December 26, 2008

After the Fall -- What Now?

On December 26, 2006, I wrote a post entitled "'Creative' Financing -- The Slippery Slope in 2007."

On December 28, 2007, I wrote a post entitled "Non-Traditional Mortgage Products -- The Slippery Slope Became an Avalanche."

Now it is time for my third year end post. I read an insightful column in today's the Wall Street Journal about the global economic reversal. It is entitled, "The Economic News Isn't All Bleak" by Zachary Karabell. In the last paragraph of his column, Mr. Karabell observes:

"The rush to declare the future bleak has obscured the fact
that no one knows the outcome of an unprecedented event.
No one. The worst course in the face of uncertainty is blind
faith in conventional wisdom and past patterns. The best is
to stay humble in the face of the unknown, creative and
unideological about solutions, and open to the possibility
that as quickly as things turned sour they can reverse."

To the loyal readers of, watch out for wolves in sheeps' clothing and have a productive and healthy 2009!

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November 18, 2008

New Foreclosure Hurdles in California Helping Distressed Homeowners

Section 2923.5 of the California Civil Code went into effect on September 6, 2008. This statute, which applies only to owner-occupied, residential real property, was enacted to help distressed California homeowners. Section 2923.5 requires a lender seeking to foreclose to contact the borrower "in order to assess the borrower's financial situation and explore options for the borrower to avoid foreclosure." The statute applies to all loans made from January 1, 2003 through December 31, 2007.

Section 2923.5 is complicated and sets up a number of requirements that must be satisfied by the foreclosing party or its authorized agent. The contact requirements of section 2923.5 are very specific. The foreclosing party must contact the borrower, in person or by telephone, to assess the borrower's financial situation and explore options to avoid foreclosure. If contact is not made by phone or in person with the borrower, the foreclosing party must send a certified letter to the borrower with a return receipt requested. If the foreclosing party is unable to contact the borrower, it must fulfill certain due-diligence requirements outlined in section 2923.5. In addition, the statute imposes a 30‑day waiting period after the foreclosing party fulfills the contact or due-diligence requirements.

After the foreclosing party has met the requirements of section 2923.5, in order to ensure compliance, the foreclosing party must submit a declaration along with the recording of any notice of default or its notice of sale, if the foreclosure proceedings were initiated prior to September 6, 2008.

The foreclosing party does not have to meet the statutory requirements in certain limited situations: (1) if the borrower surrendered the property; (2) the borrower contracted with an organization, person or entity whose primary business is to advise people who have decided to leave their home and seek to extend the foreclosure process and avoid their contractual obligations; or (3) the borrower filed for bankruptcy and the proceeding has "not been finalized."

A foreclosing party must be well versed in the detailed requirements of section 2923.5 and follow them to the letter to avoid further delays in the foreclosure process. A distressed homeowner should also study the new statute to gain the benefits of its protection. In addition, a distressed homeowner should consult with a CPA about the tax consequences of a foreclosure or loan modification.

More changes in California's foreclosure laws are in the offing. Governor Schwarzenegger has proposed a 90 day foreclosure moratorium to pressure banks to modify loans. The California Legislature has not yet acted on the Governor's new proposals.

November 16, 2008

The '08 Wildfires -- A Helping Handbook

Sadly, this is a repeat of a post from November 2007:

The recent wildfires have wreaked havoc on the lives of many families in Southern California. As a public service to those families, the Los Angeles County Bar Association and Morrison & Forester have published a "Helping Handbook" available on line. This handbook contains a compendium of California and Federal real estate and insurance law that will assist wildfire victims in the recovery process.

To read the Helping Handbook, click here.
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October 18, 2008

LOAN MODIFICATION SERVICES & ADVANCE FEES -- Foreclosure Consultants Revisited

Millions of homeowners nationwide want to modify the terms of their loans but do not know how to go about it. This has created growing business opportunity for people who want to provide loan modification services for a fee. Many of these people are new to this business and may not be aware of the law in this area. In California, for example, there are rigorous legal requirements for real estate licensees who want to earn fees by helping homeowners modify their loans.

