BrokerageIndustry News

Legal pitfalls of agency representation for real estate professionals

Transaction brokers have legal safe harbor

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Although most home sales go off without a hitch, when things do go wrong buyers and sellers tend to blame their own — and each other’s — real estate agents.

When disputes end up in court, the outcome often hinges not only on the conduct of the brokers or agents involved, but on whom they represented — one, both or neither parties — and the “duty of care” their clients were owed.

Thanks in part to more than two decades of lobbying by the real estate brokerage industry, the duties brokers and agents owe their clients are explicitly defined by state licensing laws and regulations, listing agreements and disclosures.

But those duties vary from state to state — and even from transaction to transaction — because they depend on the legal relationship that brokers and agents establish when providing services to consumers.

Each form of broker-client relationship has its own set of rights, responsibilities and legal pitfalls. (View an interactive map showing states’ varied approaches in defining broker-client relationships.)

As one judge put it in deciding a lawsuit in which a real estate agent was accused of breaching her fiduciary duty to her client, “Ultimately, the precise duties of a real estate broker must be determined by an examination of the nature of the task the real estate agent undertakes to perform and the agreements he makes with the involved parties.”

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Real estate broker-client relationships are better defined than they were two decades ago, when general statutes and common law precedents often prevailed. But they remain a source of confusion for consumers and real estate professionals alike.

When consumers expect a level of service they may not actually be entitled to — or agents have legal responsibilities they are not aware of — lawsuits are the inevitable result.

Source of lawsuits

Disputes arising from agency representation issues continue to be the top legal concern of real estate brokers, agents, attorneys and educators, according to a survey conducted every two years by the National Association of Realtors.

Nearly 73 percent of those surveyed by NAR in 2011 identified agency issues as one of the top three sources of disputes involving real estate professionals that result in litigation, complaints to state real estate commissions, arbitration or mediation.

Agency issues appeared in the top three lists of those surveyed as a source of disputes more often than property condition disclosures (68 percent), ethics (53 percent), third-party liability (49 percent), fair housing (48 percent), technology (48 percent) and antitrust issues (47 percent).

NAR’s 2011 Legal Scan also identified and categorized 705 lawsuits involving real estate professionals that were decided or settled in 2009 and 2010 (the list, compiled from Westlaw state and federal case-law databases, is not comprehensive, and does not include complaints to real estate commissions or those resolved through arbitration or mediation).

Agency issues accounted for 159 of those cases — a 36 percent increase from 2009 — second only to commission disputes, at 168 (up 4 percent from 2009).

NAR tallied 151 lawsuits related to property condition disclosures (unchanged from 2009), and 147 cases based on alleged violations of the Real Estate Settlement Procedures Act (RESPA), up 44 percent from the last survey. Fair housing lawsuits (126 cases) were up 75 percent, the largest increase among major topic areas.

Among lawsuits revolving around agency issues, nearly half (73 cases) involved accusations that a broker or agent had breached their fiduciary duty to their client or clients.

Buyer representation was an issue in 24 cases, and dual agency a factor in 20 other lawsuits. In nine other cases, transaction brokerage or other non-agency forms of representation were in dispute. Clients alleged agents had created vicarious liability for them in seven cases. (Under the principle of vicarious liability, buyers and sellers are liable for misrepresentations made by agents who are representing them in an agency capacity). Agency disclosures were at issue in four other lawsuits.

Breach of fiduciary duty

Three out of the top 10 biggest damage awards identified by NAR in 2009 and 2010 involved breach of fiduciary duty — including a $744,789 jury award in a case in which a Louisiana real estate agent was accused of derailing a deal by accepting a second offer while a counteroffer was still pending (Markovich v. Prudential Gardner Realtors).

Real estate professionals surveyed by NAR said breach of fiduciary duty can be something of a catch-all for consumers who aren’t satisfied with the outcome of a transaction. But many said agents don’t understand what it means to be a fiduciary — to put their clients’ interests ahead of their own.

One real estate broker in Michigan introduced a seller whose home had been on and off the market for four years to a buyer who offered him $70,900 in cash plus a “viatical” — an ownership stake in another person’s life insurance policy — supposedly worth $638,100.

A year later, the seller received $172,046 for his viatical — 27 percent of its face value — after the buyer’s “life settlement company” was placed in receivership by Michigan securities regulators and its assets liquidated.

A jury found the broker guilty of breaching his fiduciary duty to his client, and awarded the seller $25,000 in damages. The seller appealed the award as “grossly inadequate,” but the decision was upheld by the Michigan Court of Appeals (Elgersma v Re/Max of Grand Rapids Inc.).

In another case, a husband and wife agent team in Louisiana were accused of breaching their fiduciary duties to their clients for allegedly failing to explain the importance of property disclosures or instructing them on how to complete a disclosure form.

