Documentation and Operation of Timeshare Plans

By Arthur O. Spaulding Jr., Karen D. Dennison, and Robert S. Freedman

Arthur O. Spaulding Jr. is a partner at Cox Castle Nicholson in San Francisco, California. Karen D. Dennison is a retired partner at Holland & Hart LLP. Robert S. Freedman is a partner at Carlton Fields, P.A. in Tampa, Florida, and is the Section’s Real Property Division vice chair.

This article explains the governing documents for different types of timeshare plans and discusses the operational requirements of timeshare associations, including budgets, management, rentals, and the termination of the plans.

Generally

Timeshare plans are generally governed by a set of legal documents—often described as the “governing instruments” or “governing documents”—that establish the manner in which the timeshare plan will be established, operated, and administered, usually by a timeshare association (Association) formed as a nonprofit corporation. The governing instruments usually consist of the following, the titles of which will vary by statute and custom and practice in the relevant jurisdictions:

1. Declaration of Covenants, Conditions and Restrictions (the Declaration);

2. Articles of Incorporation of the Association (Articles);

3. Bylaws of the Association (Bylaws);

4. Rules and Regulations of the Association (Rules and Regulations); and

5. Management Agreement between the Association and a thirdparty management company, often the developer or an affiliate of the developer (Management Agreement).

If the project is a multisite project or a vacation club, there may also be a trust agreement providing that the properties in which an owner may reserve a use period are owned by a trustee for the benefit of the Association and its members. Almost all timeshare plans also involve an exchange affiliation agreement with a third-party exchange company.

Of the governing instruments identified above, the Declaration is the single-most important, as it will contain the detailed provisions establishing the fundamental rights, duties, and obligations of all parties, including the developer (or declarant), the Association, and the members and owners. It will define and identify the nature of the timeshare interests; the easements and rights granted to and reserved from the Association and the members by the developer; the voting rights of the members and any veto powers retained by the developer; the specific rights, duties, and obligations of the Association; the establishment of the assessment structure for the timeshare plan, including both regular and special or reconstruction assessments; the enforcement rights of the Association; provisions for dealing with damage, destruction, and condemnation; amendment procedures; and any other specialty provisions relevant to a project or required under the governing laws.

Although this article mentions vacation club operations in a few places, the variations attributable to multisite, multistate timeshare plans are beyond the scope of the article. Suffice it to say here that the developer will need to take care to ensure that in the structuring of a timeshare vacation club, the laws of every jurisdiction in which timeshare interests will be offered and sold must be taken into account in the design of the program. There are complex operational issues attendant to having a single Association operate and administer a vacation club with multiple locations in multiple states.

Overview of Owners Association Operational Requirements

In most states, the timeshare plan will be operated and administered by a nonprofit corporation that will function as an owners association, the members of which will be the owners of the timeshare interests in the timeshare plan. Although California law does not expressly require the formation of an Association, the California Time Share Act clearly contemplates the existence of an Association. The Declaration for the timeshare plan must provide for the organization of an Association, see Cal. Bus. & Prof. Code (BPC) § 11251(a)(1), and the act is replete with references and requirements relating to the Association. Likewise, Nevada’s Time Share Act, by implication, requires the formation of an incorporated association by providing that “each owner is a member of the association for the time-share plan” and further provides that the state of incorporation may be the State of Nevada, the state in which the project is located, or any state where the developer has obtained a permit to sell. See Nev. Rev. Stat. (NRS) § 119A.520. In Florida, a timeshare plan need not have an owners’ association, but each timeshare plan must have a managing entity, which can be the developer, a separate manager, a management firm, or an owners’ association. However, the managing entity for any timeshare plan within a Florida condominium or cooperative is required to be an owners’ association’s board of directors. See Fla. Stat. (FS) § 721.13(1).

The state of incorporation for singlesite programs will always be the state in which the project is located. Generally speaking, the nonprofit laws of the state of incorporation will provide the organizational and meeting requirements for the Association, although the respective timeshare statutes may be more specific and more restrictive. The details of the Association’s governance structure (i.e., the requirements for the election of directors, the voting rights of the members, the frequency of annual meetings of the members, the provisions governing the conduct of business by the board of directors of the association, etc.) will be contained in the standard form of nonprofit corporation bylaws. The provisions of the Bylaws will need to be conformed to any specific provisions in the Declaration (such as the timing for the transfer of control of the Association from the developer to the Association). The specific rights, duties, and obligations of the Association with respect to the operation of the timeshare plan and the maintenance, repair, and replacement of the project will usually be established in the Declaration. The Declaration will ordinarily be required to be recorded against the project. See BPC § 11251(a); Nev. Admin. Code (NAC) § 119A.030; FS §§ 718.104(2), 719.1035(1). The rights of any underlying mortgagees will ordinarily be required to be subordinated to the Declaration. See BPC §§ 11226(d)(2), 11244(a)(1), 11255; NAC § 119A.230; FS § 721.08(2)(c)2.c.