In an earlier post, I discussed the California statutes (California Civil Code sections 2945, et seq.) that regulate foreclosure consultants; these statutes apply when a real estate license attempts to negotiate a loan modification for a homeowner after he or she has received a Notice of Default recorded under Civil Code section 2945. A foreclosure consultant is prohibited from accepting payment in advance, even if the foreclosure consultant is a licensed California real estate broker. (In contrast, licensed California lawyers are exempt from these statutes.)

But what if a real estate licensee agrees to negotiate a loan modification for a homeowner who has not yet received a Notice of Default and the licensee wants to be paid in advance? The California Department of Real Estate has created a procedure for a real estate licensee to accept advance fees for loan modification services when a notice of default has not yet been recorded. First, the licensee must apply to the DRE for its approval of an advance fee agreement. Once this approval is obtained, the broker must enter into the agreement with a borrower/homeowner who retains the broker and pays a fee in advance for loan modification services. It appears that very few California real estate licensees have obtained approval of an advance fee agreement yet.

In summary, a homeowner who has not received a Notice of Default commencing a foreclosure should only pay fees in advance to a broker who presents an agreement that has been approved by the DRE (the homeowner should call the DRE to confirm the agreement has been approved).

If the homeowner has received a Notice of Default, he or she should not pay any fees in advance. The homeowner should confirm that the foreclosure consultant has the bond required under Civil Code section 2945.11. If these requirements are not met, the homeowner has extensive civil remedies under Civil Code section 2945.6, and the foreclosure consultant may be subject to criminal penalties under Civil Code section 2945.7.

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October 5, 2008

HOME SWEET HOME --The Price of a Great Love Affair

On June 13, 2005, TIME magazine reminded us that Americans were at the height of a great love affair with residential real estate. On October 3, 2008, we learned that every American taxpayer, now and in the future, would share in the cost of mortgage defaults and the rescue plan through the Troubled Assets Relief Program (TARP). The recent federal "rescue" legislation and the government's takeover of Fannie Mae and Freddie Mac make the United States the largest mortgage company in the world.

Two maxims of California jurisprudence provide food for thought in assessing the fallout from the messy aftermath of the latest residential real estate binge: "He [or she] who takes the benefit must bear the burden"; and, "He [or she] who consents to an act is not wronged by it." California Civil Code sections 3521 & 3515.

With that said, let us acknowledge the participants who benefited from and consented to the questionable transactions in the United States that have resulted in extraordinary actions by governments around the developed world:

Buyers who used "creative financing" while they were in denial about the consequences of a variable interest rate loan readjusting and the inevitable decline in housing prices;

Mortgage brokers and real estate brokers who did not adequately warn buyers about the credit risk of buying a home without a down payment or a fixed rate loan;

Appraisers who, in some cases, participated in the validation of inflated prices or worse; i.e., mortgage fraud;

Mortgage companies and banks who defied reality by making loans without following reasonable underwriting standards;

Investment bankers who "securitized" pools of loans ("mortgage backed securities") that were not properly underwritten or backed by capital in the event of widespread defaults;

Rating companies that bestowed their pedigrees on the mortgaged backed securities at they same time they were compensated by the investment bankers;

Hedge funds, insurance companies and investment bankers who wrote contracts ("credit default swaps") to pick up the losses on the mortgage backed securities without the financial ability to do so in the event of widespread defaults;

And the United States government which failed to warn, regulate and control the participants before it became the world's biggest mortgage company.

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September 26, 2008


Four years ago, during the week of 2004 Democratic Convention, I vacationed with my family in San Diego, California. One day I read a local newspaper and learned that the number of licensed real estate salespersons in San Diego County had skyrocketed to an all time high. The article was like the ringing of a bell, warning that the real estate market had reach a top.

A recently published California case arises from speculation during 2002 in the downtown San Diego condominium market and the slowing of that market. More importantly, it affirms that a buyer's broker will be protected under under an exclusive buyer-broker commission agreement when the buyer defaults. In Schaffter v. Creative Capital Leasing Group, LLC (2008) D047364, the Fourth Appellate District held that a buyer's broker is owed a commission if the buyer defaults after the broker locates residential property and the buyer signs a purchase agreement.

If Schaffter, the buyer tied up two new condominiums in lengthy escrows with the hope that they would significantly appreciate in value before the closing. (One of the buildings is pictured above.) When the condos did not appreciate enough to satisfy the buyer, it refused to close the escrows. The Court of Appeal found that the principal of the buyer, ". . . never intended to finalize the purchases if the market did not perform as he expected, or to pay commissions on units that did not close escrow."

