The California Supreme Court recently held that the developer of a condominium project may unilaterally impose arbitration on an owners association by recording a declaration of covenants, conditions, and restrictions that imposes mandatory arbitration for construction defects. (Pinnacle Museum Tower Association v. Pinnacle Market Development (US), LLC (--- P.3d ----, Cal., August 16, 2012). The Supreme Court’s ruling reverses a recent string of lower court decisions that have found arbitration clauses unenforceable against owners associations as “unconscionable” and violating constitutional rights to jury trial. The ruling is considered a victory for the homebuilding industry, which generally prefers to arbitrate construction defect claims rather than taking its chances in a jury trial.
Pinnacle Market Development (US) LLC (“Pinnacle”) developed the Pinnacle Museum Tower Condominium project (“Project”) in San Diego. As required by the Davis-Stirling Common Interest Development Act, Pinnacle recorded a Declaration of Restrictions (“CC&Rs”) to govern the use and operation of the Project’s property. The CC&Rs formed an owners association to govern the condominium owners (“Association”), and Pinnacle conveyed the Project’s common area property to the Association.
The CC&Rs provides that the Association and each condominium owner agrees to waive the right to a jury trial for actions pertaining to construction-related defects, and to have their disputes resolved through binding arbitration. The purchase agreement signed by each individual owner also references the CC&Rs arbitration clause that waives the right to jury trial.
The Association brought a construction defect lawsuit against Pinnacle. Pinnacle filed a motion to compel arbitration. The trial court found the arbitration agreement to be invalid due to unconscionability, and the court of appeal affirmed the trial court’s decision.
The Supreme Court concluded that the arbitration requirement of the CC&Rs is binding on the Association under the Federal Arbitration Act, which upholds arbitration provisions so long as there has been consent to arbitration and the arbitration provision is not unconscionable. The Association argued, and the lower courts agreed, that the arbitration clause was involuntary and unconscionable because it was written by Pinnacle and unilaterally imposed against the Association before any owners were even members of the Association.
The Supreme Court, however, found support for the arbitration clause based upon the stringent process that developers must undergo by the Davis-Stirling Act in order to sell new homes. Under the Davis-Stirling Act, homeowners are deemed to agree to the CC&Rs by their purchase of the unit. The Act contains “various protections to help ensure that condominium purchasers know what they are buying into,” including requirements for developers to provide a copy of the CC&Rs to the buyer, a copy of the Department of Real Estate’s public report approving the development, and an informational statement about the CC&Rs. “Hence, condominium owners should not be surprised by the covenants and restrictions in a recorded declaration,” stated the court. A declaration’s covenants and restrictions will be enforced unless they are unreasonable, and are enforceable against an owners association. Owners associations “should not be allowed to frustrate the expectations of the owners (and the developer) by shunning their choice of a speedy and relatively inexpensive means of dispute resolution.” Likewise, owners should not be permitted to thwart a developer’s expectations “by using an owners association as a shell to avoid an arbitration covenant in a duly recorded declaration.”
The court found that Davis-Stirling does not prohibit a recorded declaration from containing a binding arbitration clause, and in fact encourages the use of alternate dispute resolution. The court distinguished arbitration clauses from jury trial waivers, which have been struck down in recent cases as violating the constitutional right to trial by jury. While the waiver of trial by jury requires “actual notice and meaningful reflection,” arbitration clauses are more acceptable because they remove disputes from the courts altogether.
The Court also rejected the argument that the arbitration clause was “unconscionable.” The clause was not procedurally unconscionable because it was drafted and recorded prior to the owners’ purchase of their units, and owners should be able to rely on its existence. The substance of the arbitration clause was also found to be fair and not unconscionable.
The Court concluded that “Even when privity of contract is lacking, the Davis-Stirling Act ensures that the covenants, conditions and restrictions of a recorded declaration – which manifest the intent and expectations of the developer and those who take title to property in a community interest development – will be honored and enforced unless proven unreasonable. Here, the expectation of all concerned is that construction disputes involving the developer must be resolved by the expeditious and judicially favored method of binding arbitration. We hold that [the] covenant to arbitrate is not unconscionable and is properly enforced against the Association.”
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Jon E. Goetz | 805.786.4302