The rule of "caveat
emptor" ("buyer beware") was abolished
in residential real estate transactions in Arizona some
years ago by an Arizona court decision. The Arizona Department
of Real Estate also adopted a rule many years ago effectively
doing away with "buyer beware" as to real estate
brokers and salespersons. A new case decision by Division
One of the Arizona Court of Appeals will do the same in
commercial real estate transactions if it is allowed to
stand by the Arizona Supreme Court.
The rule that replaced "buyer beware" in residential
real estate sales is, by now, fairly familiar to real
estate professionals: the seller of a residence must disclose
to the buyer any fact concerning the property that materially
affects the value of the property. The regulations of
the Arizona Department of Real Estate place the same obligation
on real estate brokers and salespersons in all transactions,
residential or commercial. The only exception to those
rules is that neither the seller nor a broker or salesperson
is required to disclose that the property has been the
site of a death or crime, has been owned or occupied by
a person infected with the HIV virus, or is located in
the vicinity of a sex offender.
In commercial real estate sales, however, the "buyer
beware" rule still governed the duties of the seller
of the property. The seller was under no obligation to
reveal to the buyer any facts about the property. The
seller's only obligations were to not misrepresent or
actively conceal material facts concerning the property.
Typically, contracts for sale of commercial property contain
provisions giving the buyer the opportunity and the obligation
to investigate all material facts concerning the property.
Those contracts typically also provide that the seller
is making no representations as to the condition of the
property and if the buyer elects to proceed with the purchase
after having the opportunity to investigate, the buyer
is proceeding at his own risk. Stated another way, the
buyer under those typical contracts is deemed to purchase
the property "as-is."
The new decision of Division One of the Arizona Court
of Appeals does not completely abolish the "buyer
beware" rule, but does impose the requirement that
the seller of commercial real estate either disclose to
the buyer all known "latent" defects, that is,
defects that are not readily discoverable by reasonable
investigation, or give the buyer appropriate opportunity
to discover any such defects. "Buyer beware"
is still the rule if any defects in the property are "patent,"
that is, readily discoverable by reasonable investigation
by the buyer, or if the buyer is given appropriate opportunity
to discover "latent" defects. The Court of Appeals
summarized its new rule as follows:
Simply stated, in the face of an "as is" sale,
the rule of caveat emptor continues to apply and the vendor
may be insulated from liability for nondisclosure of facts
basic to the transaction if the facts at issue are patent,
or if the purchaser has been given an appropriate opportunity
to discover latent defects. If the vendor fails to disclose
a known latent defect or fails to give appropriate opportunity
to discover latent defects, caveat emptor does not apply
and the vendor must disclose the defect or, at a minimum,
be subject to tort liability for nondisclosure.
The less obvious practical effect of this new rule in
commercial real estate sales will be to significantly
increase the risk to the seller if the buyer files a lawsuit
after the sale claiming that a material defect was not
disclosed. Even though the Court said that "buyer
beware" is still the rule if the defect is readily
discoverable or the buyer is given appropriate opportunity
to discover the defect, the buyer will be entitled to
have a jury decide whether the defect was readily discoverable
or whether buyer was given appropriate opportunity to
discover the defect. In the case decided by the Court,
the buyer discovered after the sale that the plumbing
in the building was defective. Although the contract specifically
provided for an inspection of the property by the buyer,
the Court said that it was up to the jury to decide whether
the buyer actually had an adequate opportunity to discover
that the building had defective plumbing. The Court put
it like this:
All of the issues raised with regard to the "as is"
clauses are questions of fact for the jury. It is for
the jury to determine if the defective plumbing was a
fact basic to the transaction, whether a defect is latent
or patent, whether the appellants knew about the defective
plumbing, whether the appellees undertook a reasonable
inspection, and whether the appellants did not give the
appellees equal opportunity to discover the defect. Viewing
the evidence in the light most favorable to upholding
the jury's verdict, we conclude that reasonable minds
could differ on the inferences to be drawn from the evidence.
The appellants were not entitled to judgment as a matter
of law merely because the purchase contracts contained
"as is" clauses.
A decision by the Arizona Court of Appeals can of course
be overruled by the Arizona Supreme Court. Unless and
until that happens, however, the decision of the Court
of Appeals is the law in Arizona. The likely result of
this decision is that sellers of commercial real estate
will want to expand the opportunity given to prospective
buyers to inspect the property prior to purchase. Sellers
will also have to consider the risk that a condition that
could be considered a defect may not be revealed by the
buyer's inspection, in which case the seller has a duty
to disclose the condition. Sellers and their representatives
will no longer be able to rely on the standard buyer's
inspection and "as is" contract provisions to
relieve them of potential liability for undiscovered defects
in commercial property.
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