The buyer's primary defense -- that it was not in default under the commission agreement because the developers decided not to sue for breach of contract -- was disingenuous. The buyer's principal apparently was successful in threatening and bullying the developers into accepting the buyer's cancellations. The Court of Appeal rejected this "defense" and affirmed the ruling of the trial court that: "'there are consequences when people cancel contracts' without valid reason. Here the consequence is CCLG's payment of commissions."

Buyer's brokers will be heartened by the holding in the Schaffter case and the Court's recognition that a commission agreement should be honored when a purchase is cancelled without justification.

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August 29, 2008

ARBITRATION -- Revisited and Reviewed

This Blog recently criticized non- judicial arbitration because, among other problems, the arbitrator can render a binding award without following the applicable law. The California Supreme Court has ruled that the parties may agree by contract to avoid this pitfall.

In the recent case of Cable Connection Inc. v. DIRECTV, 2008 DJAR 13491, the Supreme Court held that parties to an arbitration agreement can agree in advance to judicial review of legal mistakes by the arbitrator. This is significant because many people sign arbitration provisions in this State unaware that arbitrators are not required to follow the law. For example, an arbitration provision is standard in the commonly used California Association of Realtor's form Purchase Agreement for residential real estate. If both parties initial the arbitration provision, they have agreed to binding arbitration without judicial review for legal mistakes.

Justice Carol Corrigan writing for the majority in Cable Connection Inc. v. DIRECTV explained that judicial review of an arbitrator's decision will still ease the pressure on California's trial courts. "The judicial system reaps little benefit from forcing parties to choose between the risk of an erroneous arbitration award and the burden of litigating their dispute entirely in court. Enforcing contract provisions for review of awards on the merits relieves pressure on congested trial court dockets."

What can you do to preserve the right to judicial review of an arbitrator's award. First, you must have appropriate language in the agreement to arbitrate. The provision in Cable Connection Inc. v. DIRECTV read: "The arbitrators shall not have the power to commit errors of law or legal reasoning, and the award may be vacated or corrected on appeal to a court of competent jurisdiction for such error."

Second, there must be a record made in the arbitration that is reviewable by a court. Often times awards in arbitrations merely something like, "Claimant is awarded $________ against respondent, plus costs." At the very least, a party should request a "reasoned decision" by the arbitrator in a form similar to a Statement of Decision that is issued by the Judge in a Superior Court trial. Because without a "reasoned decision" there may be nothing to review.

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July 26, 2008

Loan Modifications -- The Federal Housing Bill

Congress has passed Federal housing legislation to address the housing downturn, the subprime crises, and the problems confronting Fannie Mae and Freddie Mac. Once signed by the President,this legislation will impact the ability of homeowners to modify or renegotiate their mortgages. Any reader who was interested in the last post about negotiating a loan modification should read the overview of the new legislation in the July 25, 2008 New York Times entitled, "A Housing Bill That Has Something For Everyone." To read the article, click here.

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June 16, 2008

9 Hurdles for a Borrower to Negotiate a Loan Modification

With the increase in pending foreclosures and mortgage defaults, many borrowers are feeling squeezed and are looking for relief from their lenders. The following checklist may be be helpful in approaching a lender about a loan modification:

1. A loan modification is may be available to a borrower who was unable to make regular payments for several months due to exigent circumstances such as an illness, the loss of a job, or a divorce, but who has now solved that problem. The lender will want to see a "hardship letter" and detailed financial information that demonstrates the borrower can resume regular payments on modified terms. The modified terms may include a lower, fixed interest rate with the delinquent amounts added on to the principal of the loan. In a few cases, the borrower may persuade the lender to "write down" (decrease) the principal balance.

2. If a borrower is delinquent, the lender will probably require a "good faith" payment of a substantial part of the delinquency when the loan modification is consummated. A borrower who has put their mortgage payments in the bank while trying to work out a loan modification has a much better chance of success than a borrower with no money to put on the table.

3. The borrower will have to get past the financial institution's collection department and to a person is a position of authority in the loss mitigation department to negotiate a loan modification. This is one area where a lawyer can be helpful.

