Who Says You Can’t Choose Between Liquidated Damages or Actual Damages?

Kevin Walton | Snell & Wilmer | October 6, 2017

In Colorado, courts enforce liquidated damages provisions if three elements are satisfied: (1) the parties intended to liquidate damages; (2) the amount of liquidated damages was a reasonable estimate of the presumed actual damages caused by a breach; and (3) at the time of contracting, it was difficult to ascertain the amount of actual damages that would result from a breach. But what happens when a contract gives a party a right to choose between liquidated damages or actual damages? This seems troublesome because it allows a party to set the floor for their damages without limitation if actual damages exceed the contractual amount. As a matter of first impression, the Colorado Supreme Court addressed this issue in Ravenstar, LLC v. One Ski Hill Place, LLC, 401 P.3d 552 (Colo. 2017).

In Ravenstar, plaintiffs contracted to buy condominiums from a developer. As part of their contracts, plaintiffs deposited earnest money and construction deposits equal to 15% of each unit’s purchase price. Plaintiffs breached their contract by failing to obtain financing and failing to close by the closing date. Each contract’s damages provision provided that if a purchaser defaulted, the developer had the option to retain all or some of the deposits as liquidated damages or, alternatively, to pursue actual damages and apply the deposits to that award. After plaintiffs defaulted, the developer chose to keep plaintiffs’ deposits as liquidated damages. Plaintiffs sued for return of their deposits.

Plaintiffs argued that the liquidated damages provision was unenforceable because it gave the developer the option to choose between liquidated damages and actual damages. From this, they argued that there was no mutual intent to liquidate damages because there wasn’t an agreed sum of damages. Notably, other state courts have held that optional liquidated damage clauses are impermissible. For example, in Lefemine v. Baron, 573 So.2d 326, 329-30 (Fla. 1991), the Florida Supreme Court acknowledged the unfairness associated with such a provision. It explained that the buyer is always at risk for damages exceeding the liquidated amount of damages. But, if the actual damages are less than the stipulated sum, the buyer is still bound by the liquidated damages clause because the seller will just keep the deposit.

The trial court and the appellate court disagreed with plaintiff, both ruling in favor of the developer. The Colorado Supreme Court concluded that, as a matter of freedom of contract, a liquidated damages clause is enforceable when the contract allows the injured party to choose between liquidated damages and actual damages. But the Court provided one limitation—the option must be exclusive, meaning that a party can’t seek liquidated damages and actual damages.

Under Ravenstar, Colorado developers may include optional liquidated damages provisions in their contracts without invalidating the liquidated damages provision. If the relationship results in litigation, the court may allow the party to choose between the liquidated damages or actual damages. Even if the actual damages exceed the liquidated amount, compelling reasons may still exist to choose the liquidated damages. For example, liquidated damages provide certainty where actual damages may be difficult or impossible to determine. Additionally, liquidated damages could reduce the time and expenses necessary to prove actual damages, especially where the liquidated damages consist of money already paid to the developer.

Tic Toc Tic Toc: The Clock Is Running on Construction and Design Claims by the State of Connecticut Beginning October 1, 2017

Niel Franzese | Robinson & Cole | October 11, 2017

Our readers may recall that Public Act No. 15-28 was signed by the Governor back in 2015, subjecting the State of Connecticut and its political subdivisions to a statute of limitations for asserting actions and claims arising out of “construction-related work.” The law became effective as of October 1, 2017. “Construction-related work” is defined in the Act to include the design, construction, construction management, planning, construction administration, surveying, supervision, inspection or observation of construction of improvements to real property. Notably, it applies not only to the State, but also its subdivisions such as cities, towns, and other entities like school districts.

The limitations period set forth in the Act is 10 years from the date of substantial completion of a given improvement. The 10 year limitations period applies going forward to improvements to real property substantially completed on or after October 1, 2017. For improvements substantially completed before October 1, the limitations period runs to October 1, 2027. Prior to the Act, the State and its political subdivisions were generally not subject to any statutes of limitations for such claims due to the legal doctrine of nullum tempus occurrit regi, which provides that a state is not subject to statutes of limitations unless it specifically consents to be. Literally translated, it means that “no time runs against the king.”

For purposes of the Act, substantial completion is defined as the time that the real property at issue is first used by the public owner or first available for use after having been completed in accordance with the agreement covering the improvement, including any agreed changes to the agreement, whichever occurs first. However, any public highway, bridge improvement or improvement to a railroad right-of-way, ferry, port or airport infrastructure is considered substantially complete upon the issuance of a certificate of acceptance of the work relieving the contractor of maintenance responsibility.