The sellers maintained that the agents — who also represented the buyer in the transaction — breached their fiduciary duties because they failed to explain the importance of property disclosures, or instruct them on how to complete the form.

The judge presiding over the case agreed that the agents’ “habit of allowing a seller to fill out the property disclosure form without benefit of their experience and instruction is disconcerting at best. Realtors are fiduciaries and they owe clients the benefit of their experience and knowledge.”

But the sellers had resisted the agents’ advice to disclose new floors they had installed on a list of alterations they had made the house, the judge noted, which should have alerted them that other work they had done “was (also) an alternation that needed to be disclosed,” the judge ruled in the agents’ favor (Hof v. GBS Properties LLC).

Transaction brokerage

By limiting or eliminating the fiduciary duties that brokers and agents owe their clients, lawmakers in more than two dozen states have reduced the legal liability of Realtors providing services in non-agency relationships such as transaction brokerage. But that hasn’t stopped consumers from filing lawsuits testing those defenses.

NAR’s 2011 legal scan identified nine lawsuits challenging licensees who practiced transaction brokerage or another form of non-agency representation, up from one case involving transaction brokerage in the 2009 report.

In a Florida case, a development company asked a real estate agent to evaluate a beachfront property that had been advertised as being suitable for a multi-unit development. Based on the agent’s analysis, the developer bought the property for $4.9 million.

When the developer learned that the property was only zoned for a single-family home, he sued the agent, claiming she had breached her fiduciary duty and committed professional negligence. A U.S. District Court judge dismissed the case against the agent and her broker, finding that the agent had provided services as a transaction broker and did not owe a fiduciary duty to the developer (Century Land Development v. Weits).

In a case that went all the way to the Wyoming Supreme Court, a couple whose home was condemned as a complete loss when its foundation crumbled less than two years after they bought it found the agents on both sides of the deal couldn’t be held responsible, because they’d acted as transaction “intermediaries.”

The home’s basement walls had been constructed of unreinforced cement block, and a previous inspection of the home had characterized some sections of the basement wall structurally unstable and that the home was not suitable for occupation. Nearby homes constructed by the same builder in the 1960s had similar problems, and the previous owners of the home had purchased it “as is” without having inspections done, according to court testimony.

Because the buyers had failed to provide any facts demonstrating that any of the issues with the home were “actually known” to their agent, there was no proof that she had breached her duties as an intermediary.

Similarly, the buyers couldn’t argue that the agent representing the sellers as an intermediary had perpetuated material misrepresentations of the seller that she “should have known” were false. Only issues that were “actually known” were relevant, the Wyoming Supreme Court ruled (Throckmartin v. Century 21 Top Realty).

The extent to which real estate brokers and agents are expected to put their skill, competency and experience to work to uncover issues about a property that their clients may think they “should know” goes beyond property defects — particularly in the world of commercial real estate.

When a Colorado real estate broker advertised an operational 12-site recreational vehicle park in the multiple listing service as a “turn-key business opportunity,” he reportedly didn’t know that it lacked the proper county and state water, sewage and land use permits. When the buyer sued the broker, he was off the hook, because as a transaction broker he had “no duty as a matter of law to conduct an investigation of the resort to verify that it could in fact operate as a 12-site RV park,” the Colorado Court of Appeals ruled (Barfield v. Hall Realty).

Dual agency

Dual agency may be the most talked about agency issue, though it’s not the most litigated. Legal in 42 states, Realtors often debate its ethical implications.

Real estate professionals surveyed by NAR said that in general, agents don’t understand dual agency and cannot explain it to their clients, exposing the agents to lawsuits.

Brokers practicing dual agency have a more limited duty of loyalty to their clients — by definition, they can’t be advocates for both — and must be particularly vigilant about maintaining client confidentiality. An agent who tells a seller during negotiations how much a buyer might be willing to pay would be breaching fiduciary duties to the buyer, for example.

But clients served by dual agents may also conclude that their agent has withheld crucial information or advice from them in order to keep a deal on track.

In Baltimore County, Md., a jury awarded $90,000 to buyers who said they relied on a property disclosure and the assurances of their dual agent that the home’s septic system worked properly or could be repaired for $10,000 held in escrow. The system failed a “perc test” conducted after the closing.

In another case in Shasta County, Calif., buyers filed suit against their dual agent, claiming they had to live in a trailer for a year because the sellers of a home they purchased failed to disclose that the house was unpermitted, not up to code, and not legal for occupancy. A trial court awarded $180,000 in damages.

Although liability was determined in 13 of 20 lawsuits involving dual agency tracked by NAR, only three of those cases resulted in damage awards against real estate licensees.

But even when they are off the hook for damages, agents practicing dual agency may still find themselves stuck with large legal bills.