4. When a borrower is trying to convince the lender that he or she can now make payments on new terms, the lender will want to see historical financial information. If the borrower provides information that contradicts their original loan application, the borrower may be unwittingly creating a record that will give rise to an action for mortgage fraud. (See my January 14, 2007 post.)

5. If a non-lawyer offers to perform the services described above and asks for the payment of their fees in advance completing the services, ask them if they are licensed by the State of California and, if so, how they are licensed. Can the consultant demonstrate to you that they are exempt from the laws regulating "Foreclosure Consultants"? If not, can they demonstrate to you that they are providing the disclosures and documents required of Foreclosure Consultants. (See my January 30, 2007 post.)

6. If the borrower has more than one loan secured by their property, it will probably be necessary for all lenders to agree to the terms of the loan modification before it is finalized. If the modification of the first trust deed loan puts the holder of the second trust deed at greater risk of a default under the first deed of trust, the holder of the first will lose its priority without the consent of the holder of the second to the modification agreement.

7. It will take months, not days, to negotiate a loan modification with a lender, so start as soon as possible after you go into default. Once the borrower is served with a Notice of Default to commence a non-judicial foreclosure, he or she should begin the process of contacting the lender about a loan modification -- do not wait until you receive a Notice of Trustee's Sale.

8. Keep all your loan records well organized, including all communications with the lender about the loan.

9. Consult your CPA or tax adviser to determine if the modified loan will result in any adverse income tax consequences.

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May 22, 2008


A few months ago, I was retained to draft a construction contract by a client who is building a house in my area. During this assignment, I checked the website of the California Contractor's State License Board to see if the general contractor selected by my client was licensed. The contractor did not have a license in the name of his corporation and did not have worker's compensation insurance. My client selected another contractor who had a license and insurance.

A recent Court of Appeal case, Great West Contractors, Inc. v. WSS Industrial Construction, Inc. (2008 Cal. App. LEXIS 627) provides a good overview of the circumstances under which a licensed contractor can be denied any payment for its work. In that case a steel subcontractor sued the general contractor for labor and materials it provided for a school. The steel subcontractor ("WSS") was not licensed when it bid the job, did preliminary work under the subcontract (preparing plans and ordering materials), and began to invoice the general contractor. WSS became licensed before the subcontract was signed by both parties and before it did the lion's share of its work under the subcontract.

The Court of Appeal reversed a ruling by the trial court in favor of WSS, holding: "With one exception, the [Contractor's State License Law] forbids a contractor from recovery -- in law or equity -- on an otherwise valid claim for performance of any service for which a license is required if the contractor was unlicensed at any time during performance of the work." (Emphasis added.) This "bright line" test requires contractors to be licensed at the commencement of its services. If the contractor is aware of the problem and fixes it during the project, it is a case of "too little, too late."

But as the Court of Appeal said in that case, there is a statutory exception which is subject to interpretation by California courts. Under Business & Professions Code section 7031(e), a contractor can recover money in a civil action if it proves there has been "substantial compliance" with the licensure requirements: (1) the contractor had been duly licensed in this state prior to the contract or act; (2) it acted reasonably and in good faith to maintain proper licensure, (3) and did not know or reasonably should not have known that it was not licensed. This means that a contractor with an expired license can recover for work done without a license if a court finds that its ignorance of the law and the facts was excusable -- even if the excuse is a weak one. See, e.g., ICF Kaiser Engineers, Inc. v. Superior Court (1999) 75 Cal. App. 4th 226 (the appellate court excused Kaiser from compliance with the licensing law because it was a large company and could not be expected to keep abreast of developments that resulted in the suspension of its license). This is a case where ignorance was bliss.

But the owner who contracts with an unlicensed contractor is unlikely to achieve a state of bliss if a worker is injured on the job. Assuming the unlicensed contractor does not have worker's compensation insurance (a likely state of affairs), the injured worker may be deemed an employee of the owner. Labor Code section 2750.5. A possible consequence is that the unlicensed contractor who is injured on the job will make a worker's compensation or personal injury claim against the owner. This is a case where ignorance will not be bliss -- an owner should determine if a contractor is licensed and has worker's comp insurance before he or she signs a construction contract.

To read a recent Los Angeles Times article about the problems that can be created by hiring an unlicensed contractor, click here.

