 Good afternoon, everybody. I hope you're having a wonderful day. We appreciate you joining us. Today, as my guest, we have two individuals and we're gonna talk about investments outside of your normal bank deposits and also conflicts of interest and the fiduciary duties for board members relating to that. We have Nalan, who is with the law firm of Assert Cup Check. I've got to call that. B.M.K. Leon, the Cup Check has turned. And we have David Nievey, who is an entire CPA. He is originally from San Francisco and was very active in the accounting for corner communities. And it's very vested and knowledgeable about the California laws. But most importantly about money. That's the important part about money and how to make sure you don't lose it and you manage it correctly. So what I wanted to start off is because we get a lot of emails from board members asking questions about moving their money outside of the normal FDIC insuring bank deposits. They want to move them into mutual funds or what's one that I heard was IBON or something else that would be some other, I call them vehicles. And then the other part of the question was the people that are approaching them or having the conversation with these board members are related to a board member. So it could be their existing broker that the board member uses or it's like a relative of a board member that are soliciting these board members to do these investment opportunities. Because everybody wants the better bank for their buck but sometimes it's not always the correct way when it comes to handling association money because you have the physician doing it, maintaining it and not wasting it and doing that decision making. So let's start off with not tell us about what the statute says of what they can and cannot do. Yes, so in Hawaii, the condominium statute in section 149, I'm talking about chapter 514B of course, it talks about how the association should handle and disperse its funds. Specifically, of course they require the funds in the general operating accounts of the association not be commingled with the funds for other activities, for reserve study funds like the investment portion in subsection B, in subsection C, basically it talks about, there are several options and there's a or in between these options meaning all these options are permissible under the statute, of course, deposited in a financial institution located in Hawaii whose deposits are insured by agency of the US government or it could also be a trust company authorized to do business in Hawaii or held by the US Treasury or purchasing the name or held for the benefit of the association through a securities broker that has office in Hawaii and also the accounts are insured by securities insurance protection corporation. Of course, it also possible for a federally insured financial institution in Hawaii for investment in CDs, federally insured as well. So David, what's your take would be when boards move their funds outside the traditional FDI school insured depository account? Okay. Well, I'm gonna start off with a war story about an association that won a $7 million lawsuit and they didn't need all their money right away and unfortunately for this association they had a board member who was a stock broker and the stock broker convinced the board they could get a better rate of return by investing in stocks and bonds and unfortunately this association was making good money for a little while until the market took a turn for the worse and they ended up losing $2 million. Generally, as not pointed out, board members are fiduciaries and they need to protect the principal. It's not about how much money you make it's about whether you lose any money. So most associations traditionally invest in certificates of deposit or treasury securities. Certificates of deposit, there's a limitation of $250,000 per institution unless the institution is part of what used to be called the CEDARS program and now it's called intra fine network deposits. So basically if the association, let's say had a million dollars and that they only like dealing with one particular financial institution if that institution is a member of this network then it would take $750,000 in $250,000 chunks and invest it in other banks that could be located anywhere within the United States and that's okay as I understand reading the Hawaii statutes and that's pretty common because otherwise if the association has several million dollars but there's a $250,000 limit per institution you'd have to open up bank accounts everywhere. So that's probably the most logical source of investment for associations. Also in today's world, it makes sense to ladder your CDs. In other words, stagger the maturity dates by six months or a year, especially at the moment since interest rates are rising and that way your money is protected and you're still earning a pretty good rate of return. For those that want to invest in any US treasuries, the association can open up an account in the association's name, not an individual and open a treasury direct account and we've had a lot of clients that have done that over the years. So one question that was posed to me because some of the banks have their brokerage divisions where they do seem to use it other kinds of stuff like that. So are they still covered under FDIC if they put it into their brokerage divisions? Well, as a matter of fact, some of the big name brokerage houses, if you look carefully at their statements, some of them have banks. So like Merrill Lynch, okay, they may have a Merrill Lynch bank as well as your securities account. And if you read the statements very carefully, it will indicate how much money is in the bank accounts and how much is covered under the $250,000 FDIC limit. So yes, with some brokerage houses, you can have FDIC insurance, but for most securities, it's covered by CIPIC insurance. Securities, investors, protection corporation, that is not the same thing as FDIC insurance or whatever the federal insurance is on credit unions. Okay, so now what would be the legal requirement for a complex of interest when they're using a board member is introducing someone that they know to invest the association funds and how does the board need to really react to their fiduciary duty about placing those funds into something else other than FDIC insured