Defeat Your Homeowner Association

First, this article is written from the viewpoint of a California resident. Much of the information presented here is relevant to other states, but you should check your own state’s laws to make sure they are the same or similar.

For most people buying a new home in today’s America there is usually a mandatory membership to a homeowner association, referred to as an “HOA.” These organizations are essentially mini governments that posses the power to make and enforce laws, including the right to foreclose on a family’s home, townhouse or condominium.

The original intention in the creation of the HOA envisioned an active participation by all of the members; a tight knit community where common problems were dealt with by the community members through the offices of the HOA.

The reality is nothing like the vision.

Today, in most cases an HOA is a very small number of people who actively keep the authority of the HOA in their hands, and their hands alone. Usually these circumstances are brought about by a lack of participation by the majority of the HOA members.

The lack of member participation creates a certain rational for the Board of Directors, who interpret the other member’s disinterest as the reason they must keep the HOA’s authority to themselves. The community becomes divided between those who control the Board of Directors, and everybody else.

For everybody else, an HOA is typically not easy to deal with. They wield the authority to foreclose homes, levy steep fines, and often control aspects of the community members’ lives that typical Americans believe are a precious homeowner’s private right, like what your kids are allowed to do while playing in their own backyard.

Homeowners often find themselves in a contest with their HOA over these rights. Can I park my car in my driveway? No, says the HOA because we few active members passed a law that says you can’t park a car in your own driveway unless you use the car every day.

Can my kids play basketball in our own backyard? No, says the HOA, because we few active members passed a law that says no basketball courts are permitted that can be seen from the street. And, by the way, you are not allowed to cover that open fence to limit our visibility into your backyard because we few active members have passed a law that says we have the right to see into your backyard.

Can I tint my windows? No, says the HOA, because… Well, you get the picture.

Now the part you have been reading to find. How do you defeat your HOA?

First, you must make sure you continue to pay your HOA dues. Most homeowners who get into a fight with their HOA over issues like a rule restricting backyard activities, use of your own driveway and garage, and denials of your planned home improvement projects, often get angry and stop paying dues.

This is a mistake. Pay your dues. However, you can usually omit paying those late fees and fines. In California, an HOA cannot foreclose your home based on accumulated late fees, fines, and other expenses like the ‘cost of collecting’ your unpaid late fees and fines.

They can sue you in small claims, or even in the limited jurisdiction of the Superior Court because then they will get attorney fees, which will be huge. The resulting judgment, however, is far more difficult to use to foreclose on your home because it has no priority over existing liens, meaning the HOA would need to pay off your mortgage to get your home using a lawsuit judgment. (In California, the moment you lose such a lawsuit, go the State Bar and demand Fee Mediation – HOA lawyers charge you like they are first class lawyers, but charge their clients like they are 1st year noobs.)

But, let’s not let it get that far, OK? Here are a few basic rules to live by when dealing with your HOA.

HOAs typically don’t have a properly elected Board of Directors. As soon as you receive that annoying letter telling you to stop your kids from playing in the backyard, send a letter back asking to have a copy of all the Governing Documents.

Hopefully, the HOA will ignore or deny this request.

They are not allowed to deny or ignore a request for copies of the Governing Documents.

Obtain a copy of all your Governing Documents and read them to see what constitutes a properly elected Board of Directors. In those communities where member participation has been limited to just those few who want to be Board Members, there typically has never been a “quorum” attained to properly elect the Board.

The Board, therefore, is usually sitting by default.

Default Board’s are limited in the scope of their authority, and in some cases have no authority at all.

In all your correspondence, constantly remind the Board that they are not properly elected.

Follow these basic steps;

1. Demand a ‘meet and confer’ with a Board Member to discuss the issues. The HOA is not permitted to deny your request to meet and confer. Record the meeting on video.

2. Demand a hearing before the Board. Record the meeting on video.

3. Appeal the Board’s decision. Record the Appeal Hearing on video.

4. Demand Mediation after the Board affirms their previous decision at the Appeal.

Typically, HOA Board of Director members are not well versed in the laws governing the operation of an HOA. many will be passingly familiar with the portions of the relevant foreclose laws, and of course they will know the HOA’s rules and regulations by heart.

However, I have found that often the Board of Directors are not familiar with the requirement to meet and confer in good faith. Therefore, it is common that the Board of Directors member who appears to meet and confer, will meet but not confer. There is a good faith requirement that renders inappropriate the kind of responses the typical HOA Board of Directors member will offer in response to your questions.

For instance; you have received a letter saying you must move you 1966 Ford Mustang from your driveway because it is not driven every day. OK, you say, “what proof do you have that its not driven every day?”

“We have an anonymous tip from another homeowner” replies the HOA Board member.