Typically, the Declaration will provide that the Association shall have all of the rights, powers, and duties generally given to and imposed on nonprofit corporations in the jurisdiction of its incorporation and will then separately delineate the power and the duties of the Association to maintain and repair the project; to administer the affairs of the members and the operation of the timeshare plan as provided in the Declaration; to acquire (by lease or purchase), maintain, repair, and replace the common furnishings within the units; to levy, collect, and enforce the assessments enumerated in the Declaration; to rent the units; and to pay, as agent, the expenses and costs enumerated in the Declaration. The Association will have the exclusive possession of each unit during applicable maintenance periods for the performance of maintenance and repairs on such units and the rental of units under any Association rental program. The Declaration typically will cover the following topics:

1. Association bank accounts, including reserve accounts for the collection and expenditure of reserves on deferred capital projects;

2. budget preparation and distribution and preparation and distribution of required financial reports;

3. cleaning and housekeeping of the timeshare plan’s accommodations;

4. cooperation and coordination of activities with the developer;

5. delegation of authority;

6. exchange program coordination;

7. inspection of records;

8. insurance requirements;

9. levy and collection of assessments;

10. maintenance and repair of the project;

11. maintenance of reserves;

12. minutes, agenda, and policies;

13. other necessary acts;

14. parking;

15. rental programs;

16. representation in condemnation proceedings;

17. reservations;

18. rights of entry;

19. roster of owners;

20. rules and regulations;

21. taxes and assessments; and

22. utilities.

Note that vacation clubs sometimes require different iterations of the governing instruments in order to comply with the laws of the different jurisdictions within which timeshare interests constituting club memberships will be offered for sale. At the outset of the legal structuring of a vacation club, care needs to be taken to design the timeshare plan so that it will comply with the most restrictive of the timeshare laws that will be applicable to the program. The operational issues that are addressed in a statutory scheme will need to be reflected in the governing instruments.

Budget Requirements and Reserves

In most jurisdictions, the Association will be obligated under the terms of the Declaration to prepare an annual budget for the timeshare program and to provide a copy of the proposed annual budget to the Association members prior to the commencement of the fiscal year of the Association to which the budget is applicable. See BPC § 11272(a)(1); FS § 721.13(3)(c)1. In Nevada, the current annual budget of the Association must be submitted with the initial permit filing and with each annual renewal of the permit. See NRS §§ 119A.300(1) (k), 119A.355(1). The budget will itemize the annual costs of the operation of the timeshare plan and will establish the basis for the annual assessments to be billed to the members. In California, the initial proposed budget for the Association must be filed with an application for a public report and must be certified by an expert in timeshare plan financial matters, which expert must be an independent certified public accountant, a certified public accountant employed by the developer, or another person the real estate commissioner has determined to be qualified to prepare a timeshare plan budget. See BPC § 11240(f). In Florida, a copy of the final budget must be filed within 30 days after the beginning of each fiscal year. FS § 721.13(3)(c)1.

In most states, the annual and any special assessments must be divided proportionally among the timeshare owners, using a formula based upon equal assessments for all members of a particular class of owner. See BPC § 11265(a); FS § 721.15(1). Florida, however, requires only that common expenses be allocated among the timeshare interests on a reasonable basis, and there can be differentiation in the allocation based upon the reasonable difference in benefits provided. FS § 721.15(1)(a). Nevada requires only that the timeshare instrument provide for an allocation of the expenses of the timeshare plan among the timeshares. See NRS § 119A.380. Classes of ownership may be created where, for example, there are multiple types of units in a project (studio, one-bedroom, two-bedroom, etc.) and the costs allocable to those units vary by square footage. In some states, such as California, the Association may not increase the budget (and thus the amount of annual assessments) by more than 20 percent on an annual basis without the vote or consent of a majority of the owners other than the developer. See BPC § 11265(a)(5). Nevada has no restriction on yearly increases in assessments. That said, assessments must reflect a budget that is a good faith estimate of the expenses for the next fiscal year. The Florida Time Share Act does not limit annual increases in assessments, but the Condominium Act limits annual increases to 15 percent without approval of the owners. See FS § 718.112(2)(e)2.a. The developer will be obligated to pay regular and special assessments on the timeshares it owns. See BPC §§ 11241(a)(1), 11265(a)(4); NRS § 119A.540; Fla. Admin. Code Ann. (FAC) § 61B-40.005(2). In California and Nevada, the developer may enter into a subsidy agreement with the Association under which the developer obligates itself to pay the difference between the annual assessment amounts paid by non-developer owners and the actual cost to operate the timeshare plan. See BPC § 11241(a)(2); NAC § 119A.225; FS § 721.15(2)(b). In Florida, the developer can elect, in the timeshare instrument, to provide a subsidy in lieu of paying assessments. FS § 721.15(2)(b). The obligations of the developer to pay annual assessments (whether through regular payments or through a subsidy arrangement) may be required to be secured by a surety bond or other financial assurance acceptable to the regulatory body. See BPC § 11241(b), (c); NRS § 119A.540.

