The “business judgment rule” is a rule created by state statutes and a history of court case decisions which have established that, under appropriate circumstances, courts will defer to the business judgment of the directors of a corporation. The rule creates a presumption that the actions of the directors of a homeowners association are taken by bona fide concerns regarding what is in the best interests of the association and its members. Thus, under the business judgment rule, courts will not disturb the decisions of association directors when: (i) the decisions were made in good faith; (ii) the decisions were made with the care that an ordinarily prudent person in a like position would exercise under similar circumstances; and (iii) the decisions were made in a manner that the directors reasonably believed to be in the best interests of the association.
In effect, the business judgment rule protects an association’s directors against liability for decisions that were made which have caused harm to the association so long as, in making the decision in question, the directors acted on an informed basis, in good faith and in the honest belief that the action taken was in the best interests of the association.
The rationale for the business judgment rule comes from the principal that the business and affairs of a homeowners association are managed under the direction of its board of directors and, in performing their responsibilities, directors are charged with fiduciary duties that are owed to the association. Recognizing that corporate decision making inherently involves risks, the statutes and court decisions are designed to enable the directors to make decisions without a constant fear of becoming the subject of lawsuits challenging their decisions and their judgment.
The presumption created by the business judgment rule that affords an association’s directors protection against lawsuits by association members is subject to challenge by association members who contend that the directors’ action was not made on an informed basis, or in good faith, and/or was not in the best interests of the association. Such challenges typically raise claims of fraud, bad faith, gross overreaching and breaches of the fiduciary duties of care and loyalty.
For the business judgment rule to apply, an association’s board of directors must actually make a decision and decision making includes conscious decisions not to take action after weighing facts and considering a matter. But a decision to refrain from taking action is not the same as “inaction,” and an association is not protected by the business judgment rule when its directors simply ignore problems.
In conclusion, courts will not substitute their business judgment for that of an association’s board of directors when the board has acted in good faith with a view to the best interests of the association and its members. Presumptions favor the good faith of the directors and generally speaking, proper decisions by the association’s board of directors will not be interfered with by the courts in doubtful cases.