Part I of this article on statutes of limitations (SOLs) pertaining to claims brought against real estate brokers and agents introduces the concept of the SOL as a liability shield and explains the SOLs for breach of fiduciary duty and negligent misrepresentation under a general duty.
Inevitable errors in human conduct
Errors in representation are bound to occur as real estate practice shifts from willfully maintaining information asymmetries in boom times to the helpful display of transactional transparency throughout this Lesser Depression. [For a critique of information asymmetries in the real estate marketplace, see the June 2011 first tuesday article, Closing the real estate information gap.]
This is, after all, why errors and omissions insurance (E&O) exists — to shift the broker’s risk of loss to others (the insurers) by payment of a premium. Although no ill-intentions are involved, mistakes will inevitably be made when gathering and releasing information in a real estate transaction.
Whether an erroneous representation (or omission) is negligently made through advice, opinion or a document prepared for a transaction, or in the unlikely event intentionally misleading information is provided, it is crucial for the agent or broker to understand the statute of limitations (SOL) associated with the misrepresentation. It may be the one line of defense against personal liability they have.
The anatomy of a defense
After a broker closes his file on work completed for a client, the broker must assess the risk of liability caused by either his or his agent’s conduct when dealing with all parties involved in the transaction.
Four variables apply when considering an SOL defense against stale claims:
- Agency relationship: Whether the claimant is a:
- customer (general duty); or
- a client (special fiduciary duty).
- Belief in correctness: Awareness of the accuracy of information provided or withheld.
- Property type:
- one-to-four unit single family residences (SFR); or
- all other types of property.
- Time limitation on claim:
- four years from the date of loss for breach of fiduciary duty;
- three years from the date of discovery of a misrepresentation; and
- two years from the close of escrow for negligent misrepresentation to a customer.
Combinations of these four variables are presented in different brokerage scenarios in this article series — each scenario first considers the agency relationship involved, the broker or agent’s awareness of the truth in their representations made or omitted, the type of property dealt with in the transaction and the resulting time limitation on the client or customer’s claim.
Breach of fiduciary duty claims
Brokers and agents are shielded from a client’s stale breach of fiduciary duty claim by a four-year SOL which commences running at the time the client suffers a loss. The four-year SOL runs from the moment of loss and applies to unfulfilled promises made to a client by an agent since the agent is duty-bound to follow through on all promises made to act on behalf of the client.
Consider an owner of a property who enters into an oral sale-leaseback agreement and purchase option with a private investor. The investor orally agrees to:
- take title to the owner’s property;
- pay off the outstanding loans; and
- reconvey title to the owner when the owner repays all monies the investor advances, plus a rate of return in monthly installments and a final lump sum payment.
The owner asks his real estate broker if he will prepare the proper documentation to memorialize his oral agreement with the investor since a formal escrow will not be involved. The real estate broker promises to do so.
In reliance on the broker’s promise, the owner conveys title to the investor. Later, the owner discontinues making monthly payments to the investor and vacates the property.
To recover his cash invested, the investor sells the property to a buyer who is unaware that the investor merely holds title to the property as security for cash advances made to the owner and that the owner maintains ownership rights to recover title and possession to the property.
After the owner loses his ability to recover title to his property due to the sale, he discovers his broker never prepared the proper documentation the investor needed to sign to reduce the oral lease-option agreement to a writing as promised. Thus, the owner makes a demand on the broker for the value of the ownership interest lost, which the broker rejects.
The owner files an action against the broker seeking to recover his money losses incurred on the investor’s transfer of title to the buyer (for consideration and without the buyer’s knowledge of the owner’s rights). The owner claims the broker breached his fiduciary duty owed to the owner since the broker failed to prepare the appropriate documents as promised, causing the owner to incur money losses.
The owner’s action against the broker is filed more than three years, but less than four years, after the investor conveyed title to the buyer — the moment of loss.
The broker claims the owner’s action is time-barred from recovery by a three-year SOL for intentional misrepresentation since the owner filed the action on a claim more than three years after he incurred losses.
Can the owner pursue an action to recover his losses caused by his broker’s breach of fiduciary duty when the action is filed between the third and fourth year after following the investor’s conveyance of the owner’s property to a buyer?
Yes! The owner’s broker failed to fulfill the fiduciary duty he owed to his client arising out of an agreement in which he promised to prepare the proper documentation required for his client’s transaction. For the three-year SOL to apply as sought by the broker, the broker’s conduct would have to have been a misrepresentation, not a promise to act.
