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Sieglinde Summer, a real estate broker with Beneficial Services Inc., which operated a RE/MAX office, listed a home in Huntington Beach, Calif., that was posted on various local multiple listing services at prices ranging from $749,000 to $799,000, according to court records.

The home was described as having “motivated” sellers, and the listing explained that the broker would receive a 3 percent commission.

Phil and Jenille Holmes became interested in the home, went with Summer to see the property, and made an offer to purchase the home for $700,000, free and clear except their own purchase money mortgage, with a 60-day escrow, court documents state.

At no time during the viewing or offer process did Summer mention any liens or loans that would prevent the home from being sold at the list price.   The sellers issued a counteroffer to sell the home at $749,000 with a 30-day escrow, which the buyers accepted.

The buyers did not know that the home was encumbered by well over $1.1 million in loans, court documents state. Only after the buyers sold their own home in order to secure the financing to buy that home did they learn that the transaction was, in fact, a short sale.

The lienholders refused to approve the sale for $749,000 and the transaction could not be completed.

The buyers filed a lawsuit against the broker and brokerage company, alleging negligence and deceit in misrepresenting the nature of the transaction, by virtue of knowing — and failing to disclose — that the transaction could not be consummated without the three lienholders’ agreement to accept less than the payoff amounts they were owed, according to the lawsuit.

The broker and brokerage company demurred in the trial court, arguing that the buyers’ lawsuit was a veiled attempt to get the broker and brokerage company to guarantee the transaction, and that the Summer and Beneficial could not fairly be held responsible for the sellers’ decision to sell their home at a loss.

The trial court granted the brokers’ demurrer and dismissed the buyers’ lawsuit, holding that if anyone was liable to the buyers for the nondisclosure it was the sellers, not the brokers.

The appeals court overruled the trial court’s dismissal of the case.  The appellate court explained that under California law, when the seller’s broker is aware of “facts materially affecting the value or desirability of the property which are known or accessible only to him and also knows that such facts are not known to, or within the reach of the diligent attention and observation of the buyer,” the broker has a duty to disclose these facts to the buyer.

For the buyers in this case, the existence and large size of the encumbrances on the property — which created a shortfall of nearly $400,000 that either the sellers would have to produce or the seller’s lenders would have to forgive, for the transaction to close — did materially affect both the value and desirability of the property.

Because the brokers were aware of this debt and knew that the buyers were not aware of it, by failing to disclose this information to the buyers, the brokers “represented the nonexistence of any impediments to the transfer of title free and clear of monetary liens and encumbrances,” ruled the court.

The court overruled the brokers’ contention that their duty to disclose extended only to physical defects of the property, declaring that the brokers’ position “misses the big picture,” and explaining that “a buyer may also be harmed by entering into an escrow to purchase property when it is highly likely that, unbeknownst to the buyer, the escrow will never close.”

This is especially the case, the court went on, in cases such as this where a buyer must sell their previous residence to purchase the next home — something so common that the brokers should have foreseen that buyers might have so been damaged by relying on their purchase of this home to close.

The court also rejected the argument of Summer and Beneficial that they should not be held liable because the liens were disclosed during escrow, and that it if the buyers had done a title search, they could have uncovered the liens themselves.

The broker’s duty was to disclose the liens in time for the buyers to decide whether to enter the transaction, the court explained, and it is not standard or reasonable in California for a buyer to conduct a title search before entering into a contract to buy a home.

In addition, the court explained, a title search reveals only the liens and their amount at the time they were recorded, not the current balances owed on the liens, so that would not have uncovered the true magnitude of the liens’ impediment to the sellers’ ability to transfer the property.

Furthermore, even if the buyer had some reason to know about the liens, that would not — in the court’s opinion — necessarily have eliminated the brokers from being liable to the buyers for the nondisclosure.

The court clarified: “the rule we articulate in this case is simply that when a real estate agent or broker is aware that the amount of existing monetary liens and encumbrances exceeds the sales price of a residential property, so as to require either the cooperation of the lender in a short sale or the ability of the seller to put a substantial amount of cash into the escrow in order to obtain the release of the monetary liens and encumbrances affecting title, the agent or broker has a duty to disclose this state of affairs to the buyer, so that the buyer can inquire further and evaluate whether to risk entering into a transaction with a substantial risk of failure.”

Accordingly, the trial court’s dismissal of the matter was overturned and the case was sent back to the lower court for the case to proceed.

Tara-Nicholle Nelson is author of "The Savvy Woman’s Homebuying Handbook" and "Trillion Dollar Women: Use Your Power to Make Buying and Remodeling Decisions." Tara is also the Consumer Ambassador and Educator for real estate listings search site Trulia.com. Ask her a real estate question online or visit her website, www.rethinkrealestate.com.

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