A would-be buyer who lost her $31,000 deposit after failing to obtain financing to close on a $610,000 home under contract in Rocky Hill, Conn., sued the seller, the dual agent representing both parties, and a mortgage broker recommended by the agent.

The judge in the case ruled that the agent and her broker were negligent and had “significantly contributed” to the circumstances that led to the would-be buyer losing her deposit.

Instead of advising her client to exercise a contingency clause and obtain a refund of her deposit when she was initially unable to qualify for a large enough mortgage, the agent referred her to a mortgage broker who attempted to put together more complicated financing involving a home equity line of credit on the would-be buyer’s existing home, and a second mortgage on the home she intended to buy.

In the hopes of keeping the deal alive, the agent and her broker also “pressured (their client) to permit them to sell her house,” assuring her “that her deposit was safe and that the (they) would be able to effectuate a quick sale” of her existing home.

But the agent wasn’t the only one to blame, the judge ruled. The would-be buyer had a “cavalier attitude throughout the transaction,” the judge ruled, and the fact that she nearly doubled her disclosed income to $15,000 a month after she was initially turned down for financing undermined her credibility.

“Quite frankly, the plaintiff’s negligence, manipulation and dishonesty preclude her from recovering any money damages from these defendants,” the judge ruled in dismissing claims against the seller, the agent and broker, and mortgage broker.

But the judge also refused to order the would-be buyer to pay the agent and her broker’s attorney fees and expenses, which totaled $58,330.

Although their client had signed a buy sell agreement stipulating that the prevailing party in any legal dispute would be entitled to recoup their costs, the agent and her broker “are clearly not ‘the prevailing party,’ ” the judge ruled (Dalia Giedrimiene v. George J. Emmanuel).

Buyer representation

The demise of subagency created a new class of agency, with its own set of rights and obligations: buyer representation.

NAR’s 2011 Legal Scan turned up 24 lawsuits involving buyer representation, although only one out of 13 cases in which liability was determined resulted in a judgment against an agent.

In that case, a buyer’s agent in Louisiana rescheduled a closing date on a sale that was pending as Hurricane Katrina struck the Gulf Coast. When that date also proved unfeasible, the agent failed to get written agreement to extend the date again, but advised the buyer she did not have to appear. The seller canceled the contract, and the agent had to pay $20,000 to the buyer plus $27,900 in attorney fees (Ziegler v. Pansano).

Real estate professionals surveyed by NAR said they worry that lawsuits over buyer representation are becoming more common, with agents risking disputes over procuring cause if they don’t make disclosures and obtain signed representation agreements.

Agency disclosures

NAR found agency disclosures were at issue in four lawsuits, including a case in which the South Dakota Supreme Court backed up a ruling by the state’s real estate commission that the assignment of a purchase agreement to a new buyer does not relieve brokers of their duty to obtain an agency agreement from their new client and provide the required disclosures.

The case arose when an agent helped a would-be buyer negotiate a purchase agreement on a piece of ranch land that was contingent on the buyer selling his own land. Because the agent worked at the same firm as the listing agent, he entered into a “limited agency agreement” with the would-be buyer — South Dakota’s term for disclosed dual agency — and provided the necessary disclosures.

Although the would-be buyer was unable to sell his own property, he agreed to assign his right to purchase the property to another buyer for $25,000.

The agent also worked with the new buyer to close the deal, but did not enter into a new agency agreement or disclose his role as a limited agent. After the deal closed, the buyer claimed that the agent had misrepresented the extent to which covenants on 240 acres of the ranch he’d purchased would restrict its use and development.

The buyer filed a complaint with the South Dakota Real Estate Commission. The commission then charged the agent with failing to execute an agency agreement with the new buyer, or disclosing that both he and the listing agent worked for the same firm.

The agent maintained that the assignment of the purchase agreement to the new buyer had also transferred the agency agreement.

The commission disagreed, fining the agent $1,000 for unprofessional conduct and assessed $6,177 in costs. The agent was also given the choice of completing six hours of training and a three-hour ethics course, or having his license suspended for two months.

The agent appealed the decision, and won a circuit court ruling in his favor. But the South Dakota Supreme Court ultimately sided with the state’s real estate commission.

Agency agreements and disclosures, the state’s high court ruled, “are intended to protect the consumer and ensure that consumers are specifically informed of and accept the nature of the agency relationship.”

Although the assignment of the purchase agreement did transfer all of the would-be buyer’s “rights, privileges and obligations” to the new buyer, it did not address the effect on the agency agreement.

“Realtors cannot delegate to their clients, by way of assignment or otherwise, their professional duty to properly inform their clients by ‘clear and complete explanation’ their ‘representation of the interests of the seller or buyer,’ ” the court ruled, citing South Dakota statute (Leonard v. South Dakota). “This obligation is all the more fundamental here because Leonard’s firm represented both the buyer and the seller.”

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