Board’s quake insurance strategy is recipe for disaster

Question: Our association’s board downright refuses to purchase earthquake insurance. Instead they’ve instructed every owner, whether of a condominium, a single-family dwelling or a vacant lot in our development, to purchase loss assessment coverage, thinking if a big earthquake happens they’ll specially assess every owner and the problem will be solved. What is loss assessment coverage, and will this work?

Answer: Gambling with titleholder assets is a fool’s game. As fiduciaries who are responsible for overseeing other people’s assets, the board directors have a duty to look after the best interests of the association and its owners, to safeguard against future loss and liability and to provide sound advice to owners based on reasonable investigation and consultation with experts. The plan you describe appears to be an attempt by the board to bypass duties owed to all owners. That plan, however, is not a plan — it is a recipe for disaster.

First, here’s an explanation of some insurance terms, courtesy of Jonathan Forouzan of Forouzan Insurance Inc.

•Loss assessment coverage: If you are an owner in a common interest development such as a condo building, which is governed by a homeowner association, loss assessment coverage typically pays for your share of any special assessments the association imposes, up to the limits of the policy and after accounting for the deductible. Loss assessment coverage is purchased in addition to the individual owner’s general liability and property insurance. However, loss assessment coverage will not pay for assessments related to earthquakes.

•Earthquake loss assessment coverage: This is the type of coverage you need if you want to be protected if the association levies a special assessment to repair damage caused by an earthquake. This type of coverage, which is separate from general loss assessment coverage, should be part of an individual earthquake insurance policy, with its own premium, policy limits and deductible. Earthquake insurance would pay for damage to an individual’s property and the earthquake loss assessment coverage would help pay for damage to the common areas. Again, this insurance is purchased in addition to general liability and property insurance.

There are two scenarios to consider. First, the association doesn’t have a master earthquake policy and, second, the association does have a master earthquake policy.

In Scenario One, where the association does not have earthquake coverage, it may specially assess the titleholders to pay for earthquake damage. Owners may make a claim under their own earthquake loss assessment coverage. In most cases, those funds will not exceed $100,000 per owner. This probably won’t be enough to rebuild the building.

In Scenario Two, where the association does have earthquake coverage, it may still specially assess the titleholders. Here, the money that comes from each titleholder’s earthquake loss assessment coverage could be used by the association to help pay off the master homeowner association earthquake insurance policy deductible. In this situation, where the association is insured, the titleholders and the association may have enough funds to rebuild the damaged building.

Forouzan recommends that homeowner associations carry a master earthquake insurance policy and encourage their owners to carry both homeowner insurance, with general loss assessment, and earthquake insurance, with earthquake loss assessment coverage.

In your case, the board appears to have done little, if any, due diligence as part of its proposal. By considering plans that shift the burden of protection to the homeowners while failing to adequately protect the association, board directors have failed to meet their obligations.

The directors have a reasonable duty to intelligently keep themselves informed on issues that pertain to association governance and its owners. In part, a board director’s due diligence may entail performing independent research or commissioning professional reports and opinions, including consulting with experts such as insurance brokers and agents, according to Corporations Code section 7231. It is crucial that board directors — and owners of any property located within a common interest development subject to a homeowner association — thoroughly understand the nature of protection offered by their respective insurance policies. Then, the association must implement a comprehensive yet reasonable plan to deal with possible disaster.

Zachary Levine, partner at Wolk & Levine, a business and intellectual property law firm, co-wrote this column. Vanitzian is an arbitrator and mediator. Send questions to Donie Vanitzian, P.O. Box 10490, Marina del Rey, CA 90295 or noexit@mindspring.com.