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April 22, 2008

CAL. FIGHTS GLOBAL WARMING -- How to Turn Cow Manure into Greenbacks

In late 2006, the California Legislature passed AB 32, a law to reduce the emission of greenhouse gases. Now codified in California Health & Safety Code sections 38500, et seq., the "California Global Warming Solutions Act of 2006" will affect owners of commercial real estate throughout the state.

Under AB 32, the California Air Resources Board (CARB) has been empowered to develop regulations and market mechanisms to reduce California greenhouse gas emissions 25% by 2025. CARB is required to adopt a plan to accomplish this by 1/1/09 and a set of regulations that will be enforceable on 1/1/10. Battle lines are already being drawn over the plan by electric utilities that rely on the production of electricity by burning coal (example, the L.A. Dept. of Water & Power).

As AB 32 goes into effect, owners of real property such as office buildings, automobile dealerships, hotels and farms may be required to commission a study commonly referred to as a "carbon footprint" to determine the level of greenhouse gas emissions from their property. If the emissions are in excess of the acceptable limit for the property set by CARB, the owner will either have to reduce the emissions or buy "carbon credits" to offset the violation. This will be a big business.

Let's take the case of a dairy farmer in Southern California. Cow manure emits methane which is a greenhouse gas that is 23 more times harmful to the atmosphere than CO2. If the farmer can make the methane go away, he may turn manure into money. This will be done by constructing a biodigester that can turn the methane in electricity and the manure into fertilizer. If you think this is futuristic, it is already happening in Oregon and the Third World. Biodigesters will be sold at a cost millions of dollars to large dairy farmers with electric utilities and their customers picking up part of the tab. The dairy farmers will sell the electricity and fertilizer produced by the biodigesters and the carbon credits created by the reduction of emissions. Investment bankers are already getting into the business of brokering carbon credits; let's hope they do better than they did with the sale of pools of subprime mortgages.

March 27, 2008

ARBITRATION AVOIDANCE -- The Unconscionable Arbitration Provision

There are plenty of reasons to prefer a court trial to an arbitration. In California, arbitrators are not required to follow the law and arbitration awards are final. That means that if the arbitrator fails to follow the law or makes another mistake, the parties do not have right to appeal. Also, arbitration can be surprisingly expensive. Arbitrators charge hundreds of dollars an hour for their time and the arbitration tribunal may charge thousands of dollars for their administrative fee depending on the amount at issue. In addition, since arbitrators are not required to follow the rules of evidence, the hearing may go on longer than anticipated.

In California, real estate agents customarily use the California Association of Realtors (C.A.R.) form of Deposit Receipt and Purchase Agreement for the sale of single family residences. This contract contains a conspicuous arbitration provision in bold type. For the arbitration provision to be effective, it must be initialed by the buyer and seller. But for the reasons discussed above, the parties should think twice before initialing the arbitration provision. If the provision is initialed by both parties, it is likely the parties will be required to arbitrate any dispute between them.

Arbitration provisions are also common in contracts to purchase new tract homes. For example, the developer may include an arbitration provision in a limited warranty that curtails the liability of the developer for construction defects. In the recent opinion in Bruni v. Didion, filed March 12, 2008, the California Court of Appeal held that an arbitration provision "buried" in voluminous, preprinted documents was unenforceable. It was difficult to find the arbitration provision and the parties did not sign or initial it. Moreover, the buyers were not permitted to negotiate any of the documents and understood that the documents were presented on a "take it or leave it" basis. The Court of Appeal held that the arbitration provision was unconscionable because it was part of a contract of adhesion and it violated the buyers' reasonable expectations. To read the Bruni v. Didion opinion, click here.

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February 27, 2008

Specific Performance -- The Good Old Days

A Court of Appeal opinion filed yesterday will leave some real estate investors longing for the good old days -- the days when speculators flipped property as readily as pancakes.

In Real Estate Analytics, LLC v. Vallas, filed February 26, 2008, Fourth District, Div. One (cite as 2008 SOS 1264), the trial court found that the defendant/seller breached his contract for the sale of a large parcel of coastal property in North San Diego County to a real estate investor. Despite the breach, the trial court refused to grant the buyer's request for specific performance ordering the sale of the property. The trial court concluded that money damages were an adequate remedy because the buyer's primary motivation was to quickly resell the property for a profit. Instead, the trial court awarded the plaintiff damages of $500,000 (the difference between the contract price and fair market value at the time of the breach) and attorneys' fees of $272,918.

