THE INDEMNIFICATION MINEFIELD

Virtually all of Michigan’s Condominium Associations are nonprofit corporations, operating according to the requirements of the Nonprofit Corporations Act,1 as well as the Condominium Act.2

The Condominium Act requires that condominium bylaws contain an indemnification clause for the board of directors, and directs that “willful and wanton misconduct” and “gross negligence” be excluded.3 The Condominium Act does not mention officers or volunteer workers who assist the Board. Because the Association is a nonprofit corporation, it must meet the requirements of not just one, but both of the Acts.

Like the Condominium Act, the Nonprofit Corporations Act provides indemnification for directors, but adds indemnification for officers and volunteer workers of the Association. Unfortunately, there are loopholes in the Act through which unwelcome individual personal liability may unexpectedly slip through.

In the first place, indemnification in and of itself does not mean that no one gets sued, only that your personal pocketbook is protected and the collective pocketbook is at risk. When a lawsuit for damages is filed as a result of the something an officer or other volunteer did or didn’t do, the Association itself is the Defendant, not the director, officer or volunteer.4 Although the offending individual may not be personally liable, a judgment taken against the Association will be paid from Association funds, and those funds may well be obtained from the co-owners, including the offender.

Indemnification is available only to a “volunteer” director, officer or other person. A “volunteer director” is one “who does not receive anything of more than nominal value from the corporation for serving as a director, other than reasonable per diem compensation and reimbursement for actual, reasonable and necessary expenses incurred by a director in his or her capacity as a director.”5

If the director is receiving anything as payment for his directoral services from the Association, “volunteer” status may be lost, and with it, protection from personal liability. The Board would be wise to check with the Association’s legal counsel for advice concerning compensation and reimbursement before, rather than after the fact, and request the advice in writing, to be shared, if necessary, with litigation bound co-owners.

The Nonprofit Corporations Act allows corporate or Association bylaws to provide for elimination of a volunteer director’s or volunteer officer’s liability for a breach of fiduciary duty, but some fiduciary breaches are simply not protected and not eliminated.6 Almost every director at some point has heard the phrase “fiduciary duty” and wondered what on earth it meant. The unprotected fiduciary breaches are equally elusive of definition by the uninitiated. A director or an officer is not protected for a breach of the “duty of loyalty” to the Association or its members, or for acts that are “not in good faith” or involve “intentional misconduct.” Also unprotected are “grossly negligent acts” and transactions which result in an “improper personal benefit” to the director or officer, to name a few. The unwary Board member can wander into this legal minefield, and end up wondering exactly what can and cannot be done.

At its most basic level, the Act allows protection for actions which may unintentionally violate fiduciary obligations by operating in an unfair way to the corporation as a whole. The fiduciary duty of a Board member has been described as the duty to manage the business of the company to promote the common interests of all co-owners, not just the Board member’s own interests, and to act at all times with good morals and unselfish behavior. The Nonprofit Corporations Act requires the Board member to fulfill duties in good faith, with use of the care, diligence and skill of an “ordinary prudent person in similar circumstances.” 7

In short, the Board member has to be careful to act with care to benefit the collective interests of the co-owners. If the unintentional result of an action is harm to the collective interest, or personal benefit to the director individually, the Act provides indemnification. The key to indemnification is the lack of intent to harm the collective interest. All of the unprotected acts for a breach of fiduciary duty relate to knowing the act is wrong, and doing it anyway - “intentional misconduct,” “improper personal benefit,” and the like.

Other volunteers are not mentioned in the fiduciary breach section of the Act, most likely because this class of volunteer does not owe the Association the fiduciary obligations that directors and officers do. Non-director volunteers do not have fiduciary duties in the normal corporate scheme, and usually have limited tasks to perform in their volunteer capacity.