Due to the broker’s failure to perform as agreed, there being no misrepresentations, the owner has a four-year window from the moment of loss (the investor’s conveyance of title to his property to a buyer) to perfect his claim by filing an action against the broker. [Thomson v. Canyon (2011) 198 CA4th 594; Calif. Code of Civil Procedures § 343]
Thus, in claims concerning:
- any property type;
- a broker or agent owing a fiduciary duty to the claimant; and
- a breach of fiduciary duty by failing to fulfill a promise made to the client;
a four-year SOL running from the moment of the client’s loss applies as a defense to time-bar the client’s claim.
Negligent misrepresentation claims under a general duty
A seller’s broker provides a buyer with information on a one-to-four unit residential property he has listed. In the process, the seller’s broker provides the buyer with erroneous information which, if known, would negatively affect the value of the property or the rights of the buyer, called a material fact.
However, the broker inaccurately believes the erroneous information he provides the buyer is correct, called a negligent misrepresentation of facts. The buyer purchases the one-to-four unit property in reliance on the broker’s misrepresentations and suffers a monetary loss on the value of the property due to the misrepresentation.
Here, the buyer of a one-to-four unit residential property, with a claim for money losses caused by the seller’s broker negligently misrepresenting a material fact must perfect his claim by filing an action within a two-year period, commencing when the buyer takes possession of the one-to-four unit residential property. Taking possession is generally considered the date escrow closes and the deed transferring ownership is recorded. [Calif. Civil Code § 2079.4]
Now consider a seller’s broker who, under the general agency duty he owes to all buyers, performs (or fails to perform) a mandatory visual inspection of the one-to-four unit property he has listed. He fails to notice an observable structural flaw which has gone unreported on the condition of property disclosure statement (TDS) by the seller. [See first tuesday form 304]
The seller’s broker hands the buyer or the buyer’s agent the defective TDS. The TDS is prepared by either the seller and reviewed by the seller’s broker or by the seller’s broker if the seller is exempt from using a TDS form.
The TDS discloses that the property is free of material structural defects, an assertion consistent with the actual knowledge of the seller’s broker, but in error due to the actual conditions — facts — of the improved property. Thus, the buyer is deceived by the broker’s careless omission of a knowable material fact.
The seller’s broker does not obtain a home inspection report (HIR) before preparing the TDS or present one to the buyer before the seller accepts the buyer’s purchase offer. The buyer relies on the representations in the TDS and likewise does not obtain an HIR.
The buyer discovers the structural damage after he takes possession of the property. He determines the cost of correcting the defect to bring the property up to the condition as disclosed by the seller’s broker at the time the purchase agreement was entered into.
The buyer makes a demand on the seller’s broker to recover his losses, claiming the broker misrepresented the physical condition of the property in the TDS, which the broker rejects. The buyer files an action (arbitration or litigation) against the broker to enforce collection on the claim. The action is filed more than two years after the close of escrow and transfer of ownership.
Can the buyer recover his losses from the seller’s broker?
No! The broker failed to notice the observable structural defect he is charged with disclosing, and then proceeded to affirm that the defect did not exist by omission of the fact — negligent misrepresentation by omission. The broker believed the damage was not present, but the broker was incorrect in his conclusion.
Thus, the seller’s broker was negligent in his representation of the physical condition of the property (which obtaining an HIR avoids by shifting the risk of negligent misrepresentation to the inspector). [For more information on the use of an HIR to shift liability to the home inspection company, see the October 2010 first tuesday Real Estate Myth.]
However, the buyer failed to file an action on his claim against the seller’s broker prior to the expiration of the two-year SOL for broker negligence specifically designed for one-to-four unit residential property transactions. Here, the SOL was triggered and began to run on the buyer’s taking possession by closing escrow and becoming the owner of the property. The seller’s broker only owes the buyer, his customer, a general agency duty which is owed to all members of the public, not the fiduciary duty the seller’s broker owes to his client. [Loken v. Century 21-Award Properties (1995) 36 CA4th 263]
The two-year SOL running from closing is available to shield a seller’s broker from actions filed under a buyer’s claim in a one-to-four unit residential transaction based on:
- failure of the general duty owed to the buyer by the seller’s broker (or the broker’s agent) to conduct a competent visual inspection of the property; and
- negligent failure to disclose facts that a reasonably diligent on-site inspection of the SFR would have revealed. [Easton v. Strassburger (1984) 152 CA3rd 90]
Thus, in cases concerning:
- one-to-four unit residential properties;
- a broker who owes a general duty to a customer; and
- a negligent misrepresentation of a material fact that results in the client’s loss;
a two-year SOL running from the taking of possession (close of escrow) applies as a defense to time-bar the customer’s claim.
Part II of this article will be published in the December issue of the first tuesday journal online. Tune in next month for an explanation of the SOLs pertaining to claims of negligent misrepresentation under a fiduciary duty and intentional misrepresentation regardless of the duty owed.