California has enacted numerous protections for purchasers of residential property. Given the “boom and bust” active property market in this State, and the frenzy of purchasers that arises every ten years or so, these protections seemed necessary to the Legislature to protect the public in what is usually the largest single purchase a person will make.
One of the protections is to require certain disclosures of property condition and these disclosures usually cannot be waived or ignored by the parties. See our article on AS IS sales in real estate.
This article shall outline the disclosure rules for California residential property sales.
The Basic Law:
Under California law, Sellers of residential property are required to make certain disclosures to Buyers. These disclosures generally fall into one of two categories: (1) physical defects in the features, fixtures or appliances of the residence; and (2) structural or site hazards, environmental hazards, or noncompliance with building codes and permits. The laws governing these required disclosures are found at California Civil Code §1102 et seq.
Per Civil Code §1102.13, “any person who willfully or negligently violates or fails to perform any duty prescribed by any provision of this article shall be liable in the amount of actual damages suffered by a transferee.” Thus, any Seller who fails to make a required disclosure is liable for the actual amount in monetary damages caused to the Buyer.
Having established that a Seller fraudulently failed to make a required disclosure, what remedies are available to the wronged Buyer?
Buyer's remedies generally include:
- damages for breach of contract
- specific performance (requiring the breaching party to remedy the error rather than pay money)
- damages for fraud
Specific performance (the enforcement of specific contract terms) is usually not favored if monetary damages will suffice to compensate the Buyer. Rescission (the unmaking or undoing of a contract) or cancellation (the termination of a contract where the cancelling party retains any remedy for breach of the whole contract or any unperformed balance) are remedies that Buyers can seek but that means that the purchase is, effectively, nullified and the Buyer is left without ownership of the property.
The measure of damages for fraud in the sale of real property is governed by Civil Code §3343(a). It is the difference in actual value of what Buyer paid and the actual value of the property received. This is referred to as "out-of-pocket" damages. Note that if in a rapidly appreciating real estate market, the actual value of the Property may be higher than Buyer's purchase price, and if that is the case there would be no out of-pocket damages(!) This fact often escapes angry buyers and inexperienced legal counsel.
However, while no out-of-pocket damages may have been sustained, additional damages may be recovered under Civil Code §3343(a)(1), (4). These statutes allow recovery of amounts and reasonably expended in reliance on the fraud and may compensate for any loss of profits or other gains which were reasonably anticipated and would have been earned by the Buyer from the use or sale of the property had it possessed the characteristics fraudulently attributed to it.
However, recovery for lost profits from the use or resale of the property is conditioned upon the following:
- The property was acquired for use or resale at a profit.
- The Buyer reasonably relied on the fraud in entering the transaction and anticipating profits.
- The damages were actually caused by the fraud and Buyer's reliance upon it. See our article on Fraud.
The first condition often precludes Buyers of residential property from seeking damages under Civil Code §3343(a)(4).
Should damages for fraud be entirely unavailable, Buyer may seek damages for simple breach of contract. A distinction must be made whether the promise to convey the property is breached, or whether a collateral promise as to the condition of the property has been breached. Damages for the former would be governed by Civil Code §3306.
Buyer may plead inconsistent remedies and does not have to elect between them until after trial.
Can Buyer claim lost profits (the decrease in value on resale) as damages? Can Buyer claim loss of rental income as damages?
Case law shows that courts have answered both “yes” and “no” to both these questions. While some courts hold that damages must be limited to actual harm caused, at least one court has held that damages may be awarded in compensation for future harm which evidence shows that person is certain to suffer. In Saunders v. Taylor (1996) 42 Cal. App. 4th 1538, 1543, the court stated, “Actual damages are those which compensate someone for the harm from which he or she has been proven to currently suffer or from which the evidence shows he or she is certain to suffer in the future.”
Turning to the second question, again, while some courts hold that damages must be limited to “out-of-pocket” value, the court in Chatterley v. Bongiovanni (In re Chatterley) (B.A.P. 9th Cir. May 23, 2005)[*12], citing Stout v. Turney, (1978) 22 Cal. 3d 718, 721, ruled that “lost profits in the form of lost rent are allowed under the statute…” referring to Civil Code §3343.
One of the elements Buyer must prove on a fraud action is that the undisclosed facts are known or accessible only to the Seller and not known or within reach of diligent efforts of the Buyer.
It is equally important for the buyer and seller to understand the need for full and complete disclosure and the wise seller will ensure that such disclosure is not only made, but made in writing and initialed by buyer. The standard real estate sale documents used by any reputable broker or real estate agent will have numerous pages listing such disclosures and having places for the buyer to sign off. The problems usually arise when the seller fails to make a disclosure, often because the seller does not know of the problem or has forgotten the problem existed.
One of our clients, an elderly CPA, recalled vaguely that there had been problems with the foundation two decades before but assumed that because nothing “bad” had happened in all that time that there was no need to disclose and simply told the buyer to be sure to inspect the entire home closely.
Later, a little more worried, the CPA had the buyer agree he was buying the house “as is.” Even put that in writing. But as discussed in our article on AS IS sales, if the seller knew or should have known of a defect, AS IS language will not protect him or her from liability. He was sued and the transaction cost him tens of thousands of dollars.
A good basic rule: put in writing every known defect and every defect you have reason to believe exists, have the buyer initial the disclosure…and you will maximize your protection. It may end up lowering the price a bit. It will end up saving you more money in the long run.