The Court of Appeal held that the trial court erred by refusing to grant specific performance on the basis the property would quickly be resold for a profit: "The law generally presumes real property is unique and that the breach of an agreement to transfer property cannot be adequately relieved by pecuniary compensation. The seller did not overcome this presumption merely because the buyer's purpose in purchasing the property was to earn profits from developing and/or reselling the property."

With the downturn in the real estate market, this issue is unlikely to come up in the new cases. Instead, it is the seller who will consider suing the buyer for specific performance when a deal falls through. Seller's specific performance cases are generally unheard of in a rising market and require careful handling. There are some significant differences between a seller's and buyer's action for specific performance. As discussed above, damages are usually an inadequate remedy for a buyer of "unique" real property. Where the plaintiff is a seller, damages are generally considered the appropriate remedy and specific performance may only be available where the value of the property has remained more or less the same as the contract price (not likely in most parts of the country). This presents the seller/plaintiff with a paradox: if plaintiff alleges a basis for the recovery of damages, this will undermine the specific performance claim; and if plaintiff demonstrates an entitlement to specific performance this will negate a claim for general damages.

January 27, 2008

Duties of A Home Buyer's Agent -- The Recent N.Y. Times Article

A couple of weeks ago I was interviewed by a reporter from the New York Times who was writing a story about an unusual case pending in San Diego. The case concerns a buyer who is suing her agent because he allegedly misled her about the value of a house she and her husband purchased.

I expressed the general view that far more claims concerning the purchase of residential real estate will be asserted in the present declining market than are asserted in an appreciating market. But I opined that there will probably not be a wave of cases alleging that buyers' agents misled buyers as to property values during the recent boom years in the residential market. Value is in the eye of the beholder and information about home sales is publicly available.

The article ran in the New York Times on January 22, 2008 and included one of statements that I made to the author. To read the article, click here.

There are many reasons that a buyer's agent can be sued --
most claims arise from a misrepresentation or non-disclosure about the physical condition of real property. But it is certainly possible that an agent can misrepresent the value of a home, and whether this is actionable will depend on the facts of the case. As the authors of a leading real estate treatise have poetically concluded, “The kind and number of intentional misrepresentations reflected in the reported decisions are as plentiful as grains of sand on the beach.” 1 Miller & Starr, California Real Estate (3d ed. ) p. 436.

The law in this area is well settled but is worth briefly summarizing. A buyer's agent has a fiduciary
duty to disclose material facts to the buyer. This includes a duty to disclose reasonably obtainable material information, which may require the agent to investigate facts not yet known to the agent. [See Leko v. Cornerstone Bldg. Inspection Service (2001) 86 Cal. App. 4th 1109, 1115–1116—this includes the obligation to discover and disclose material defects in property.]

The broker's fiduciary duty to disclose material facts about the property arises upon creation of the principal-broker relationship—before the purchase contract is entered into.
Exxess Electronixx v. Heger Realty Corp. (1998) 64 Cal. App. 4th 698, 711.

When transmitting material information from the seller (or others) to the buyer, the buyer's broker must either verify the accuracy of the information or disclose to the buyer that the information has not been verified. Salahutdin v. Valley of Calif., Inc. (1994) 24 Cal. App. 4th 555, 562–563 & fn. 3. A buyer's broker who accepts material information from others as being true and transmits it to the buyer without verification or disclosing to the buyer that it has not been verified breaches his or her duty and may be liable to the buyer for negligent misrepresentation or “constructive fraud.” Id.

On the other hand, the “buyer's agent is not required to verify information received from the seller and passed on to the buyer if the buyer understands the agent is merely passing on unverified information.” Pagano v. Krohn (1997) 60 Cal. App. 4th 1, 11; see Assilzadeh v. California Fed'l Bank (2000) 82 Cal. App. 4th 399, 417.

Knowledge of these rules and a spirit of full disclosure will help keep real estate agents out of trouble.

