Published on: August 22, 2002
As far as court decisions go, this has been a good season for Massachusetts homeowners generally and for condominium owners in particular. Earlier this year, the Supreme Judicial Court (SJC) held that home buyers can rely on an implied warranty of habitability in the purchase of new homes. Lower courts have hinted broadly at that conclusion in past decisions, and the implied warranty for new homes is well-established in most other jurisdictions. But this is the first time Massachusetts’ high court has embraced this consumer protection principle in this context, establishing it here as a matter of law.
The court didn’t stop there. Following closely on the heels of that widely anticipated decision (Albrecht v. Clifford), the SJC went on to rule in a companion case that the warranty of habitability it had established for the purchasers of detached homes applied equally and for the same reasons to the purchasers of condominium units.
“The policy reasons that led us to adopt an implied warranty of habitability in the purchase of a new home apply equally to the purchase of a new condominium unit,” the court ruled in Berish v. Bornstein. “The legal differences between the purchase and ownership of a condominium and the purchase and ownership of a house are inconsequential when compared with the similarity of purpose underlying both transactions, i.e., the acquisition of a habitable home,” the court said.
That decision, while certainly welcome, was not entirely unexpected. Once the court had established the underlying principle, that a warranty existed for detached single-family homes, its extension to condominium units looked like a foregone conclusion. Less certain, but crucial for condominium owners, was the court’s conclusion that the implied warranty also applies to community associations.
The key argument here, which we made in an amicus brief for the Community Associations Institute in support of the community association, was that unit owners have an opportunity to inspect their individual units before purchasing them, but they cannot realistically inspect all the common areas in which they hold a partial ownership interest. Moreover, the authority to maintain and repair common areas rests entirely with the community association, which is not involved in the construction process, has no contractual relationship with the builder/developer, and has no opportunity to negotiate the express warranties that individual unit owners, arguably, could negotiate for the units they purchase. If a common area defect affects the habitability of individual units, owners would have no recourse against the builder, save the recourse created by recognizing an implied warranty running to the community association. The SJC agreed.
The association’s “exclusive right” to seek remedies for defects in common areas, “combined with the unit owner’s virtually nonexistent control over the common areas,” the court noted, “may result in an incomplete remedy for unit owners against a builder whose improper design, material, or workmanship is responsible for a defect in a common areas that causes units to be uninhabitable or unsafe.”
Standards for Claims
The court established essentially the same standards for community associations, unit owners, and owners of detached homes seeking to assert an implied warranty claim, with two crucial exceptions for community associations:
- The warranty extends only to the initial purchasers of a detached home or a condominium unit, but not to subsequent purchasers of those dwellings. For the association, the warranty attaches to the common area and is limited only by the statue of limitations on construction claims; it is not affected by changes in the make-up of the association board.
- Unit owners, like owners of detached homes, must demonstrate that the defect manifested itself only after the purchase of the dwelling. But the community association does not actually “purchase” its interest in the common areas. Accordingly, the court decided, associations must show that the defect became manifest only after construction “was substantially completed.”
Apart from those distinctions, an implied warranty claim in the condominium setting, as for a detached home, requires a showing that the property has a latent defect caused by “improper design, material, or workmanship,” and that the defect created a “substantial question of safety” or made one or more units “uninhabitable.’’
Cautions for Developers
For unit owners and community associations, this decision provides an avenue for pursuing claims for construction defects that did not exist before. However, for condominium developers, the decision potentially increases the liability risks for defects caused by the third party professionals—engineers, architects, contractors, and builders — on whom developers often rely. To limit those risks, developers should be particularly careful in negotiating contracts with these professionals, and should consider including the following provisions:
- A clause stating specifically that the community association and unit owners are the intended beneficiaries of the contract.
- Language stating that the developer retains the right to assign any claims to the association and/or unit owners.
- Language requiring the service provider to defend and indemnify the developer against any claims arising from the provider’s work, design, or supervision.
- A clause amending the standard one-year statute of limitations in the American Institute of Architects (AIA) contract for a period coinciding with the rights of the association or unit owners to bring a claim.
Additionally, developers may want to consider inserting mandatory arbitration provisions in purchase and sale contracts and limited warranties for individual unit owners, as well as in the condominium documents. Developers who use outside builders should also consider incorporating the builder’s warranty as part of the owner’s purchase and sale agreement, with a provision specifying that all claims relating to construction are against the builder and not the developer.
Economic Loss Rule Is Still With Us
Although Berish focused on the implied warranty of habitability, it involved an interesting, though peripheral, argument about the “economic loss rule” that is also worth mentioning. This long-standing rule holds that in a “tort” action (distinguished from a breach of contract claim) plaintiffs can recover damages only for actual property damage or personal injury; they may not recover damages for a purely economic loss.
In the condominium arena, this means, a community association that discovers the roof is defective can’t directly sue the developer for the cost of repairing it; however, if the roof collapses and damages the lobby and several units, the association could recover, at a minimum the cost of repairing the damage caused by the defective roof.
The legal theory behind this rule is that the party contracting to have the roof constructed had an opportunity to negotiate an express warranty guaranteeing its performance. If the individual failed to exercise that right, the court has said, “We won’t provide a second bite of the tort apple by allowing him/her to sue the contractor if the roof fails.”
We argued in Berish that the court should reject the economic loss rule for condominium associations for the same reason that it should recognize an implied warranty for them – because the association has no ability to negotiate an express warranty covering the common areas. The SJC accepted that argument for the implied warranty but declined to apply the same logic to the economic loss rule.
As a practical matter, plaintiffs’ attorneys get around the rule by establishing a loss for which they can recover, beyond the cost of repairing a defective item. The SJC followed that circuitous path in Berish and in a case decided a few weeks before — Aldrich, et. al. v. ADD, Inc. — involving a condominium association seeking to recover damages resulting from an architectural firm’s allegedly defective design. The court applied the economic loss rule in both cases, but also found damages other than those precluded by the rule, for which the plaintiffs might recover.
The decision leaves several questions unanswered:
- Can diminution in fair market value, resulting from a defective condition, constitute “damage to property” for purposes of the economic loss rule?
- Does a condominium association have standing to advance a claim relating to the common area, but premised upon a diminution in the fair market value for units and/or common area in which it has no ownership interest?
- To what extent can an association rely on the cost of repairing the defective element to establish a diminution in fair market value?
These questions, and others, will have to wait for another day.
We had hoped the court would eliminate the economic loss rule altogether, at least as it applies to condominium associations. But given that the SJC has reached the same adverse conclusion in two consecutive decisions, it seems clear that this theory is going to stand, at least for the foreseeable future. This won’t bar recovery for damages in cases such as Aldrich and Berish, but it will continue to require creative and sometimes convoluted arguments to achieve that goal.