Published: Autumn 2008

CNYC thanks its president Marc J. Luxemburg, Esq. for the following guest article. Mr. Luxemburg follows court cases relating to cooperatives and condominiums and frequently submits friend of the court briefs on behalf of CNYC when an issue being adjudicated could have a significant effect on cooperatives and/or condominiums. Every year at CNYC's Annual Housing Conference, Mr. Luxemburg presents a morning workshop on the significant court decisions of the year.

UNSOLD SHARES
Who qualifies as a holder of unsold shares and is able to enjoy the unique rights afforded to such select shareholders? As more and more Sponsors continue to sell off their remaining interests in cooperative conversions (and sometimes disappear), this question has become important. The Appellate Division First Department has recently decided three significant cases dealing with this question.

In Sassi-Lehner v. Charlton Tenants Corp., et al., 2008 WL 3288075 (1st Dept. Aug, 12, 2008), the successor to a purchaser at a foreclosure sale did not become a holder of unsold shares. The subject apartment was occupied by a rent controlled tenant. Sponsor transferred the shares and lease to an individual whom Sponsor designated a holder of unsold shares in the fifth amendment to the offering plan. The individual defaulted on his loan obligation and the Plaintiffs' parents purchased the shares and lease at a foreclosure sale. Though the Plaintiffs' parents never became bona fide occupants of the apartment (the rent controlled tenant was still in occupancy), Plaintiffs' parents were never designated holders of unsold shares by Sponsor or any other entity. Plaintiffs' parents subsequently transferred the shares and lease to Plaintiffs. When Plaintiffs attempted to sell the shares and lease without Board approval, the Board refused to allow a closing and Plaintiffs filed an action for a declaratory judgment. Plaintiffs argued that they were holders of unsold shares because the shares were originally held by the Sponsor and because neither Plaintiffs nor Plaintiffs' parents ever occupied the apartment. The court found that a determination of Plaintiffs' status required a review of the proprietary lease and the offering plan. As a result of such review, the court found that the Plaintiffs did not qualify as holders of unsold shares because they were not "individuals produced by the Sponsor pursuant to the offering plan" and although paragraph 38 of the proprietary lease says that the status of holder continues "regardless of transfer", this only applies to the Sponsor or persons designated or produced by the sponsor. The First Department affirmed the lower court's ruling which declared them not to be holders of unsold shares.

In Kralik v. 239 East 79th Street Owners Corp., 2008 WL 3288292 (1st Dept. Aug 12, 2008), direct purchasers from the Sponsor automatically became holders even without the Sponsor's designation. Plaintiffs purchased the subject apartment directly from the Sponsor. They initially sublet the apartment without Board approval, but upon attempting to enter a second sublet, were notified by the Board that a sublet fee was owed. Plaintiffs began to pay the fee under duress, but then ceased payment. The Board issued a notice of default threatening to terminate Plaintiffs' proprietary lease. Plaintiffs sought a declaratory judgment that they were holders of unsold shares, entitled to sublet without paying fees or obtaining Board consent. The First Department found that even if the definition of "unsold shares" in Paragraph 38 of the proprietary lease were read as certain shares "issued pursuant to" the offering plan, and thus incorporated the terms of the offering plan, any noncompliance with the offering plan would not divest holders of unsold shares their status as holders. The court rejected the cooperative's argument that the Plaintiffs' mere intent to occupy the apartment terminated their status as holders of unsold shares. The First Department affirmed the lower court and held that the Plaintiffs were holders of unsold shares.

The facts of LJ Kings, LLC v. Woodstock Owners Corp., 46 A.D.3d 321 (1st Dept. Dec 13, 2007), are similar to those in Kralik, except that the purchaser bought from a designated holder of unsold shares. This appeal involved the shareholder's request for a preliminary injunction, which was granted, enjoining the cooperative from terminating Plaintiff's lease pending the action. The Plaintiff purchased the shares and lease from a holder of unsold shares designated by the Sponsor but Plaintiff was never designated a holder of unsold shares. At closing, Plaintiff signed an agreement acknowledging that it could not sublet without the Board's written consent. Plaintiff never occupied the apartment, but instead, continued to sublet to a tenant of the seller under an existing sublease. Plaintiff renewed the sublease with the tenant without the Board's consent, at which point the cooperative sent the Plaintiff bills for monthly sublet fees. The Supreme Court granted the preliminary injunction and the cooperative appealed. The First Department found that the Plaintiff was a holder of unsold shares. However, the court found that questions of fact existed relating to the effect of the agreement signed by Plaintiff, Plaintiff's potential waiver of any rights as a holder, and breach of the proprietary lease provision requiring the Board's consent to subletting.

The requirement of a designation is significant, since Offering Plans provide that the Sponsor guarantees the payment of the designated party's maintenance. By ignoring the designation requirement, the courts, in effect, are placing involuntarily liability upon Sponsors. The reasoning of the Kralik decision is inconsistent with the Sassi-Lehner decision, and the Kralik and LJ Kings decisions are also inconsistent with the Second Department's requirement of a designation by the sponsor. See 515 Avenue I Corp. v 515 Avenue I Corp., 844 N.Y.S.2d 79 (2d Dept 2007). An appeal to the Court of Appeals appears necessary to resolve the situation.

TRANSFER FEES
What are the requirements for the enactment of a transfer fee? Two recent decisions in Manhattan help to outline such requirements. In Pello v. 425 E. 50 Owners Corp., et al., 2008 WL 1869651 (Sup. Ct., N.Y. Cty.), decided on March 31, 2008, a shareholder in a small, seven unit cooperative challenged the Board's enactment of a transfer fee by claiming it was not passed in accordance with the proprietary lease but was imposed solely by a vote of the coop's board, and not the shareholders. The court held that the board exceeded its authority in imposing a transfer fee because its passage was not in harmony with the terms of the proprietary lease. The proprietary lease could be amended upon a vote of 66 2/3 of the coop's shareholders. An amendment to the bylaws could be passed by either (1) a vote of 2/3 shareholders at a shareholders' meeting, or (2) a majority vote of the Board at a Board meeting. The court found that the voting threshold set by the proprietary lease exceeded that contained in the bylaws and therefore, the Board's vote in imposing the transfer fee did not conform to the stricter requirement contained in the proprietary lease.

In Weigel v. 30 West 15th Street Owners Corp., et al., 2008 WL 1930794 (N.Y.City Civil Ct.), decided on May 2, 2008, a shareholder unsuccessfully contested a transfer fee amended by the Board, which the Court found to be consistent with the cooperative's proprietary lease and bylaws. In this case, the shareholders amended the bylaws to enact a 1% transfer fee. The Board, some years later, amended the bylaw amendment to increase the transfer fee to 2% of the sale price and notified all shareholders of the amendment. The shareholders did not take any action to challenge the amendment passed by the Board. Plaintiff filed suit to recover the 2% transfer fee he paid upon the sale of his cooperative apartment. Plaintiff argued that section 501(c) of the Business Corporation Law required that there be an amendment of the offering plan or the proprietary lease for a transfer to be imposed.

The court found that the imposition of a transfer fee based on a percentage of the sales price paid for the cooperative did not implicate BCL 501(c). The court also found that the amendment of the transfer fee by the Board amending its bylaws was permissible since nothing in the proprietary lease or offering plan prohibited, or was inconsistent with, the imposition of a transfer fee.