“OK, you had a complaint. But, what proof do you have that the Mustang is not driven every day? A mere complaint is not proof and does not rise to the level of a violation. You are supposed to investigate to determine whether the complaint was fact or mere opinion. So, what proof do you have?”

There is a very large probability that the “complaining member” was none other than the Board of Directors themselves who merely discussed your Mustang at their last meeting. So, no proof exists.

Write a summary of the meet and confer. State that the Board Member did not have any proof of the violation, and therefore no violation exits.

When the HOA sends you its next letter, usually a threat to move the Mustang or face steep fines, you send a letter denying that any violation exists. Remind them they are not properly elected, and that the results of the meet and confer were favorable to you, not the HOA.

The HOA is supposed to set a hearing where evidence of your violation is presented, and then rule on the evidence and testimony provided at the hearing. Make sure you demand such a hearing, and make sure you attend. It’s a good idea to record the meeting by video.

Not surprisingly, the HOA will rule in its favor, even when you have evidence that proves no violation existed, or they had no evidence that proves a violation existed.

Demand an appeal. Make sure you attend, and yes, record it on video. At the Appeal Hearing, point out that the Board Members are not properly elected and did not have facts to support their previous ruling.

When the Board affirms their prior ruling, demand mediation.

At the mediation, point out to the mediator that the Board is not properly elected, failed to meet and confer in good faith, called a disciplinary hearing without any proof that a violation existed, ruled against you without any proof that a violation existed, and affirmed their ruling despite a lack of evidence and/or evidence to the contrary.

Mediators will only want to split the matter in two; if you have been fined $1000, they will encourage you to offer $500.

Refuse.

Your next step is the most crucial. The HOA will expect you to pay, or in the most unlikely situation, to file a Superior Court action to enforce the Governing Documents.

Instead, you file what is called a “Writ of Mandate.” This is the proper venue to appeal the Board’s ruling.

While this will cost you some attorney fees, it is the winning move. HOA’s and their lawyers typically are not familiar with this particular judicial option and will be totally out of their depth when confronted with a Writ of Mandate.

The Writ Court will, however, entertain you because you are appealing an administrative body who has the obligation to accept and rule according to the evidence and testimony presented. And, then they fail to rule according to the evidence, they can be reversed by the next higher court. In California, the next higher court above the Appeal Hearing of an HOA is the Superior Court’s Writ Judge.

If you have carefully compiled the evidence indicated above, you are highly likely to prevail. The fines will be reversed, the late fees etc will be voided, and your attorney will be paid by the HOA.

Thereafter, the HOA is likely to turn a blind eye on your Mustang, or your kid’s backyard basketball court, and look for easier victims.

Taxes – Association Rules for Capital Gains and Losses

Below is a look at two different aspects of association capital gains and losses that our firm has had to deal with this tax season. The concepts are interesting primarily because their tax answers are so different from what our association clients expected. Also, our clients had to do some homework before we could determine the answers.

Have you ever lost money on an investment when the market moved against you? Investment losses – nobody wants them. But when this happened recently to several associations, they told us that at least they could deduct those losses – right? Wrong! The rules for capital gains and losses for associations are different from those that apply to individuals.

On a slightly different topic, it can be easy to think it’s really a simple question when your association has a capital gain on the sale of property – but that’s only if you know the answers to these questions:

  1. Who is REALLY the taxpayer?
  2. What is the tax basis in the property sold?(This will probably surprise you.)
  3. Was this a complete or partial sale? (Didn’t see that one coming, did you?)
  4. What did you do with the sale proceeds?

We have worked with several associations already this year that have incurred capital losses on their investment activities. In each case, the associations had invested in interest rate-sensitive investment vehicles, particularly U.S. treasury bonds. Interest rates on treasury bonds have been at the lowest point ever in recent years, but have recently experienced some significant (percentage) rate increases. When this caused the value of existing low-interest bonds to plummet, these associations panicked and sold the bonds to avoid further losses. By doing so, they incurred capital losses.

Capital losses are a significant problem for associations, as they are not treated like any other form of income or expense. For corporations, the rule is that capital losses may not be used to offset other regular income, but can only be used to offset other capital gains. What this means is that an Association with a $10,000 capital loss from investment activities may generally not be able to use this loss on its tax return. The loss must be carried back three years and may be carried forward for a period of five years, but may only be used to offset past or future capital gains. For most associations, this means it is lost forever.

