Terminating real estate contracts:
Baker v. Warshawski, 2010 ABQB 219 (“Baker”) is a recent decision of Alberta Court of Queen’s Bench that considered a purchaser’s right to rescind a purchase contract prior to close for breach of the sellers’ requirement to provide the property in “substantially the same condition” and for a misrepresentation inducing the purchaser to enter the contract.
This first blog post will focus on the breach of a sellers’ obligation to provide property in substantially the same condition on closing and terminating real estate contracts. The Court’s decision provides some instructive lessons in this regard for agents of both sellers and buyers and, obviously, for their clients.
Section 4.2 of the AREA Residential Real Estate Purchase Contract provides that “When the Buyer obtains possession, the Property will be in substantially the same condition as it was in when this Contract was accepted.” In other words, the Buyer must not substantially alter the property between the time of acceptance and the time of closing. But what does substantially the same mean for the courts? How should agents advise their clients? What lessons can be learned to help agents and clients avoid nasty and expensive litigation when deals fail to close because of this situation.
In Baker, the sellers demolished a courtyard wall after the purchaser discovered that the courtyard crossed onto the neighbours’ property by four inches. The sellers were aware of the encroachment prior to the offer being accepted and they were also aware that the neighbour would not sign an encroachment agreement. Unfortunately, the encroachment was not disclosed to the buyer by the sellers at the time the offer was made despite the buyer’s agent asking if there was a real property report (“RPR”) with a compliance stamp on it. Instead, the sellers’ advised the buyer that there was a RPR with a compliance stamp, but they were silent about the fact that the RPR indicated a significant encroachment problem and that the neighbour was not cooperative.
The courtyard was an important selling feature of the house, it was emphasized by the sellers in promotional material, and the buyers were particularly attracted by the courtyard and the security that it would provide for their young children. The courtyard wall provided a privacy screen for the three principle rooms of the main floor which all opened onto the courtyard in a ”˜c’ shape, including the kitchen, the living room, and the dining room. Without the courtyard wall those same rooms would have opened directly onto the neighbours’ driveway.
In order to remedy the encroachment created by the courtyard and in order to comply with the warranties and representations given in section 6.1, the sellers decided to demolish the courtyard (without notifying the buyers) prior to the closing date. However, the buyers refused to close on the basis that demolition of the courtyard was a fundamental breach of the contract entitling them to rescind or treat the contract as discharged. The seller refused to return the $100,000 deposit and litigation ensued.
So what did the court have to say about the requirement to provide the Property in substantially the same condition and terminating real estate contracts?
The court noted that the destruction of the courtyard and the resulting “material alteration to the aesthetics and utility of the main floor” went to the root of the obligation to provide a property in substantially the same condition. The material alteration was a “substantial breach” of that contractual ”˜promise’.
However, here it gets complicated. The court determined that the ”˜promise’ to provide the property in substantially similar condition is the kind of contractual term that can be treated either as a term that gives rise to a right to damages only (a payment of money) or a right to terminate or rescind the contract. In other words, not all breaches of the promise to provide a property in substantially the same condition will entitle the innocent purchaser to repudiate the contract prior to closing and have the deposit returned.
The Court stated that it was not clear from the contract or the commercial circumstances what kind of term it was. The substantially similar provision is not in the ”˜Conditions’ section of the contract and it is not in the ”˜Representations and Warranties’ section of the contract. If the promise was a Condition it would more clearly entitle the innocent party to refuse to close. If the promise was a Warranty it would more likely entitle the innocent party to monetary damages only.
As a result, the Court looked at other factors like the gravity of the breach and the intentions of the innocent party to determine how to treat the breach of the promise. The court noted that the breach was substantial with respect to both aesthetics and utility, even though the cost to rebuild the courtyard wall was small compared to the total value of the property. In addition, the court noted that the Courtyard was a key feature of the property, that it was marketed as such, and that it was of importance to the buyer. Finally, the court noted that the seller had not disclosed the encroachment originally and had demolished the courtyard without notice, and both factors allowed the purchaser to view the sellers as unreliable and unlikely to remedy the breach satisfactorily.
As result of all of the above, the court held that the breach was sufficiently serious to allow the purchasers to treat the contract as at end and have the deposit returned. What lessons can be learned by real estate agents in light of the Courts decision?
The obvious lesson is that the issue is complicated and the advice of a lawyer should be sought prior to advising your client on how to proceed. This is true whether you are the agent for a seller who is proposing an alteration to a property or the agent for the buyer who discovers that an alteration has been made.
Second, and this may be less clear, advice should be obtained as soon as possible and definitely prior to closing to determine whether termination of the agreement might be possible. After closing, Terminating real estate contracts will be much more difficult.
Third, if a seller is in a situation where an alteration to the property might be necessary, consult with the buyer, involve them in the process, and get the buyer’s agreement (in writing if possible) to all the changes to be made.
In a best case scenario, the realtor has advised the property owner to make changes to the property prior to listing and all these problems will be avoided. Terminating real estate contracts after you are legally bound can be costly… even if you win.