Real Estate E&O Claims on the Rise

by Mike W. Smith, President

In July of 2007 I wrote an article about the rise of E&O claims related to the Real Estate industry.  We are still seeing an increase in reported E&O claims. There are a number of factors contributing to this trend, including:

1. Collapse of the Sub Prime market.
2. An increase in the stock market as investment dollars shift from real estate to equity investments.
3. Increase in interest rates.
4. Increase in foreclosure rates, both personal and corporate.
5. Stall of the residential real estate sales in major U.S. markets.
6. A slow down in the growth of increased rents.

Below are descriptions of some of the more significant areas of claims we have seen.

Mortgage Brokers
These claims relate primarily to suitability. Many E&O policies specifically exclude these types claims. Allegations contend that the underlying mortgages should have not been issued, given the financial creditworthiness and ability of the borrower to repay the related loans. When the borrower cannot repay loans, suits arise from the borrower, lender and others. These claims relate both to residential and commercial clients. Our largest mortgage broker claim is related to a commercial loan and is a $5 million claim, involving the mortgage broker and the real estate agent.

Commercial Real Estate Agents
These claims relate to practically every area of a real estate transaction. In several instances our broker was sued because a property failed to achieve a sales or rental price consistent with expectations. One recent claim involving this issue involved a suit for $20+ million. The case was ultimately dismissed against our broker; however, in excess of $200,000 was spent defending this claim and it was recently appealed. Another similar suit in our office was for $8 million and is still in litigation. Some of the more frequent claims involve the following:

a. Suitability of purpose claims. These claims can relate to improper zoning, easements or ADA related issues. In these cases, a property cannot be used for its intended purpose. This is a significant risk in land sales. Our largest claim relating to this issue was for $26 million.

b. Discrimination. These claims involve both residential and commercial clients. These claims frequently relate to property management or dual agency claims. Our largest claim relating to this issue was over $1 million.

c. Dual Agency. These claims can occur in any real estate transaction where dual agency is involved. Dual agency refers not only to the same agent, but also the same Firm with different agents. Our largest claim for this issue was in excess of $1 million.

d. Commissions. Many of our brokers bring suit against their clients in order to collect commissions owed. These suites almost always involve countersuits of negligence. Our largest claim for this issue was $23 million.

e. Corporate Services. Many of our commercial real estate clients step out of the box and perform non traditional consulting services. Often times the contracts are not tight and the agents are not qualified to perform the related services. To date we have had several claims in this area, however, most were less than $500,000. Many policies do not cover these services.

f. Pollution. Many of our broker clients are brought into suits relating to failure to disclose a contaminant which may include lead, asbestos, mold, etc. These claims typically involve failure to disclose by an owner which is imputed upon their agent. Our largest claim relating to this issue was over $5 million.

g. Owned Property. Most of our commercial real estate clients are involved in managing company or principal owned properties. Claims arise in the conflict of interest between ownership and management. We have had dozens of claims relating to this issue ranging from $35,000 to in excess of $1 million. Most policies do not cover these services.

h. Buyer/Lesser Financial Creditworthiness. These claims relate to the inability of a tenant or buyer to fulfill their financial obligations as a buyer or tenant. The claims address the issue of whether the broker has a responsibility to properly qualify a buyer or tenant and what obligation they have to disclose such information. Our largest suit for this is in excess of $50 million, however we have several down to as low as $250,000.