might impose a “litigation assessment” so everyone knows a few shareholders are costing everyone money. If the shareholders wish to proceed with a lawsuit, they should be prepared for both pushback from neighbors and vilification from the Board.
For more information about this Client Advisory and related issues, please contact: James Glatthaar, a member of the Litigation, Construction and Real Estate Practice Groups.