Developers got a significant win in California last week when the California Supreme Court held that an arbitration provision contained in a recorded instrument bound a homeowners association, despite the fact that the homeowners association did not exist when the instrument was recorded and thus had no opportunity to negotiate the provision. The opinion can be found here.
In Pinnacle Museum Tower Association v. Pinnacle Market Development (US), LLC (August 16, 2012) 2012 Cal. LEXIS 7665, a homeowners’ association (“HOA”) sued the developer of a mixed-use residential and commercial common interest community, alleging construction defects. Prior to selling any units, the developer had recorded a declaration of covenants, conditions, and restrictions (“CC&R’s”), which provided that the developer, each individual homeowner, and the HOA, all consented to arbitration under the FAA of any construction-related disputes. Each individual homeowner’s purchase agreement specifically noted the homeowner’s acceptance of the CC&R’s, and the arbitration provision in particular. However, pursuant to California law, the HOA was not actually created until the sale of the first unit.
The HOA sued the developer, alleging construction defects, and the developer moved to compel arbitration. The trial court found that the arbitration agreement was substantively and procedurally unconscionable, and refused to enforce it. The appellate court affirmed, concluding that the arbitration provision in the CC&R’s was not sufficient to waive the HOA’s right to a jury trial, and further that it was unconscionable and unenforceable.
The California Supreme Court reversed, holding the arbitration provision enforceable against the HOA. The court found that the CC&R’s were in the nature of a contract, and that since an HOA is bound by law to other provisions in the CC&R’s, to treat the arbitration provision differently would run afoul of U.S. Supreme Court precedent prohibiting the application by states of more onerous requirements to arbitration clauses than are otherwise generally applicable to contract provisions. And, since the HOA’s membership consisted entirely of the individual condominium owners, each of whom agreed to arbitration of construction disputes by agreeing to the CC&R’s, it was not unreasonable to bind the HOA to arbitration to prevent the individual owners from circumventing the CC&R’s by acting through the HOA. Further, although the HOA argued that the arbitration provision was unconscionable because the HOA had no meaningful opportunity to negotiate the provision because it did not yet exist, the court disagreed. The court found that inclusion of the provision was permissible under the applicable statutes, and that the lack of opportunity to negotiate the provision represented a legislative policy choice.