November 2012 Archives

Is There a "Haunted House" Exception in Real Estate Contracts?

November 13, 2012

I found this case while researching a potential litigation. While it is not a new decision, it presents a rather unusual set of facts.

A property buyer is charged with acting diligently in inspecting a property that is being considered for purchase. Because a property is purchased "as is," a seller has no obligation to disclose anything, meaninig, that a buyer cannot seek redress for any defects to the property or its chain of title discovered after the closing has taken place. As a result, prior to buying a house--or any property--it is physically inspected and the chain of title carefully examined. There are two exceptions to this rule: (i) Where a seller creates a defect that cannot be found by a buyer in an ordinary inspection, referred to sometimes as a seller's "active concealment" and (ii) where the parties are in some confidential relationship that requires a seller to disclose any information that could affect the property (these are infrequently found).

The buyer in this case sought to rescind the contract because the house he had agreed to buy was reportedly haunted. This fact was reported by some news outlets after the seller announced that it was haunted and allowed for it to be a tourist spot. The buyer, however, was not from the area and had no knowledge of the property's reputation. When the seller refused to cancel the deal, the buyer sued to rescind the sales contract. The trial court denied the buyer any relief, but the Appellate Division, First Department, reversed. The Appellate Division's description of the facts and principles are colorful and I quote some of it here.

After stating that the broker had no obligation to disclose the "phantasmal reputation" of the property, and that the buyer did not have "a ghost of a chance" to assert fraud by the seller (as opposed to rescinding the contract), the court decided, from an equitable perspective, that investigating ghost sightings was practically impossible. "Applying the strict rule of caveat emptor [buyer beware] to a contract involving a house possessed by poltergeists conjures up visions of a psychic or medium routinely accompanying the structural engineer and Terminix man on an inspection of every home subject to a contract of sale. It portends that the prudent attorney will establish an escrow account lest the subject of the transaction come back to haunt him and his client--or pray that his malpractice insurance coverage extends to supernatural disasters. In the interest of avoiding such untenable consequences, the notion that a haunting is a condition which can and should be ascertained upon reasonable inspection of the premises is a hobgoblin which should be exorcised from the body of legal precedent and laid quietly to rest."

The court differentiated between recovering damages and rescinding the contract. While there was no strong legal basis to recover damages, presumably because the court would not find true fault with the seller's actions, fairness would not compel the buyer to close on this contract, where the buyer did not, and could not, have discovered this issue. Recognizing that it was pushing the boundaries of settled law, the court stated that where "fairness and common sense dictate that an exception should be created, the evolution of law should not be stifled by the rigid application of a legal maxim." Finding that the buyer undertook all the normal and reasonable inspections of the property, and because no amount of research would have revealed to the buyer "the presence of poltergeists at the premises or unearth the property's ghoulish reputation," the contract would be rescinded.

The court dismissed the seller's claim that the contract provided that the property was being sold "as is" because this information was unique to this seller and had not been disclosed to the buyer. With its tongue in cheek, the court pointed out that if the terms of the contract were scrutinized, it was the seller that was in breach, as she could not deliver the house "vacant," as called for under the contract.

It is important to note that the court held this way in large part because it was the seller that revealed the condition of the house to the press, but not to the buyer. By doing this, the seller was engaged, to some degree, in the "active concealment" of a defect.

This conduct was not enough for the dissent. The dissenting opinion would have enforced the contract because the seller took no active steps to hide a defect or deceive the buyer. As far as the haunted nature of this house, the dissent argued that the "existence of a poltergeist is no more binding upon the defendants than it is upon the court."

As a practical matter, issues of disclosures have been altered in many respects by New York State's mandatory disclosure laws which compel disclosure and some waiver of defects. That said, there is plenty of active litigation over disclosure and the lack thereof when properties are bought and sold.

Special Relationship May Defeat Usury Defense

November 8, 2012

Plaintiff sought to recover from a corporation and its shareholders a total of $106,000 based on a $15,000 loan. Defendants denied liability and raised usury as an additional defense. Both sides moved for summary judgment, the plaintiff on the note and the defendants on their defense of usury. In opposition to the usury defense, the plaintiff claimed that the amount in excess of $15,000 was not interest but a combination of smaller loans that were consolidated and included in the repayment for ease of reference and to be repaid all at one time.

In addressing the usury defense, Kings County Commercial Division Judge Carolyn E. Demarest, agreed that if the interest charged was usurious, the lender could not collect. However, in this case, it was the borrower-defendant that drafted the loan documents, proposed the interest rate and payment options, and assured the lender-plaintiff that it was all legal and enforceable. Additionally, the defendants were plaintiff's investment brokers and were hired to research and make investments for him. In that setting found the court, to avoid a situation where "'a borrower could void the transaction, keep the principal, and achieve a total windfall, at the expense of an innocent person, through his [or her] subterfuge and inequitable deception'" a usury defense could not stand.

The court found a related basis not to allow the defendant to hide behind the usury defense. Where the parties entered into the loan based on the relationship of trust between them, and the plaintiff's relied on that relationship, the borrower will not be rewarded for his scheming and misleading conduct. Thus, where a relationship "results in a borrower inducing the lender to make a loan at a usurious rate" the court may not void the loan because it is usurious. Instead, the court will enforce the loan at a legal rate of interest.