Moving on to capital gains, another association recently posed a question regarding a significant capital gain from the sale of common area property. Their take on the matter was that since they consider themselves to be a nonprofit organization, they should not have to pay any tax on the gain resulting from the sale of this property. They also considered it to be such a simple matter that they were going to have the association treasurer just show no gain on the Form 1120-H tax return. For this association, taxes had always been such a simple matter that they had always prepared their own tax return. This year, since they had this sale of common area property, they thought they should at least ask the question. As soon as we started asking them questions about the gain, however, they realized they were in way over their head on this one.

Before an association can properly reflect a capital gain on its tax return, its board of directors need to know the answers to the following questions:

  1. Who is REALLY the taxpayer?
  2. What is the tax basis in the property sold?
  3. Was this a complete or partial sale?
  4. What did you do with the sales proceeds?

Who is the taxpayer? While that may seem like a dumb question with an obvious answer, it’s amazing how many people can’t answer the question. If the Association is a planned development that holds title to its common area property and is selling a parcel of property to which it has title, then the answer is simple: the Association is the taxpayer. If, however, the Association is a condominium association, which generally does not hold title to its common area property, then it becomes a more complex question.

If it is determined that the Association is the titleholder of the property, then the Association is the taxpayer.

However, in the more common circumstance where the Association is simply acting as the agent for the members of the Association, then the members of the Association are the taxpayers, not the Association. If you have determined that the members of the condominium association are in fact the titleholder to the property, you are then led to the remaining questions two, three, and four above.

Tax Basis. Assuming the Association is a planned development, or a condominium association in which it is determined that the Association itself is the titleholder of record, this is a taxable transaction that must be recognized on the Association tax return. That makes the tax basis very important. There are generally only three possibilities for determining tax basis:

  1. If the Association purchased the property it later sold, the tax basis is the purchase price plus any subsequent capital improvements made to the property.
  2. If the developer transferred the property to the Association while it still retained at least 80% control of the Association, then the Association has the same basis in this property as it had in the hands of the developer, assuming that the developer did not take a deduction for this property on the developer’s tax return. And that is generally an unknowable fact, particularly 20 years down the line.
  3. If the developer transferred property to the Association at a point in time in which it no longer retained at least 80% control of the Association, that is generally considered a contribution to capital and there would be no tax basis in the property.

For a condominium association that does not hold title to the property sold, the members are the taxpayers, so this sale is NOT reported on the Association tax return. Because the Association acted as an agent for the members in facilitating the sale, however, it does have an obligation to disclose to its members the information THEY may need to report. Each member-owner is going to have a different tax basis. The Association will never know this information.

Complete or partial sale. If the sale of a common area parcel does not completely terminate the members’ interest in the Association, then it is a partial sale. In the case of a partial sale, the rule is that any net proceeds received from the sale first reduce tax basis, then are recognized as capital gains to the extent that sales proceeds exceed the tax basis (Revenue Ruling 81-152). The Association generally should be able to determine if the transaction is a complete or partial sale as it affects members.

What did you do with the money? This becomes a critical question when there is a partial sale, as the overriding assumption is that the sales proceeds will represent a reduction in basis to the members. It is not uncommon, however, for the Association to retain the proceeds to either shore up the operating budget or apply toward specific capital reserve projects. The tax treatment for the individual members depends on how the Association uses that money. There are generally three possible uses of sales proceeds:

Proceeds are distributed prorated to the members.

Proceeds are retained by the Association to be used in the operating budget.

Proceeds are retained by the Association to be used for capital reserve projects.

If the money is either refunded to the members or is held by the Association and expended for operating budget purposes, then to that extent the members will have a reduction in tax basis for their distributable share, even if they did not receive the money.

If instead the money was retained by the Association for capital reserve projects, this represents an increase in tax basis for each individual member. What that means is that if the full amount was used for capital reserve projects, there is no net tax impact to the individual members, as the sales proceeds which reduce basis are offset by the reserve contribution which increases tax basis.

Notice to members. If the Association is the taxpayer, there is no need for disclosure to members. But if the Association is a condominium project that does not hold title and is not reporting the sale, then the Association has the obligation of notification and disclosure toward the members, no matter how the proceeds are used. A word of caution: the Association should not be in the business of dispensing tax advice to its members. Our standard recommendation in this instance is that the Association should notify its members in writing that the sale has occurred, disclose the gross proceeds received, and inform how the proceeds were used. In our clients’ situations, since we are generally involved as the tax advisor at this point, we suggest that the notice to members also states that the Association’s accountant believes that this is a possible taxable event for each member, and that they should contact their own tax advisors to determine appropriate tax treatment. The notice could describe the basis issues above.

As you can see, what can seem like a very simple little question regarding the sale of the property is, in fact, a very complex tax issue that generally requires a seasoned tax professional to review and understand its possible tax impact to the Association. This is generally not the type of an issue that a board treasurer filing a tax return on behalf of the Association should handle himself or herself.