NCAS Realty Management Corp. v. National Corp. for Housing Partnerships

• Decision Date: 28 April 1998
• Docket Number: Docket No. 97-7326
• Citation: 143 F.3d 38
• Parties: NCAS REALTY MANAGEMENT CORP., Plaintiff-Appellee, v. The NATIONAL CORPORATION FOR HOUSING PARTNERSHIPS and The National Housing Partnership, Defendants-Appellants.
• Court: U.S. Court of Appeals — Second Circuit

Page 38

143 F.3d 38

NCAS REALTY MANAGEMENT CORP., Plaintiff-Appellee, v. The NATIONAL CORPORATION FOR HOUSING PARTNERSHIPS and The National Housing Partnership, Defendants-Appellants.

Docket No. 97-7326.

United States Court of Appeals Second Circuit.

Argued Oct. 23, 1997.

Decided April 28, 1998.

Rodney F. Page, Washington, DC (David N. Wynn, Mark P. Monack, Arent Fox Kintner Plotkin & Kahn, New York City and Washington, DC, of counsel, on brief), for Defendants-Appellants.

Stephen E. Powers, New York City (Warshaw Burstein Cohen Schlesinger & Kuh, LLP, New York City, of counsel), for Plaintiff-Appellee.

Before: WINTER, Chief Judge, CARDAMONE, Circuit Judge, and POLLACK ^*, District Judge.

CARDAMONE, Circuit Judge:

The subject of this appeal is the relationship between the general partners of two housing projects in New York City. Plaintiff is the local managing partner while defendants are supervisory partners who, based in Washington, D.C., were not on the scene. Defendants ask us to reverse a judgment of the United States District Court for the Southern District of New York (Smith, M.J.), entered February 20, 1997, that dismissed the entire lawsuit between these parties, including not only plaintiff's complaint but also defendants' counterclaims. The thrust of those counterclaims, governed by New York law in this diversity action, is a demand for an accounting arising from evidence of plaintiff's self-dealing and for removal of plaintiff as local managing partner.

A partner, as a fiduciary, is held to higher standards than those of the marketplace. "Not honesty alone, but the punctilio of an honor the most sensitive, is then the standard of behavior." Meinhard v. Salmon, 249 N.Y. 458, 464, 164 N.E. 545 (1928) (Cardozo C.J.). Because opportunities to profit fall especially into the path of a managing partner, a heavier duty is imposed on plaintiff who acted here not simply as a co-general partner with defendants, but also as the local manager of the partnership projects. Plaintiff failed to honor the rule obtaining between partners--that of undivided loyalty. Accordingly, we reverse the judgment appealed from, and remand this case to the district court with directions that it grant defendants the relief they seek.

BACKGROUND

Although neither party disputes the magistrate judge's findings of fact, we review those facts to give the reader an understanding of the nature of the relationship between plaintiff and defendants. Plaintiff NCAS Realty Management Corp. (NCAS) is a New York corporation that develops housing for low-- to moderate--income families under the federal "Section 8" housing program. Defendants are the National Housing Partnership, a Washington, D.C. partnership organized pursuant to 42 U.S.C. § 3931 et seq. for the purpose of encouraging maximum participation by private investors in programs providing low-- to moderate--income housing, and the National Corporation for Housing Partnerships, another Washington, D.C. corporation and the sole general partner of the National Housing Partnership (collectively the National Partnership or defendants).

NCAS and the National Partnership entered into two limited partnership agreements as co-general partners. One, for Academy Gardens Associates (Academy) signed on November 27, 1979, governs the operation of a housing project in the Bronx, New York. The other, for Buckingham Hall Associates (Buckingham), was signed a year later on November 26, 1980 and relates to property in Brooklyn, New York. Both agreements provide that NCAS would be the local general partner, responsible for the day-to-day operations of the housing projects. The National Partnership acted as the supervisory managing agent. Since both projects received federal grant funds and subsidies, the management of the properties was regulated by the United States Department of Housing and Urban Development (HUD).

A. Partnership Books and Records

For over a decade, both these partnerships functioned without major incident, but then problems surfaced that ultimately led to this litigation. Relations began to sour in August 1994 when the National Partnership thought the quality of management and financial reporting for the Academy and Buckingham projects was unsatisfactory. Although the partnerships at that time employed the accounting services of J.H. Cohn & Company, the National Partnership decided to engage the accounting firm of Deloitte & Touche, L.L.P. (Deloitte) to audit the projects' 1993 books and records.