January 15, 2008

Agent for Home Equity Purchaser is No Longer Required to be Bonded

Even a well intentioned law may be declared void for vagueness if the reader is left in a fog. A recent case in point involves the bonding requirement in the Cal. Home Equity Sales Contract Act.

According to the Court of Appeal, "The Home Equity Sales Contract Act (Civ. Code, section 1695 et seq . . .) was enacted to protect homeowners faced with mortgage foreclosure proceedings from being victimized by person employing oral and written representations, intimidation, and other unreasonable commercial practices to induce homeowners to sell their homes for a fraction of their fair market value and lose the equity in their homes. (citations omitted)." Schweitzer v. Westminster Investments, Inc. (12/13/2007) 157 Cal. App. 4th 1195.

The Home Equity Sales Contract Act ("HESCA") contains a number of protections for sellers in foreclosure. As discussed in my February 20, 2007 post ["Buyers (and Agents) Beware If the Seller is Upside Down"): "There is another interesting protection for equity sellers. If an equity buyer is represented by an agent, the agent must have a bond from an admitted insurer in an amount equal to twice the fair market value of the property. But no insurer admitted in California offers such a bond, so agents should avoid representing equity buyers." The Court of Appeal has recently eliminated the requirement of a bond. The reason -- that bonding subsection of the law was so vague that a person of ordinary intelligence would have to guess what it requires.

In Schweitzer, the trial court held that a deed transferring the property to an equity purchaser was voidable because the purchaser's representative did not have the bond required by Civil Code section 1695.17. The code section requires proof that the purchaser's agent/representative is "bonded by an admitted surety in an amount equal to twice the fair market value of the real property which is the subject of the contract." The Court of Appeal reversed, holding that the requirement of a bond was void for vagueness and unenforceable.

That language, reasoned the Court of Appeal, ". . . provided no guidance on the amount, the obligee, the beneficiaries, the terms or conditions of the bond, the delivery and acceptance requirements, or the enforcement mechanisms of the required bond." However, the rest of the HESCA is enforceable because the statute had a "severability" provision specifying that if any provision of the Act is declared unconstitutional the remainder shall not be affected (section 1695.11) if it is "grammatically, functionally and volitionally separable." Under the remaining provisions, the equity purchase contract was enforceable.

Schweitzer v. Westminster teaches us 3 lessons: a statute, like a contract, should be complete and written so that a person of ordinary intelligence does not have to guess what it requires; the remainder of the HESCA survives intact, including the requirement that a purchaser's representative be licensed by the Department of Real Estate; and, "Buyers (and Agents) Should Still Beware If the Seller is Upside Down."

January 6, 2008

Real Estate Appraisers -- Decline in Home Prices Exposes Inflated Appraisals

In a surging real estate market, the "rising tide lifts all boats." The rapid appreciation of home prices makes it less likely that a buyer will complain about problems with his purchase that are discovered after the close of escrow. But for every high tide there is a low tide that exposes rocks below the surface and barnacles on grounded ships.

A down cycle in the real estate market also exposes a variety of reasons for the artificial inflation in prices: lax loan underwriting, fudged loan applications, rampant speculation, "creative" financing, a secondary market for sub prime loans, and inflated appraisals. The last of these problems is the subject of this post.

Since the savings and loan debacle in the 1980's, the federal government has regulated real estate appraisers who prepare appraisals for loans by federally insured institutions. For example, California established an apparatus for licensing real estate appraisers in 1989.

Appraisers can be liable for negligence or negligent misrepresentation to lenders or buyers who rely on inflated appraisals that have not been prepared in accordance with the standard of care. Based on anecdotal evidence in my litigation practice, the licensing of real estate appraisers appeared to result in the decline of lawsuits against appraisers after 1989. I handled a number of such cases for a mortgage company and a S&L before 1989, but none in the 1990's after licensing became mandatory.

Unfortunately, the recent decline in the housing market has again exposed problems caused inflated residential real estate appraisals. So two months ago, the California Legislature made it illegal to pressure an appraiser to reach a inflated opinion of value. And a new California law effective January 1, 2008 has substantially increased the educational requirements for certified appraisers.

How does "the market" pressure appraisers to inflate appraisals? Will the new laws have any effect on the appraisal industry? How widespread is the problem of inflated appraisals? A recent article in the Los Angeles Times tackles these questions. To read the article, click here.

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