Homeowners associations are often a party to litigation, whether it is as a plaintiff who commences the lawsuit, or as a defendant that is being sued by some other party. In cases where a homeowners association is the plaintiff, the associations insurance carrier is not generally involved, but in lawsuits where the association is a named defendant and it is covered by insurance for the claims being made, the defense of the case is typically handled by the insurance carrier. So what happens when it comes time to discuss a settlement of the HOA litigation? Who makes the decision on whether or not to settle a case and on the terms of the settlementthe associations members, the board of directors, or the insurance carrier that is providing a defense of the case?

Cases Where There is No Insurance Company Involved.

Decisions on the settlement of cases where the association does not have an insurance company providing its defense are left to the discretion of the associations board of directors. The non-director members of the association do not typically play any role in the decision making process relative to the settlement of claims or litigation unless the associations board of directors seeks input or a vote by the membership. Under certain circumstances, the board may authorize a particular individual to decide on the terms of a settlement, but generally those decisions are made by the directors collectively while acting at a duly noticed meeting of the board at which a quorum of the directors is present. Situations where an authorized representative of the association is empowered to make settlement decisions that are not approved by the board of directors generally involve smaller amounts of money, such as small claims cases. In such cases, the board of directors may authorize a person to negotiate directly with the other party and to enter into settlements on such terms as the representative believes to be in the best interests of the association, or settlements that are within certain guidelines provided by the board of directors (i.e. accept not less than, or pay not more than a specified amount). The decisions that are made by an associations board of directors concerning HOA litigation are generally upheld by courts under the business judgment rule when they are subsequently challenged. Said rule essentially provides that a court will not substitute its judgment for the judgment of the associations board of directors when they have acted properly in evaluating how to proceed on the matter.

Cases That Involve Insurance Companies.

When insurance companies are providing a defense for the homeowners association, the decision making process involving settlements becomes more complicated because insurance carriers are not emotionally invested in the disputethey are more concerned with the economics of the case and not who is right or wrong. Insurance companies know that HOA litigation is costly and there is always a risk of losing the case. Thus, insurance carriers will typically prefer to settle cases to avoid the risk of losing and having to pay damage awards and attorneys fees. Sometimes this creates a conflict with the homeowners associations board of directors that is opposed to a settlement being recommended by the attorney retained by the insurance company. Whether or not an associations board of directors can refuse to settle a case on terms being recommended by its insurance defense counsel depends on the language contained in the insurance policy that has provided the coverage for the claims being alleged against the association. Some liability insurance policies contain language that specifically empowers the insurance company to make settlement decisions. Other policies contain language which states that, before a claim can be settled, the insurer must contain the consent from the insured (the association). Such consent-to-settle clauses provide the associations board of directors with the final say on whether or not a claim, or litigation concerning a claim, is settled. Insurance policies that include consent-to-settle clauses will typically also contain hammer clauses which limit the insurance companys liability to amounts that the claim could have been settled for, plus the costs incurred by the insurance company up to the time that the association refused to consent to a settlement that could have been completed. An example of the language in an associations insurance policy that contains a consent-to-settle clause coupled with a hammer clause is as follows:

Insurer will not settle or compromise any claim without the consent of the insured. If, however, the insured refuses to consent to a settlement or compromise recommended by insurer and elects to contest such claim or continue legal proceedings in connection with such claim, then insurers liability for the claim shall not exceed the amount for which the claim could have been so settled, plus claims expenses incurred up to the date of such refusal.

The forgoing hammer clause language does not require the associations board of directors to act reasonably in electing not to settle a matter. With such a clause, regardless of whether or not the boards decision not to settle was reasonable, the risks associated with losing the case after a settlement has been refused passes to the insured. To reduce such risks, policy language for a hammer clause that would be more favorable to the homeowners association would include language relative to the reasonableness of the directors refusal to settle. A clause that includes such reasonableness language would be as follows:

Insurer shall not settle any claim without the consent of the insured, which consent shall not be unreasonably withheld. If, however, the insured refuses to consent to a settlement recommended by insurer and elects to contest the claim or continue legal proceedings in connection with such claim, insurers liability for the claim shall not exceed the amount for which the claim could have been settled, including claim expenses up to the date of such refusal.

The hammer clause that includes the reasonableness language is designed to prevent the insurance carrier from invoking the hammer clause if the associations board of directors decision not to consent to a particular settlement is deemed reasonable. When purchasing liability insurance coverage, homeowners association management personnel should make certain that the policy language is properly reviewed and understood. The ramifications of purchasing an insurance policy that contains language that is not favorable to the association can be very costly if the need for the coverage arises.