Outside of the realm of fiduciary breaches of directors and officers, the Nonprofit Corporations Act also provides for indemnification of volunteer directors, volunteer officers and “other volunteers,” if, and only if, certain conditions are met.8

These conditions are listed: the volunteer must be acting “within the scope of his or her authority”9 and “in good faith.”10 The volunteer’s conduct can’t amount to “gross negligence” or “willful and wanton misconduct,” 11 and can’t be an “intentional tort.”12 “Intentional tort” is a mystical legal phrase for purposefully harming someone or someone else’s property or interests, as compared with “gross negligence” which is acting in a grossly careless way and harming someone or his/her property or interests. The difference, and both are unprotected, is the difference between playing baseball within five feet of a co-owner’s $5,000.00 stained glass window (gross negligence) and taking a baseball bat to the same window (intentional tort). In this example, the offending volunteer is also not acting within the scope of authority, which at its most basic, means not doing the task that the offender had been assigned or authorized to do, either by the Condominium Documents or by Board request.

The last condition is that the volunteer’s conduct cannot be a “tort” - arising out of the ownership, maintenance or use of a motor vehicle.13 This condition is included because tort liability is imposed under certain parts of the Motor Vehicle Code, and allowing indemnification could create a conflict between the two laws.

The Nonprofit Corporations Act provides a separate definition for the “other volunteer” included with the volunteer directors and officers covered under this section of the Act. In order to even qualify for indemnification, besides meeting the listed conditions, the “non-director volunteer” must be “an individual, other than a volunteer director, performing services for a nonprofit corporation who does not receive compensation or any other type of consideration for the services, other than reimbursement for expenses actually incurred.”14 As you can see, the “other volunteer” can’t receive even the nominal, per diem compensation allowed to volunteer directors, without the potential loss of volunteer status.

In brief review, the Board member or officer gets protection (indemnification) if volunteer status exists, if the Articles of Incorporation or Bylaws (whether Condominium or Corporate) provide for it and in the case of fiduciary breaches if the volunteer director or officer’s acts or omissions do not fall into the unprotected categories in the Act.

In the case of directors, officers, and other volunteers, indemnification is available only if volunteer status exists, if the Articles or Bylaws provide for it and if all of the required conditions are met.

The actual amount of indemnification available is also governed by several factors, including the Nonprofit Corporations Act, the Association’s insurance policies,15 the nature of the offending actions, the applicable provisions in the Condominium and Association Bylaws, and the court’s determinations.16

Any Board member who has had the misfortune to be named in a lawsuit by a co-owner, is aware of the legal tangle that can be created while we lawyers attempt to sort out whether there is a conflict of interest between the corporate defendant and the individual Board member, the net result of which may be a “reservation of rights” letter or no coverage at all, making no sense to the bewildered individual facing the court system. That same Board member may be appalled to discover that not only does he or she have to hire personal legal counsel, but that there is no coverage for personal attorney fees, or that the court ultimately decides that the personal attorney fees were not reasonable, and hence not covered.

Again, the wise Board of Directors will seek advice from Association counsel and Association insurance companies on what is available for coverage, when it’s available, which actions are covered and which are not, and what personal exposure exists for the individual Board members.



Footnotes: Judi M. Schlottman
1 - MCL 450.2101 et. seq. SCHLOTTMAN & WAGNER, P.C.
2 - MCL 559.101 et. seq.
3 - MCL 559.154(6)
4. - MCL 450.2556
5 - MCL 450.2110(2)
6 - MCL 450.2209(c)
7 - MCL 450.2541
8 - MCL 450.2209(e)
9 - MCL 450.2209 (e)(i)
10 - MCL 450.2209 (e)(ii)
11 - MCL 450.2209 9(e)(iii)
12 - MCL 450.2209 (e)(iv)
13 - MCL 450.2209 (e)(v)
14 - MCL 450.2108(2)
15 - MCL 450.2567
16 MCL 450.2561;
MCL 450.2562;
MCL 450.2563;
MCL 450.2564