On August 24, 1994 Deloitte reported that in its opinion, plaintiff had calculated its management fee in violation of HUD regulations, used identity-of-interest firms without authorization, and neglected to include in the records all HUD-required financial statements and schedules. The National Partnership thereafter named Deloitte as the new auditor for both housing projects, asserting authority to do so under § 5.08(b) in each partnership agreement. It notified plaintiff of this change by letter dated October 28, 1994. The magistrate judge found that plaintiff made no timely objection pursuant to the terms of the partnership agreements.

When defendants made a further request to review the books and records of the partnerships, plaintiff refused to give defendants access to those records and commenced the instant litigation on January 26, 1995 in state court. After removing plaintiff's suit to the Southern District of New York, defendants filed an order to show cause on March 10, 1995 seeking a temporary restraining order and preliminary injunction that would allow its chosen auditor to review the books and records so that the year-end 1994 financial statements could be prepared. District Court Judge Barrington D. Parker, Jr. held a conference on March 10, at which time plaintiff agreed to permit access to defendants and its representatives. The parties also agreed that Goldenberg, Rosenthal & Friedlander (Goldenberg) would conduct the year-end audit. When on March 22 plaintiff failed to abide by this agreement and afford defendants access, Judge Parker later issued an injunction granting defendants permanent access to the partnership books and records.

B. Use of Identity-of-Interest Companies

Defendants on March 2, 1995, acting pursuant to § 3.03 of the Academy agreement and § 3.09 of the Buckingham agreement, wrote NCAS and gave notice that they were withdrawing their consent for the use of "affiliated persons" (also referred to as identity-of-interest companies) to provide contract services to the partnerships. An "affiliated person," as defined under the agreements, is one who is a partner, related to a partner, or controls, is controlled by, or under common control with a partner.

The magistrate judge found that plaintiff, as the managing partner, had contracted with the following "affiliated persons": Alpha Plumbing and Heating Corporation; Durable Painting Corporation; Noral Security Systems, Inc.; Paramount Boiler and Sewer Services, Inc.; and NCAS Realty Management (plaintiff negotiated with itself as the managing agent and was paid a management fee to operate the housing developments under the partnership agreements). Although the partnership agreements provided that the partnerships could contract with such entities only if both general partners gave their approval, plaintiff admits it took no steps to comply with these terms after it received defendants' March 2 letter, saying that its failure to act was pursuant to advice of counsel.

C. Auditors' Findings

When Goldenberg issued its final 1994 year-end report, it opined that plaintiff was responsible for "material instances of noncompliance" with HUD regulations. While a number of findings were made, four are relevant to the issues on this appeal.

First, Goldenberg discovered that NCAS caused Academy to overpay Noral Security Systems by $179,493 for hours of work that were never performed. Second, Academy paid $26,045 in interest that Noral Security Systems had accumulated on a sales tax deficiency. Third, both Academy and Buckingham paid plaintiff funds in excess of allowable expenses for management fees, payroll and payroll taxes. Fourth, Buckingham paid plaintiff certain management fees prematurely because they were based on anticipated, as opposed to actual, rent collections. The nature of the Goldenberg report prompted the New York City Housing Development Corporation to initiate its own investigation, which uncovered similar wrongdoings. Plaintiff does not deny that it engaged in this questionable conduct. In response to the findings, plaintiff prepared a corrective action plan.

Subsequent to Goldenberg's audit, Deloitte in April 1995 reviewed certain books and records of plaintiff's identity-of-interest companies that had provided services to Academy and Buckingham. The magistrate judge observed that the type of review Deloitte performed was more detailed than the scope of an audit involving financial statements, because Deloitte focused on books, records and source documentation. In addition, the trial court found the resulting report was prepared in good faith and in accordance with generally accepted accounting principles, as well as with HUD regulations.

Listed below are Deloitte's findings with respect to Academy's funds, which we set forth in full because they are critical to resolving the issues raised before us. Some mirror those set forth in the Goldenberg report.

1) Academy overpaid Noral Security Systems for hours of work that were never performed. For the years 1991, 1993, and 1994, the amount totalled $265,724.

2) Academy funds were used to pay the interest that had accumulated on Noral Security System's sales tax deficiency, in the amount of $26,045.

3) Academy paid improper bonuses to employees of Noral Security Systems, NCAS (as management agent), and other non-partnership employees.

4) NCAS improperly calculated its management fee.

5) NCAS deposited partnership funds in its...