Fidelity Insurance – Is Yours Adequate?

By Curtis G. Kimble.

What would your association do if you discovered tomorrow that the association’s bank/investment accounts had been completely emptied by a board member and it was obvious that the association would not be getting the money back?

Levying an immediate and large special assessment wouldn’t solve all the problems this situation would create and is an incredibly hard pill to swallow for homeowners in this circumstance.  The association’s fidelity insurance is the key source of hope here.  Fidelity coverage is often called “employee dishonesty” coverage, and that phrase sums up its purpose quite well.  It protects against theft or embezzlement by employees or officers of a company.

However, one important issue could prevent the insurance company from paying out under your policy – volunteers.

Utah law now has detailed insurance requirements that apply to policies issued to Utah homeowners associations (HOAs).  These laws specify the property and liability coverage required for an HOA’s master policy.  But they do not require or mention fidelity coverage.

So, very often, the coverage of an association’s fidelity insurance policy or bond will simply mirror the fidelity coverage required by the association’s CC&Rs.  This is because insurance companies often make coverage determinations based on what coverage the CC&Rs require.  However, many CC&Rs were not written with an adequate understanding of fidelity coverage in an HOA context, so they simply require fidelity coverage in the same form as any company or corporation would carry.

The problem with that is that typical fidelity coverage for a company only covers paid employees, not volunteers.  This is a square hole and round peg situation.  HOAs are not typical companies or corporations.  HOAs are generally served primarily by volunteer officers and directors, and their fidelity coverage needs to reflect that.

So, CC&Rs have to be carefully written to require coverage of volunteer board members and officers and any other volunteers handling the association’s money.  Additionally, a board should be careful to ensure that their policy for fidelity coverage includes an endorsement modifying the coverage to include volunteers.

If your association is professionally managed, it is important to understand that a property management company’s own fidelity coverage does not necessarily protect a client homeowners association, it protects the management company itself from loss of its own funds.  So, the association’s fidelity coverage should also include coverage for the property manager handling association funds.  This is also typically done through an endorsement (which is like an addition or addendum) to the original policy.

Condominiums maintaining or applying for FHA certification (so the units can be purchased with FHA-backed loans, which account for a majority of purchases today) should be aware that FHA requires an association to carry fidelity coverage in an amount no less than three months aggregate assessments plus reserves.  That amount of coverage is good practice for any association.  Fannie Mae and Freddie Mac also have requirements for fidelity coverage.

Finally, it’s also important not to confuse fidelity coverage with director’s and officer’s (D&O) insurance, which protects the association when it is sued for the “wrongful acts” and decisions of its board of directors or officers, and which is also crucial for every association.

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