Proper Exercise of Business Judgment Rule by Charitable Housing Society

In Hadjor v. Homes First Society (decided 2010), the Ontario Superior Court of Justice explicitly recognized and applied the business judgment rule to the decisions of a charitable housing society on the re-composition of its membership. The case is particularly significant because it is the first explicit judicial recognition that the business judgement rule ("BJR") applies to a charitable corporation, and as an illustration of how the BJR is applied.

1. Facts

Homes First Society was a corporation without share capital incorporated under the Ontario Corporations Act and a registered charity under the Income Tax Act (Canada). It was one of the oldest and largest charitable alternative housing providers in Ontario. As of 2010, the society operated 16 facilities or buildings in Toronto. The society provided housing for individuals that are most in need, including women's shelters and shelters for those with mental illness and criminal convictions. However, some of its buildings were apartment-like. The applicant, Mr. Hadjor, occupied one of these subsidized apartments.

Hadjor had formerly been a chartered accountant. He became a tenant of the apartment in early 2004. He paid $133 a month in rent, which was about 20% of the market rate. Hadjor was a member of the society and formerly a member of the board.

In 1990, the society received as a charitable donation a building on Wales Avenue. Part of the gift required the society to ensure that at least one-third of the board of directors consisted of residents of its portfolio of non-profit housing projects. In 1993, the society adopted supplementary letters patent to require that one-third of its directors be residents. At the same time, the society opened up its membership so that all residents became members of the society, in addition to the non-resident members set out in the by-laws.

In 2006, the City of Toronto, which provided approximately 70% of the society's total funding, gave notice that, because of its accumulating deficit, the society had become a project in difficulty. The City retained an outside consultant, Berkeley Consulting, to review the society's affairs.

Berkeley reported that the society's basic structure was fundamentally flawed because of the possibility of a struggle for control and the potential for take-over by the resident members. That could result in all, or a majority of the board being composed of residents. If that were to occur, the society would risk losing its charitable status and the extra funding from the City as a hardest-to-house housing provider. Berkeley advised that it would recommend that the City and others not provide any further funding for the society for the purpose of acquiring additional housing until the risk of a resident take-over was resolved.

The board took steps to end the concept of tenants being members. The governance committee stated that the concept of tenants as members was appropriate for a housing co-operative but not for an alternative housing provider that was 70% to 75% financed by municipal or provincial governments.

The governance reform was brought to the membership at the 2008 annual meeting, at which the resident members voted 81% (with 182 of 313 resident members voting) in favour of the resolution to adopt supplementary letters patent removing residents as members.

The governance changes were a success. Within months, the City not only lifted the project in difficult status designation but invited the society to make a proposal to take over the operation of an existing 60-bed Scarborough Home Shelter, which the society won. The City provided approximately $135,000 in start-up capital for the shelter.

Nevertheless, Hadjor opposed the governance changes and commenced proceedings in court to challenge their adoption.

2. Rulings

Justice Belobaba of the Ontario Superior Court of Justice observed that, at the time of the governance changes to admit residents as members in 1993, no one seemed to have considered the implications of whether the changes contravened the provisions of the letters patent to the effect that the corporation's activities could not be carried out for the purposes of gain for its members. That resident members were receiving accommodations at well below market value, funded in part by charitable donations, was apparently not considered.

In his ruling, Justice Belobaba adopted and applied the business judgment rule, which had previously been confined to decisions involving share-capital corporations:

The business judgment rule protects Boards and directors from those that might second-guess their decisions. The court looks to see that the directors made a reasonable decision, not a perfect decision. This approach recognizes the autonomy and integrity of a corporation and the expertise of its directors.

... It operates to shield from court intervention business decisions which have been made honestly, prudently, in good faith and on reasonable grounds. In such cases, the board's decision will not be subject to microscopic examination and the Court will be reluctant to interfere and to usurp the board of directors' function in managing the corporation.

Justice Belobaba had no difficulty finding that the board understood that the recommendations in the Berkeley report had to be implemented. Otherwise, there was a real possibility of residents taking control and, with it, loss of the society's charitable status, its funding from the United Way and its extra funding from the City of Toronto.

3. Key Observations

Despite its name, which reflects its origins in case law involving share-capital corporations, the business judgment rule is a governance rule that applies to all types of corporations: business corporations, charitable corporations (such as the Homes First Society), share capital social clubs, condominium corporations and other types of non-share capital corporations. The recognition of the general applicability of the business judgment rule and its application to the facts of this case are significant contributions to the development of the law applicable to not-for-profit (NFP) corporations.

Directors of charitable and other NFP corporations are entitled to a wide measure of protection against personal risk for the many difficult decisions they must make. Homes First Society provides them with a critical piece of armour.

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