Down in the Dumps over Prior Use and Condition

Commercial real estate transactions often involve complex issues of prior use and condition. Occasionally, owners or real estate agents say that a property is in a certain condition—a statement that turns out to be in error.

But what liability, if any, exists, when an agent has not made any misrepresentations, but at the same time has remained silent about facts that would encourage further inquiry? The Washington State Court of Appeals addressed these issues in Pacific Northwest Life Insurance Company v. Turnbull, 754 P.2d 1262 (1988).

This case concerned the purchase of real property later found to be unsuitable for commercial development because of its prior use as a garbage dump. Roger and Ronald Turnbull owned property located in Clark County, Washington, that had been used as a gravel pit, resulting in a hole covering about 75 percent of its area. From 1970 to 1974, the Turnbulls operated a garbage dump and landfill site on the property. When the garbage and landfill operations were halted, the pit was almost completely filled.

In 1979, they listed the property with a real estate agency to sell it. The Turnbulls and their two brokers each represented the property to prospective purchasers as being suitable for commercial development. Pacific Northwest Life Insurance Co. agreed to purchase the property from the Turnbulls, along with a copurchaser.

During negotiations, the Turnbulls did not disclose the prior uses of the property to Pacific or the copurchaser. The brokers each had suspicions about the property’s condition, but neither disclosed these suspicions to Pacific or the copurchaser, nor did they further investigate the type of landfill used on the property. All parties involved realized that the prospective purchaser, Pacific, had some sophistication and experience when it came to the acquisition of commercial property—this was not a novice buyer.

Fourteen months after the sale, Pacific had cumulative knowledge of a serious problem with the property. From late 1981 until May 1983, Pacific attempted to resell it. In May 1983, Pacific received a written study that detailed the extent of the property’s problems. The report concluded that the property was not suitable for commercial development due to soil instability caused by improper landfill. As a result of this report, Pacific filed suit seeking damages from the Turnbulls and the brokers.

Pacific had bought the property in September 1980 through a land sale contract for $385,000. In Pacific’s suit for damages initiated three years later, the trial court ruled that the sellers had concealed and misrepresented the condition of the property to the purchasers. The court also found that both brokers were liable to Pacific on a theory of negligence.

Damages were assessed against the Turnbulls and the brokers for approximately $300,000. In addition, attorney’s fees and costs of about $120,000 were awarded to Pacific against the Turnbulls.

The brokers appealed, contending that the trial court erred in holding them liable for failure to investigate the property’s condition. They maintained that a broker is under no duty to investigate unknown defects, particularly when the purchaser is a sophisticated commercial developer.

Unfortunately for the brokers, case law in most states was not in accord. Washington courts had found that a seller’s broker has a duty to the buyer, stating that "The underlying rationale of [a broker’s] duty to a buyer who is not his client is that he is a professional who is in a unique position to verify critical information given him by the seller. His duty is to take reasonable steps to avoid disseminating to the buyer false information."

In addition, the court ruled that the broker has the duty to employ a reasonable degree of effort and professional expertise to confirm or refute information from the seller that he should know is pivotal to the transaction from the buyer’s perspective. The court ruled that the broker also has the duty to disclose all material facts not readily ascertainable to the buyer.

When evaluating the brokers’ conduct in this case, it is important to characterize the negligence of the parties on which the court relied in finding liability. It was not a breach of a duty to investigate and determine the suitability of the site for the purchaser’s intended use. The court did not intend to impose this duty on brokers. Rather, the trial court found that the brokers had "repeated and reinforced representations made by the seller concerning the ability of the property to sustain commercial development and its suitability...without verifying or confirming the information, and failed to discover the true state and condition of the property..." Furthermore, negligence was found because of one broker’s representation that "the property was suitable for commercial development."

The trial court’s theory for finding liability was negligent misrepresentation. Therefore, the trial court properly premised the brokers’ liability on their failure to confirm the seller’s statements regarding commercial suitability prior to repeating them to the buyer.

The brokers also disputed the trial court’s conclusion that Pacific and the copurchaser were not negligent in failing to discover the defect. They argued that Pacific, as a sophisticated purchaser, should have investigated the suitability of the site independently. They contended that Pacific and the copurchaser had both the opportunity and the resources to discover the landfill defect, and, in failing to do so, they also were negligent.

However, the unchallenged facts showed that nothing existed to raise the purchasers’ suspicions about the condition of the soil. The trial court found that the defect in the property was not readily apparent from a surface inspection. The court further found that the land was filled with garbage up to 22 feet in some places, thus making the soil insufficient to support commercial development. The defect was such that it could not be detected without expensive soil tests, according to the court. Furthermore, the copurchaser testified that he ordinarily did not order such tests prior to a purchase unless circumstances warranted otherwise. Therefore, the unchallenged findings establish that Pacific and the copurchaser acted properly under the circumstances.

The brokers probably should have been more attentive in the initial phases of this transaction. But it is quite likely that many agents, when dealing with an experienced and sophisticated buyer, would not have been very proactive, assuming that the buyer was capable of looking after its own interests. To that extent, this case—and others like it—should make most commercial agents somewhat anxious. The lesson: Never take anything for granted.

Hanon W. Russell, CCIM, JD

Hanon W. Russell, CCIM, JD, is a partner in the firm of Cantor, Floman, Russell, Gross, Kelly, & Amendola, P.C., located in Orange, Connecticut. Russell can be reached by phone at (203) 795-1211 or by e-mail at hwr@chesscafe.com. The discussion of legal issues involved in this column is for informational purposes only. Results may vary depending on state laws and particular facts.