Understanding When the “Business Judgment Rule” Protects Association Directors

The “business judgment rule” is a rule created by state statutes and a history of court case decisions which have established that, under appropriate circumstances, courts will defer to the business judgment of the directors of a corporation. The rule creates a presumption that the actions of the directors of a homeowners association are taken by bona fide concerns regarding what is in the best interests of the association and its members. Thus, under the business judgment rule, courts will not disturb the decisions of association directors when: (i) the decisions were made in good faith; (ii) the decisions were made with the care that an ordinarily prudent person in a like position would exercise under similar circumstances; and (iii) the decisions were made in a manner that the directors reasonably believed to be in the best interests of the association.

In effect, the business judgment rule protects an association’s directors against liability for decisions that were made which have caused harm to the association so long as, in making the decision in question, the directors acted on an informed basis, in good faith and in the honest belief that the action taken was in the best interests of the association.

The rationale for the business judgment rule comes from the principal that the business and affairs of a homeowners association are managed under the direction of its board of directors and, in performing their responsibilities, directors are charged with fiduciary duties that are owed to the association. Recognizing that corporate decision making inherently involves risks, the statutes and court decisions are designed to enable the directors to make decisions without a constant fear of becoming the subject of lawsuits challenging their decisions and their judgment.