depository? A conflict of interest transaction, that refers to when the director of the association has either like direct or indirect interest. In a situation, of course, if your relative works for that brokerage, under the statute, if you look at a 414D-150, not exactly fitting to the definition there, but still it's inappropriate. Like any bidding situation, I usually recommend my clients, at least get three bids, compare. And if you have that affiliation, it's good practice for the board director to make this closure and then try to recuse from voting on this specific issue. You can have the rest of the board follow director's vote on it, and they can have multiple biddings. Again, you also got to compare with the commission amounts. If some other better vendor offers a better deal, then you choose the best. Ultimately, the guiding star, still the standards of fiduciary duty. As the director, you owe the fiduciary duty to the association. What would a reasonable board director in similar circumstances would do? Did you put the association's interest first? And did you act in good faith? Are you relying on good advice from your CPA or from licensed investment professional, or you're just out of your own interests, try to make a self-dealing, or that's all the situation there. But of course, for association reserve funds, as David mentioned, the primary purpose is to try to preserve the principle and also to maintain that liquidity accessibility when you need the money. I mean, even if it's a very safe return, but if you're gonna be locked in for 20 years, the association won't be able to access it. But when the need arises, that's not a good prudent investment. So really it depends on the circumstances and it goes all into the analysis, weighing down of course the best advice for any board facing that situations to say consultation from your attorney, say consultation from your CPA or investment professional to really make the best decision for the association. Yeah, that's a good point, but not putting all your hands into one basket. So don't move all your reserves into another fund that you're locked into for X amount of years, because some could be 10, 15 years before they come to maturity, right? So if some emergency arises, that you're stuck because you have that one fund that you can't take the money out or you suffer a big penalty if you take it out early, right? In some of those... Yeah, one other point if I might interrupt. We can confirm this with NAH. I think part of the statute I saw somewhere that if the maturity dates more than 10 years, then either the membership has to approve it or maybe the board has to do something more in terms of scrutiny about it. That's correct. The statute basically says if the obligation you invested in has a maturity longer than 10 years, then a majority vote of the unit owners will be required, either at an annual meeting or special meeting or via a written consent process that's all required under way of. Great. Also another point in looking at the Treasury securities or certificates or deposit. Remember that if you buy Treasury securities, you are not subject to state income tax on Treasury security interest. So even though oftentimes the CD rate might be slightly higher than Treasuries, it might be worth checking with your CPA to see if possibly the Treasuries are a better deal than CDs because it's tax-free at the state level. Right. So yeah. So you would maximize the actual learning potential. Why would you get that? How it all plays out again at the end of the day. Right. So we're, so if I was sitting on a board and we're number one, whoever introduced this concept, they're using the concept, and they were board member. So they really, once they introduced it, kind of have to excuse themselves for any participation in the discussion of this particular item going forward, correct? Because they have to dispose of nature and they can't participate in the discussion. If they're going to be special with the funds into another vehicle, right? Are you saying if they have a conflict of interest? Right. So they have to dispose it, the nature of the conflict, and then they can't participate in the ongoing discussion of that particular topic. Am I understanding that correctly? No. Well, before we get the legal opinion, the non-legal opinion might be that it would be okay to be able to discuss, but I can't vote on what to do. I agree that that is, yeah. So if there is a conflict, then definitely make this closure and then you cannot vote on it. But I think you're still entitled to information as a director, that's no problem. If you are still in the meeting, they're not like held in a special executive session, including that person, that should be fine, yeah. Another thing for people to consider with perhaps with brokers or any financial institution is what is their fee? In other words, just because you buy a treasury security of a given rate, I know this personally for banks and treasuries securities, the financial institution gets a small cut also. So it's, what's your bottom line that you're getting with a given investment, whether it's a treasury, a certificate of deposit or anything else? So what's your actual earnings minus expenses? Exactly, yes. So it looks good on paper, but then when you get to the bottom line, it's like, oh, well, it equals to a CD, you know. So when they're discussing this item in a board meeting, can this item be done in the executive session? You're talking about the decision to invest in a certain, well, ultimately all official decisions of the board needs to be reflecting in the board meeting. I mean, but if, for example, you're interviewing certain contractor or vendor, you're just still doing that due diligence portion, try to compare deals, I think it's okay to do it via executive session, but ultimately when the board is ready to vote, that process needs to be recorded in the official board meeting minutes. It cannot be just in the executive session, no. I just wanted to make sure that some people are using executive session to kind of move away from the transparency of everything. So that was one question I came up, I don't know if you know the session, that's what you're talking about. Thank you very much. Another comment about executive session minutes. In my many years of practice as a CPA, I've