Would small claims suit affect neighbor's condo sale?

We have an owner of a condo unit in our (Indiana) complex who has suffered mold damage on a basement wall (about $1500 - $2000 to remediate), and they blame it on failure of the HOA's maintenance staff, related to a disconnected downspout near their exterior wall. Their insurance company and the association's insurance company have denied the claim. We have reason to believe the "injured party" is considering suing in small-claims court.

Another owner has stated that the existence of a lawsuit of any kind (possibly even small-claims court) may cause banks to drop loans on other units being sold, until the suit is resolved. He also believes that in some cases the negative effect could last for a year or two after the resolution of the lawsuit – because every bank asks questions of the HOA regarding litigation each time financing is sought to purchase a unit. If true, this could affect everyone's property values. And it might result in more rentals if units cannot be sold, potentially lowering values even more.

Does all or any of this seem plausible?

If so, we might encourage our board of directors to negotiate a settlement with the owner, so it doesn't have to go to court and because it's a small amount. So far, they are opposed to the idea, saying it would set a precedent.

Frank,

Damage caused by water over a period of time is not normally covered by homeowner's policies but may be covered by flood insurance. The fact that the insurance companies denied the claim is not a judgment on the merits of the claim; rather, the denial arises from the lack of insurance coverage for the loss.

All the effects of a lawsuit you mentioned are possible.

Considering that the association would normally be responsible for draining rainwater away from the structure and that it failed to connect a drainpipe to a downspout would strongly suggest that if the owner can prove those two points he would have the association on the ropes in court.

The association can negotiate a settlement of this matter or it can go to court. If the homeowner is represented by an attorney, the association will be on the hook for the owner's costs and attorney fees should he prevail. These costs can easily exceed $20,000. The association will also have to pay its own deductible before its insurance kicks in. If the association loses and the insurance pays the claim, what are the chances that you will be able to renew the policy at the same price?

All things considered, I would suggest negotiating a settlement.

Frank,

As Richard pointed out, Lenders are paying closer attention and evaluating Association financials and practices. Every lender for every sale is asking the Association specific questions. These include:

Are there any Special Assessments?
Are any Special Assessments planned for the next year?
Is there any litigation against the Association?

What the lenders are doing is determining if there are going to be financial responsibilities placed on the borrower that can prevent them from making a mortgage payment.

If there is litigation against the Association, lenders may be less likely to lend for fear of special assessments or court ruling that may require special assessments. This can cause sales to decrease or property being left on the market for a long time which can give a negative impression to potential buyers.

As defined by Merriam-Webster, litigate is:

"to make (something) the subject of a lawsuit : to cause (a case, an issue, etc.) to be decided and settled in a court of law"

intransitive verb: to carry on a legal contest by judicial process

Per the Cornell University Law School, litigation means:

The process of resolving disputes by filing or answering a complaint through the public court system.

So yes, small claims court is considered litigation.

From the OP it appears that the homeowner claims the HOA was negligent in not connecting a drain pipe to the downspout, resulting in mold in the basement. Neither the homeowner's insurance company nor the association's insurance company caused this to happen, so the only likely defendant would be the association itself.

Yes, the homeowner could sue either or both insurers, but if the damage is excluded from the policies he would have zero chance of prevailing.

The effect of a lawsuit if one was filed would be reflected in a HUD form that works like a "HOA Assessment/Appraisal" form. FHA requires one to be filled out by the HOA when they approve loans. However, Freddie mac and Fannie Mae either use that existing data or are moving in the same direction of also having that form. Other bank's and mortgage companies are doing the same. Evaluating the health of HOA's before they approve loans or rates offered.

There are about 25 questions on the form. Mostly asking the number of units, if it is "fee simple", collection rate, and any outstanding debts/liens/foreclosures/lawsuits. Usually the President or an officer will fill out this form behind the scenes without many of the purchaser's ever knowing. It's between the HOA and the lender ONLY. However, it may be in that large stack of paperwork if inquired and filed in time.

The effect of a large number of rental units,(there is a certain percentage determined) raises red flags. The number of uncollected debt without action is a factor. It's best to have liens/foreclosures reported than to show no activity done to collect. The lawsuit involvement should be reported as well. These are the red flags and reports of the "health" of the HOA the mortgagers want to see. It gauges the true risk. Some may not offer good loans or any at all. Others may offer different loan packages or higher rates in those HOA's too high of a risk. It effects refinancing as well. Current owners may have issues refinancing or getting a good rate.

Now this isn't unusual as HOA's are corporations. Even corporations put out a "Prospectus" every year that requires them to reveal such information to their stock holders. This form does basically that. Can you as an owner see it? Maybe or maybe not. The source would NOT be your HOA, but the lender/closing papers. Don't think the HOA is hiding it from you. It's not theirs to keep. It goes directly to the lender. The HOA just knows this information already and should be reporting it at your meetings. Involved owners would already know this information as well if they were involved in their HOA.

Bruce wrote: "There is no such thing as 'precedent' n HOA affairs such as you're describing. Each case is weighed on its own merits. The answer is what solution is best for the HOA in that particular situation."

IMO, Bruce is right on target.

It is cheaper to counter-sue than to bring a lawsuit. Your HOA is better off waiting for the lawsuit and then filing back for costs of defending itself. Just because a lawsuit is filed does not mean it is valid or will be won. Worst case is that your HOA would have to pay the $2K they had to pay out to fix the damage and their legal costs of bringing the suit. It's not like they can get punitive damages.

The court can only make one "WHOLE". Which means if they spent $2K and it was the HOA's responsibility, then the court will only award that $2K and the cost of bringing the suit. It is only in those case of greivace outlandish lawsuits that one may incur some kind of punitive damage in pain and suffering. The court decides who is responsible for the court costs. They may not even award them court costs nor make the HOA responsible for them. The court can even make them pay the HOA's court costs.

People hate it when I state this but it's factually true... You sue your HOA your suing yourself and your neighbors. Just make sure if your going to sue, that your willing to accept this and continue on. Not saying no one doesn't have a case, but realize your not going to suffer some kind of consequence if you do. Best to work with the internal rules/regulations you have than go outside of it...

Since the HOA is a corporation it has to be represented in court by a lawyer unless board allows one person to represent them. Which most would not do since lawyers know what they are doing.

Small claims court amounts vary from state to state.

Yes a claim against the association would badly affect getting a loan or refinancing from any source especially in a condo association - at least until the suit was settled. I have not heard of it affecting it after a settlement, but that could very well be possible especially if the association lost.

Lenders don't like anything that would negatively affect an owners ability to pay their mortgage. Since owners would be responsible for the outcome of any lawsuit and might end up paying a special assessment to cover the loss then that, in theory, could affect the ability of the owner to pay their mortgage.

It sounds to me like the association was at least partly at fault and I wouldn't blame an owner for taking it to small claims court. I agree that the association should be working with the owner to try and come up with a reasonable compromise, but maybe too late now if the owner is mad enough to threaten to sue.