By Glen Hansen

In Pinnacle Museum Tower Assn. v. Pinnacle Market Development (US), LLC (2012) 55 Cal.4th 223, the California Supreme Court held that a defendant developer who recorded a declaration of covenants, conditions, and restrictions (“CC&Rs”) could enforce an arbitration provision in those CC&Rs in a construction defect action filed against the developer by a condominium association governed by those CC&Rs, even though the association did not exist as a separate entity when the CC&Rs was drafted and recorded. The Court resolved a split of opinion in the appellate courts

In Pinnacle, a developer of a condominium project recorded CC&R’s that formed a homeowners association. The CC&Rs contained a mandatory arbitration procedure under the Federal Arbitration Act (“FAA”) and the California Arbitration Act for the resolution of construction defect disputes that included the waiver of the right to a jury. When it sold each of the condominium units to the buyers, the developer used a standard purchase and sale agreement that contained a dispute resolution provision that referenced the arbitration provision in the CC&R’s. Under the CC&R’s, each condominium owner must be a member of the association. In this case, the association filed a construction defect action against the developer on its own behalf and as a representative of its members for damage to common areas, property owned by the association, and property owned by individual members. While the trial court found that the CC&R’s provision constituted an agreement to arbitrate entered into by the developer and the association, the trial court nevertheless denied the developer’s motion to compel arbitration because it found the CC&R’s provision was unconscionable. The Court of Appeal affirmed, but on the basis that the arbitration provision in the CC&R’s did not constitute an “agreement” sufficient to waive the constitutional right to jury trial for construction defect claims brought by the association because (a) the association did not exist until the CC&R’s were recorded; (b) only the developer signed the CC&Rs; and (c) there was no evidence that the association agreed to the arbitration provision. The Supreme Court reversed and remanded for further proceedings.

In determining the rights of parties to enforce an arbitration agreement within the FAA’s scope, the Court recognized that it must apply state contract law while giving due regard to the federal policy favoring arbitration. Those state contract laws include the following:

Generally, an arbitration agreement must be memorialized in writing. A party’s acceptance of an agreement to arbitrate may be express, as where a party signs the agreement. A signed agreement is not necessary, however, and a party’s acceptance may be implied in fact or be effectuated by delegated consent. An arbitration clause within a contract may be binding on a party even if the party never actually read the clause. [Citations omitted.]

The Court disagreed with the Court of Appeal and held that the arbitration clause was binding on the Association because the Legislature provided for the reasonable delegation of authority to consent:

That a developer and condominium owners may bind an association to an arbitration covenant via a recorded declaration is not unreasonable; indeed, such a result appears particularly important because (1) the Davis-Stirling Act confers standing upon an association to prosecute claims for construction damage in its own name without joining the individual condominium owners (Civ. Code, § 1368.3) and (2) as between an association and its members, it is the members who pay the assessments that cover the expenses of resolving construction disputes. Given these circumstances, an association 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, condominium owners should not be permitted to thwart the expectations of a developer by using an owners association as a shell to avoid an arbitration covenant in a duly recorded declaration.

The Court held that there is nothing in the Davis-Stirling Act itself that prohibits a recorded declaration from containing arbitration covenants. The Court further held that the FAA precludes judicial invalidation of an arbitration clause based on state law requirements that are not generally applicable to other contractual clauses, such as actual notice, meaningful reflection, signature by all parties, and/or a unilateral modification clause favoring the non-drafting party. 

Also, the Court found that the provisions for arbitration of construction disputes in the CC&Rs was not unenforceable as either procedurally or substantively unconscionable. 

Thus, the Court concluded that, even when strict privity of contract is lacking, the Davis-Stirling Act ensures that CC&Rs that 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. In this case, 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.

Glen Hansen is senior counsel at Abbott & Kindermann, LLP. For questions relating to this article or any other California land use, real estate, environmental and/or planning issues contact Abbott & Kindermann, LLP at (916) 456-9595.

The information presented in this article should not be construed to be formal legal advice by Abbott & Kindermann, LLP, or the formation of a lawyer/client relationship. Because of the changing nature of this area of the law and the importance of individual facts, readers are encouraged to seek independent counsel for advice regarding their individual legal issues.