🔒Sealing the deal | How to limit legal risk in a hard market

Partner, Thompson & Bowie LLP, Portland

In recent years, earning income in the Maine residential real estate market has been a challenge. Middle market homes remain listed despite consistent price reductions; financing has been more difficult to obtain; and people have been reluctant to invest their nest eggs in real property acquisition. In these uncertain economic times, real estate agents find themselves vulnerable to post-sale lawsuits.

Agents typically are insured against claims through errors and omissions policies. These policies provide significant protections; however, they require hefty premiums and variable deductibles that are triggered with every claim. In addition to these “hard” expenses, there exist the “soft” costs of litigation: responding to discovery requests, depositions, day-long mediations or arbitrations and protracted trials. When agents spend time defending claims, they lose opportunities to obtain new listings or market existing ones. Agents also lose the “sweat equity” that went into marketing the property for the seller or working with a buyer to find just the right home, not to mention the unavoidable stress and frustration that accompany all litigation. Fortunately, some of these costs can be controlled by simple risk management strategies.

Many E&O policies contain a resolution clause that reduces an agent’s deductible by up to 50% if the claim is resolved early through mediation. Pursuant to Maine’s standard purchase and sale agreement, all buyers and sellers must mediate any dispute arising from the transaction prior to filing suit. Although agents are not bound by that provision, they should participate in mediation voluntarily because it could reduce the deductible.

Assume, for instance, a $200,000 sale with a standard 6% co-broker fee involving separate seller’s and buyer’s agents. At closing, each agent would be entitled to $6,000 (3% of the sale price). That gross commission is netted out by a percentage to the agency, along with ancillary reductions for marketing and other costs. Each agent may net about $3,000 on the sale. Because a standard E&O deductible is $5,000, if a claim is made post-closing, that initial amount would come directly from the agent and/or agency. This means the actual net from the sale is at worst in the negative or, at best, a negligible entry on the income side of the ledger. In terms of relative percentages, therefore, an early resolution clause should be contained in every agency’s policy.

In addition to insurance procurement, agents can take simple practice steps to minimize risk. Agents in a transaction have direct fiduciary relationships only with their clients. As such, an agent representing a seller has certain legal duties owed to her client, but much more limited duties to the buyer. In addition, agents working for the seller need to conduct sufficient due diligence to ensure that the seller’s property disclosure form is accurate based on discoverable information, and that all known material defects of a property are fully disclosed. Agents must be up to date on amendments to the statutes and evolving regulations, and should go into each transaction with a full understanding of what duties they owe and to whom, recognizing that not all duties are the same. These legal nuances are not often obvious, and there are many pitfalls an agent can fall into by not understanding obligations to each person involved in a transaction.

Additionally, agents should recognize that the interpersonal skills that make them successful also render them challenging civil defendants. Many transactions are negotiated by conversations and other statements made in face-to-face settings. Not surprisingly, subsequent litigation often reduces to a “he said-she said,” and it becomes a credibility contest as to whom is more believable. Agents can swing this credibility pendulum in their favor by documenting their file with notes of conversations and confirming emails. Documentary corroboration of who said what to whom and when is critical.

Agents also need to realize that there are times when telling the client to seek the guidance of another professional is necessary. An agent is not a home inspector, surveyor or attorney. Therefore she should not make representations on the proper truss sizing of a newly built home, give advice on language to put in a deed or indisputably represent the boundary lines. If a client seeks information beyond the agent’s expertise, the agent must recognize her limitations and direct the client to the appropriate professional.

Finally, best practices suggest that when a broker recommends a professional, a list of at least three names be given so the client has sufficient options. Also, an agent must abstain from recommending her brother as a contractor or her uncle as an appraiser on property going under contract. No matter how qualified they may be or how well intentioned the recommendation, having to defend against the nepotism perception after the fact is always a recipe for disaster.

In Maine, caveat emptor remains a defense to real estate professionals, but it now is more of a shield than a sword. Buyers have obligations to inspect the property, and buyers who fail to do their own due diligence can insulate agents against subsequent claims. In addition, Maine statutory and regulatory law is generally favorable to the professional. In this litigious market, however, agents need to focus on some common-sense principles to ensure that money earned from a sale stays on the income side of the ledger, and is not lost as a deductible expense on a closed transaction.