Relocation Co. Not Liable for Sellers' Nondisclosure

Below are summaries of recent court cases affecting the real estate industry.

December 1, 2004

Iowa’s highest court has ruled that a relocation company is not liable when a home’s sellers fail to disclose flooding problems on the property.

Joel and Mary Ellen Bowers bought a home in 1998 and built a new addition in 1999. In 2000, the Bowers listed their home with a real estate broker, completing a property condition disclosure form that denied any flooding problems.

When the broker failed to sell the home, the Bowers worked with Associates Relocation Management Co. Inc., which bought the home from the Bowers to resell to a third party. As part of the transaction with the relocation company, the Bowers completed two additional disclosure forms, again denying any flooding problems while living in the residence. The Bowers also gave the relocation company their permission to provide copies of all disclosure statements to interested buyers.

The relocation company sold the property in November 2000 to Ricky and Janet Sedgwick, who received copies of the Bowers' disclosure statements. When the Sedgwicks experienced flooding problems shortly after buying the home, they filed a lawsuit against the Bowers and the relocation company, alleging that they had falsely represented the condition of the property. The trial court dismissed the lawsuit, and the Sedgwicks appealed.

The Supreme Court of Iowa affirmed the dismissal of the relocation company from the lawsuit. The trial court had ruled that the relocation company was not liable because it had no reason to know that the disclosures provided by the Bowers were false.

The trial court also had found that the Bowers were not liable to the Sedgwicks because the buyer of their home was the relocation company, not the Sedgwicks. However, the state’s highest court ruled that there was sufficient evidence that the Bowers might have committed fraud against the Sedgwicks and ruled to reinstate the allegations and send the matter back to the trial court.

In order to commit fraud, a party must make a false statement which the party knows to be untrue, is material to the transaction, is justifiably relied upon by the other party, and causes damage to the other party. The court found that the false statements made by Bowers on the disclosure statements could amount to fraud because they had agreed to allow the relocation company to share the statements with interested buyers and agreed to indemnify the relocation company for any false statements made by them in their disclosure statements.

The court affirmed the ruling in favor of the relocation company. An Iowa statute protects a “transferor … [from liability] for the error, inaccuracy, or omission in information required in a disclosure statement, unless that person has actual knowledge of the inaccuracy, or fails to exercise ordinary care in obtaining the information.” There was no evidence that the relocation company had any knowledge of the falsity of the Bowers’ disclosure statements or that the relocation company had failed to exercise care in obtaining the information.

Brokerage Entitled to Insurance Coverage

A federal appellate court has ruled that an insurance company improperly denied coverage on a claim submitted by a real estate brokerage. The denial was based on a pollution exclusion found in the errors and omission (E&O) policy.

First Realty Ltd. filed a claim with its insurance carrier, Frontier Insurance Co., seeking defense against a lawsuit. The lawsuit claimed that the brokerage had failed to disclose the presence of a former municipal solid-waste disposal site and hazardous materials on the required disclosure form. The lawsuit also alleged that First Realty misrepresented that the site had not been a solid waste disposal site or contained other environmental concerns.

Frontier denied coverage for the lawsuit, concluding that the claim was barred by a policy exclusion, which stated, in part, that "claims arising out of, relating to, or based upon the … presence of storage tanks, … hazardous materials, radon, gases, or other material, irritant, contaminant, [or] pollutant." Even after First Realty submitted expert evidence from the plaintiff that there was no hazardous waste or gases on the premises, Frontier continued to deny coverage.

Following the resolution of the court case, in which First Realty was found to have misrepresented the property’s condition but was not convicted of fraud, First Realty filed a lawsuit against Frontier. The suit alleged breach of contract and bad faith. The trial court entered a judgment in favor of Frontier, finding the exclusion precluded coverage. First Realty appealed.

The U.S. Court of Appeals for the Eighth Circuit reversed the trial court and sent the case back to the trial court for further proceedings. The appellate court found that an Iowa rule states that if any alleged claim "can rationally be said to fall within [the policy's] coverage, the insurer must defend the entire action." Iowa law also requires that ambiguous policy provisions be construed in favor of the insured. Looking at the exclusion, the court determined that the terms “other material,” “irritant,” and “contaminant” as used in the exclusion were ambiguous, as these terms could include “innocuous rubbish” or other discarded trash. Therefore, those terms would be construed in favor of First Realty.

Next, the court looked at the allegations in the lawsuit to determine if Frontier was required to defend First Realty. First Realty conceded that the exclusion covered the presence of hazardous materials on the property, but argued that Frontier was required to defend the misrepresentation allegations. The lawsuit’s allegations had stated that First Realty had misrepresented on the disclosure form that the property did not contain hazardous waste or other area environmental concerns. Since the court had already determined the exclusion was ambiguous and must be read in favor of First Realty, the court found that at least some of the lawsuit’s allegations were broader than the exclusion and so Frontier was obligated to defend the entire action. The court also found that the duty to defend First Realty clearly arose when First Realty gave Frontier evidence that there was no hazardous waste or gases on the property.

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