State laws generally require that the timeshare Declaration and the budget provide for collection by the Association of reserves for capital expenditures. See BPC § 11240(b)(2)(L); NRS § 119A.540; FS § 721.07(5)(t)3.a.(XI). Some state laws require reserve studies to be performed by the Association on a periodic basis such as every three years. Although there is no statutory requirement that a reserve study be performed by the Association, Department of Real Estate (DRE) policy requires that such a study be performed by the Association once every three years and that the Declaration obligate the Association to do so. See also NRS 119A.542 (which requires that a reserve study be performed every five years).

Transfer of Control of Association

When a timeshare plan is created, the developer will own all of the timeshare interests and will control the Association. In custom and practice, a timeshare plan will usually include a two-class voting structure, in which one class is composed of all of the owners or members other than the developer, each of whom shall be entitled to one vote per timeshare interest owned, and the other class consists of the developer as its sole member. See BPC § 11269(b). Most states have a statutorily-imposed point in time when the two classes must merge into one. In California and Nevada, this merger, or transfer of developer control, occurs once total sales of timeshare interests equal 80 percent of available timeshare interests. See id. § 11269(b)(3). In addition, in California, from and after the first annual meeting of the members of the Association, at least one member of the board of directors must be elected by the members of the Association other than the developer. See id. § 11270(b). Nevada’s Time Share Act follows the Uniform Common Interest Ownership Act (UCIOA) with respect to the election of members of the board of directors by timeshare owners during the declarant control period. See NRS § 119A.522. In Florida, the Florida Time Share Act does not prescribe the length of the developer control period, but it does require disclosure in the public offering statement of any control period that extends beyond one year after a majority of the timeshare interests are sold. Timeshare plans within a Florida condominium are also subject to the Condominium Act, which limits the developer control period to a maximum of seven years following the recording of the condominium plat and provides for staggered relinquishment of control, beginning with the non-developer owners being entitled to elect at least one-third of the members of the Association board upon the sale of 15 percent of the timeshares that are proposed to be in the plan. See FS §§ 721.07(5)(o), 718.301(1).

Management

Management of timeshare plans will ordinarily be handled under the terms of a written management agreement between the Association and a third party. The third party may be the developer, an affiliate of the developer, or a true independent management company. The terms of such management agreements will be similar to property management agreements for hospitality properties, with the addition of provisions dealing with the special nature of timeshare plans (such as reservation systems). In California, the Time Share Act dictates many of the terms that must be included in timeshare management agreements, see BPC § 11267(a), among which are (i) the five-year limitation on the term of the initial management agreement; and (ii) the three-year limitation on extension terms of such agreements. In Nevada, the initial term of the management agreement must expire on the earlier of (i) five years or (ii) the first annual meeting of the members; however, the agreement is automatically renewed annually unless a majority of the members, excluding the developer, vote to terminate the agreement. See NRS § 119A.530. In Florida, the management agreement for a timeshare plan that includes timeshare estates (deeded interests) automatically renews for three-year periods until the managing entity is discharged by a vote of at least 66 percent of the non-developer owners who cast votes, with at least 50 percent of the non-developer owners casting votes. See FS § 721.14(1). The fees payable to managing agents under timeshare management agreements will vary. In California, although the Time Share Act is silent on the amount of the management fee, DRE policy is that the management fee should not exceed 10 percent of the annual budget of the Association (exclusive of the management fee), unless the developer can establish a reasonable basis for a higher number.

Rentals

The rental of timeshare use periods is a subject that poses a number of different issues.

Rental by Timeshare Owners. Most timeshare plans permit the rental of timeshare use periods by timeshare owners. Embedded in that privilege is a potential federal securities law issue. In addition, state securities laws may come into play. See Cal. Corp. Code § 25100(f) (which defines an “investment contract” as a type of security requiring qualification under California law). Nevada’s and Florida’s timeshare acts expressly provide that an interest in a timeshare is not a security under the respective securities laws of those states. See NRS § 119A.180; FS § 721.23.