noticed that some associations do not keep the executive session minutes separate from the regular board meeting minutes, which seems to kind of get away from what the whole point of having executive session minutes is. Anyway, sorry for the interruption. Yeah, so executive session should be used only for situations where you need to preserve certain confidential information like attorney client privilege information, sensitive personnel issues, or like, you know, when you deal with a certain vendor, try to compare pricing, that sort of treat secret kind of sensitive information. They don't want the public to have access to, those are, you know, or you know, like you have a fair debt issues, you're trying to sort out a dispute with a certain owner who has a grievance of certain claim, then you use that process to deal with it, but it's not a place where you conduct official association business. Okay. All right, so any other tidbits that you want to, to let our board members know on this particular topic, like, you know, David, if you can reiterate about the safe way of keeping your money safe and the legal issues, if you move your money outside of the safe, or you know, the typical safe environment, what's the ramifications that can happen to the board? Well, I mean, to bring up a subject we talked about before this session, let's say that the association wants to invest in bonds of either state of Hawaii or federal government, because maybe the bond rate is a little bit higher than CDs or Treasury notes or bills or something. The thing about bonds, my personal preference is, if you're gonna buy bonds, buy the individual bond so that if it declines in value, as long as you hold it to maturity, you won't lose any money. But if you buy a bond fund, even though perhaps it's okay under Hawaii statute, you could lose principal if when you have to sell it or get out of the fund, the value happens to be down. So, you know, once again, I would repeat, you know, the idea is to preserve the principal. That's your fiduciary duty. And that's exactly what you should be doing. Sorry about that. I can't. No issues. Sorry, David. No. I'm sorry. Yep. I'm not. Okay, so of course the statute says any person who embezzles or knowingly misapplies association funds received by the managing agent or the association is guilty of classy felony. In reality, if a board, you know, bridges their fiduciary duty on reserve study, investment and, you know, in general handling of the reserve study, then, you know, you are exposed to claims, lawsuits, even personal liability. I want to point out, you know, as far as the, you know, you got to also make disclosures. The law requires you in the Hawaii administrative rules. There's a specific provision talking about, you know, if your reserve is underfunded or there are certain even components of your common elements that are exempted in the reserve study, all of this close that clearly in your, you know, budget or reserve study information disclosed to all the union owners. And if you are not behaving well, the association members have the right to sue you, a director. They can even, you know, in that situation not hold the association responsible for these lawsuits they incurred in pursuing this kind of claim. They can directly go after directors to collect that kind of expenses they incurred to try to protect the association's overall interest. That is in section 16-107-75 of the Hawaii administrative rules. So really just, you know, fiduciary duty should never be taken lightly. In this kind of situation, I think as David mentioned, it's always better to, you know, act prudently even error on the safe side, you know, as a fiduciary. So takeaways is really ultimately, if you invest money, don't do it to the point where you're going to lose your principal. Even after you subtract out your costs, you really don't want your principal to be paying any fees or costs or charges to get out of it early. When you want to preserve that your principal about whatever money you put in, you know, you may have gained and you may have lost but you've not taken away from your original investment. And making sure you do your due diligence, apply the business judgment rule, do your, if you're related to the person that's doing the presentation or where the money's going to go to, make sure you properly disclose your conflict of interest and conflict of interest, business judgment rule and fiduciary duty to the association. Right? That seems to cover them all. Great. Let's say. So when you get to this junction, you guys, I mean, every board member needs to understand that they should also make sure that they seek the advice of their legal counsel when it comes to something like this. This is really to me very sensitive. And it could ultimately cost the association an unimaginable amount of money in the end if it goes sideways or goes south, right? So you want to always make sure you have the, I want to say the blessing of your legal counsel. And I'm sure they will put in some precautions as well of what not to do or don't do this or, you know, make sure that the board is covered and they're properly disclosing this information to their owners of what they're planning to do with the association funds. So any other closing comments that any of you want to make? Yes, never buy stocks in the stock market as a homeroomist association. Okay, I think we're nearing our end. So I really want to thank both of you for participating in today's segment of Condo Insider regarding what are for our reserve money funds and how to not lose them. And then also making sure that we all comply with our comfortable ventures business judgment rule and fiduciary duty as board members that we need to really comply so that we don't get into a legal situation that's going to really take that money away in legal fees to protect the association, right? So thank you. And I hope you guys all have a good weekend and hope to see you soon. Thank you now. Thank you, David. Thank you really. Enjoy the rest of your day. You too. You too. Bye bye. Thank you so much for watching Think Tech Hawaii. If you like what we do, please like us and click the subscribe button on YouTube and the follow button on Vimeo. You can also follow us on Facebook, Instagram, Twitter and LinkedIn and donate to us at thinktechhawaii.com. Mahalo.