November 2010



Disagreements between a board of directors and an individual unit owner are commonplace in some communities. Under what circumstances could such a disagreement rise to the level of a claim under the common interest development’s General Liability or Directors & Officers coverage?

In 1964, Supreme Court Associate Justice Potter Stewart tried to shore up his own arguments on what  exemplifies obscenity  by saying, "I shall not today attempt further to define the kinds of material I understand to be embraced . . . [b]ut I know it when I see it.” 

In similar ways, the board of directors of any common interest development may well recognize that they have a duty to put the carrier on notice regarding a claim, but nevertheless have trouble discerning when a disagreement may actually have risen to the point of becoming a claim.  “We’ll know it when we see it,” a confident board member might say.

If only it were that simple.

For example, what if a board member receives an email from an angry unit owner threatening legal action?  Does that constitute a claim?  The board of directors may not think so – and thereby believe they have no obligation to notify the insurance carrier.  If a lawsuit ultimately is filed and the carrier learns of the written threat of a lawsuit months earlier, the carrier will deny coverage.  Such a denial could have huge economic consequences since both the Association and their management agent (if they have one) lose the benefit of both defense and indemnity.

What are the Board’s obligations under the insurance contract? 

With a general liability policy, the board must see to it that the carrier is notified “as soon as practicable” of an "occurrence" or an offense which may result in a claim.  The board must immediately send the carrier copies of any demands, notices, summonses, or legal papers in connection with the matter.   

Under the Directors & Officers liability policy the board of directors is obligated to notify the insurance carrier of the written notice as soon as reasonably possible.

What is the difference between a written and oral statement?   Most experts believe that while both could give rise to a claim, a written demand certainly carries the most weight.  When something is put in writing (letter, fax, email, text message) the board should immediately tender a claim to the carrier.  Tender immediately, and let the carrier sort it out.

Here are three examples of circumstances that might trigger a claim:

a. Attempts at a settlement to avoid a lawsuit -- Nobody likes a complainer.  Some boards may feel motivated to placate an angry unit owner by offering a settlement prior to the matter becoming a lawsuit.  If the Association makes an offer and the resulting negotiations are unsuccessful the carrier could actually deny coverage down the road.  In fact, the policy indicates that “no insured will, except at that insured's own cost, voluntarily make a payment, assume any obligation, or incur any expense, other than for first aid, without (the carrier’s) consent.”  That means that these types of settlement attempts, although well-intentioned, may prejudice the carrier’s rights and may  even release the insurance company of its obligation to respond to the claim after the bungled settlement attempt.

b. Small Claims Court -- Your board might consider a Small Claims Court action to purely be a nuisance --and many times it is.  Even though an attorney cannot represent you in Small Claims Court, it’s always advisable to have your legal counsel involved in the pre-court process.  And do not assume it's unnecessary to notify your insurance carrier regarding this loss.  Notifying the carrier is extremely important.  Even if the Association prevails in Small Claims Court that does not prevent the losing party from appealing the matter to Superior Court.  If the Association loses in Superior Court, which could be months later -- the general liability and D&O carriers may indicate that they have no obligation to cover the resulting defense and indemnity because of the late notice.

c. Request for Mediation --- According to California Civil Code Section 1369.510, a unit owner cannot file a lawsuit in Superior Court unless the parties have endeavored to submit their dispute to alternative dispute resolution (ADR).  In fact, ADR must be offered to the Association if the unit owner is suing for declaratory relief, injunctive relief or writ relief.  The process involves the owner making a formal written request for ADR.   This written request should be treated just like any other sort of written demand.   You should immediately contact your insurance agent/broker and put them on notice.

Utilize the Experts -- Keeping your insurance agent/broker apprised of any such circumstances is absolutely imperative. An application for D&O insurance typically requires the Association to make certain representations on behalf of all individuals to be insured. Nearly all applications contain “warranty statements” made in the application about knowledge of facts which might give rise to a claim. If the D&O application states that the board of directors had no knowledge of a pending suit, claim or issue which might give rise to a loss under the policy – and then it’s later determined that the board was very much aware of a smoldering issue – coverage could potentially be rescinded.  D&O carriers do not look kindly on a material misrepresentation or omission which appears on an application.

Which Carrier?   D&O or the General Liability Policy?   Here’s another potential pitfall.  It’s possible for a board to tender a claim to the wrong insurance carrier – meanwhile the carrier that should be responding is not contacted. This is an area where you should involve both your legal counsel and insurance agent/broker. They carry Errors and Omissions coverage for such oversights.  If they notice (or fail to notice) the wrong carrier was notified you may be able to hold them accountable.  And the tender may be trickier than it appears at first glance.  General liability policies are written on an “occurrence” form while D&O policies are “claims made.”   Knowing which carriers to tender a claim to can be critical – particularly if the renewal of the D&O policy is forthcoming (the new D&O carrier may not have any obligation to respond to a claim that gave rise during a prior policy term).

Not Sure?  Err on the conservative side.  Considering the consequences of failing to tender a claim - the lack of both defense and indemnity - a board would always be well advised to err on the side of caution and put the carrier on notice in the event of any potential claim.  Whether or not it has merit, the costs to defend against even a non-meritorious claim can be thousands of dollars.   Justice Stewart may know it when he sees it -- but for the rest of us mortals, we may just need to be more pragmatic ---tender immediately and let the carrier sort it out. 


By Timothy Cline, CIRMS

Timothy Cline Insurance Agency, Inc.

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