Rental by the Developer. Rental of timeshare use periods by the developer of the developer’s own timeshare interests (unsold inventory) may be limited by state law in some jurisdictions. In California, the developer may rent use periods attributable to unsold timeshare interests, but the number of use periods that can be rented by the developer is limited by the Time Share Act to 25 percent of the developer’s unsold inventory of any particular type. See BPC § 11245(b). This limitation is imposed as an attempt to avoid unfair competition between a developer’s rental program and efforts to rent timeshare use periods by individual owners. This is not to be confused with a developer-managed rental program, in which the developer and an individual timeshare owner enter into a rental management agreement (one that is not executed at the time of purchase but after a purchase decision has been made by the buyer, to avoid the investment contract issue) providing for the developer’s rental of the owner’s timeshare use period. Again, this situation is more likely in a fractional ownership timeshare plan. In Nevada and Florida, rental of a developer’s unsold inventory is not regulated.

Termination of Timeshare Plan

The manner by which owners may terminate timeshare plans varies from jurisdiction to jurisdiction, although generally this is a subject that is not covered by statutory requirements. But Florida has statutorily provided for a default termination upon the vote or consent of 60 percent of the owners in timeshare plans that have been in existence for at least 25 years, in the absence of any termination provision in the timeshare declaration. See FS § 721.125. The termination provisions in many Declarations currently in place derived from condominium declarations, in which a condominium plan was created to last for, say, 60 years, and then the term was subject to automatic extension for additional 10-year periods unless a majority of owners voted to terminate the plan. In the timeshare context, the industry is currently experiencing varying degrees of “owner apathy” where timeshare interest owners who have owned their timeshare interests for 30-plus years may want to terminate a plan they otherwise cannot exit. In some cases, this owner apathy has reached such a level that owners have ceased paying their annual assessments and Associations are having great difficulty operating projects at even minimal levels of service for those owners still interested in the use and enjoyment of the timeshare project. Further, there are some projects that have actually reached their useful life and the renovation of such projects is beyond the means of those who would be subjected to special assessments to pay for the renovation costs. During the Great Recession, Nevada enacted NRS § 119A.525, allowing a developer to consolidate units dedicated to timeshare use into a portion of the original project, thereby downsizing the project and reducing the maintenance burden in cases where the timeshare project was larger than needed to meet the oneto-one use night to use right ratio. The excess units that are not required to maintain a substantially similar vacation experience for the timeshare owners may be withdrawn from the timeshare plan pursuant to NRS § 119A.495.

In the drafting of new Declarations, care should be given to describe how a timeshare plan might be terminated earlier than 60 years out or might be consolidated with another timeshare plan of comparable project components. Consider a situation in which there are two timeshare resorts, each located in the same geographical area. Assume that in one of these projects (Project A), there are 40 units that are subject to a use plan involving 50 deeded timeshare interests per unit. Project A would thus have a total of 2,000 timeshare interests. Assume further that each of the timeshare interests is owned by a separate party and that, of the 2,000 owners, 800 have ceased paying their dues and 1,200 remain desirous of continuing use and enjoyment at Project A. Assume also that in the other project (Project B), there are 50 units that are subject to a use plan involving 50 deeded timeshare interests per unit. Assume as in Project A that each of the timeshare interests in Project B is owned by a separate party and that, of a total of 2,500 owners, 1,200 have ceased paying their dues and 1,300 remain desirous of continuing use and enjoyment at Project B. In this situation, it would be possible to solve the problems at both projects by terminating the timeshare plan at Project A and transferring the Project A timeshare owners into Project B, allowing Project A to be repurposed for use as a different real estate product. As long as Project B is of comparable composition and quality, the 1,200 owners of timeshare interests in Project A who wish to continue their timeshare ownership could exchange their Project A timeshare interests for Project B timeshare interests, and the owners of timeshare interests in Project B who no longer wish to continue such ownership could exchange their Project B timeshare interests for Project A timeshare interests.

These exchanges would serve a dual purpose. First, the owners of timeshare interests in both Project A and Project B who no longer desire to participate and be burdened by paying annual dues may relinquish their timeshare interests (consolidated in Project A) and share in disbursement of net proceeds (after expenses and payment of mortgages) from the sale or other disposition of Project A. Second, the consolidation of the timeshare interests of the Project A timeshare owners with those of the Project B timeshare owners results in a fully committed owner base for Project B. The manner in which the Declaration and other governing instruments approach this topic will determine how such a consolidation might proceed. Certainly, mortgagee protection would also be a significant component of any such approach.

Conclusion

It should be apparent from this article that such a complex array of product and structure options warrants careful and professional analysis in order to determine the best possibility that may work for a client’s project.