The Act provides that the limitation does not bar actions or claims (1) on written warranties or guarantees which expressly provide for a longer effective period, including tolling agreements, (2)  based on willful misconduct in connection with the performance or furnishing of construction-related work, (3) arising under any environmental remediation law or pursuant to any contract entered into by the State or any political subdivision of the State in carrying out its responsibilities under any environmental remediation law, or (4) pursuant to any contract for enclosure, removal or encapsulation of asbestos.

As we wrote previously, this new development is largely in response to the Connecticut Supreme Court decision, State of Connecticut v. Lombardo Brothers Mason Contractors, Inc., et al., 307 Conn. 106 (2012), in which the Court held that the State was not subject to any statute of limitations for initiating claims for defective construction with respect to the University of Connecticut Law Library in Hartford. The coming of the effective date for Public Act No. 15-28 will undoubtedly bring some stability and predictability to the often uncertain arena of defective construction and design claims by public owners.

When is the Statute of Limitations Period Triggered for a Construction Defect Claim in New Jersey?

Lee Henig-Elona | Gordon Rees Scully Mansukhani | October 12, 2017

After conflicting conclusions by the lower courts, the New Jersey Supreme Court recently decided whether a condo association’s lawsuits for construction defects were timely filed against a general contractor and three of its subcontractors. The trial court and appellate division came to opposite conclusions by using different commencement dates for the 6-year statute of limitations at N.J.S.A. 2A:14-1.

Construction of the building was complete in May 2002 and the owner rented units for two years. In June 2004, the owner sold the building to a developer who converted the building from a rental to condo ownership. As part of the conversion, the developer retained an engineer to inspect the common areas. In October 2004, the inspector found that the structure of the building, townhomes and parking deck appeared to be in good condition with “some spalling of concrete” and “some sporadic cracking of the concrete” in the parking deck. The report was in the condo public offering statement and master deed. Once 75% of the units were sold in July 2006, the developer transferred control of the building to the condo association. The association then retained an engineer to perform an inspection in June 2007. Numerous construction defects were found including in exterior walls, roofing, concrete flooring, plumbing, landscaping and the parking garage.

The condo association commenced lawsuits in March 2009, more than 6 years after the building was completed. The suits alleged negligence, breach of express and implied warranties of good workmanship, breach of habitability and merchantability. After discovery, the GC and subcontractors filed motions for summary judgment, arguing that the lawsuits were not commenced within the 6-year statute of limitation.

The trial court agreed, finding that the time began to run in May 2002 when the building was substantially completed, determining that the condo association had time to discover the problems within that time. The court concluded that the October 2004 report put the owners on notice of potential problems.

The appellate division reversed, finding that the statute of limitation clock did not begin to run until the condo association obtained its inspection report in June 2007, which was when they had actual notice of the defects. The appellate division rejected arguments that this would make contractors “forever liable,” violating the 10-year statue of repose for claims against construction contractors. See N.J.S.A. 2A:14-1.1(a).

The Supreme Court disagreed with both of these approaches and concluded that a construction defect cause of action accrues at the time the building’s original or subsequent owner first knew or, through reasonable diligence, should have known of the basis for a claim. The time commences even if there are subsequent owners because a subsequent owner “stands in no better position than a prior owner in calculating the limitation period.” The Supreme Court recognized that the discovery rule applied, i.e., a cause of action will be held not to accrue until the injured party discovers, or by an exercise of reasonable diligence and intelligence should have discovered that he may have a basis for an actionable claim. However, it found that the discovery rule does not re-triggered the statute of limitations each time there is a sale; it is triggered when anyone in the chain of title first knew or should have known of the actionable claim against an identifiably party.

In this particular case, the Supreme Court found that it did not have the factual record to determine when the claim accrued. It remanded the case to the trial court to determine when all of the entities in the chain of ownership first knew, or should have known through the exercise of reasonable diligence, that it had a cause of action against each defendant.

The Supreme Court also addressed the statute of repose, which requires the filing of a lawsuit against persons who provided services in the construction of an improvement, within 10 years of the date of substantial completion of the work. In this case, the condo association’s suits were commenced within this 10 year period.

The lessons of this decision are that property buyers must be diligent in discovering not only construction defects, but if and when prior owners knew or should have known about the defects. Seller who know and do not disclose potential problems will face claims of fraudulent concealment by a subsequent owner. Hopefully, sellers will not unwittingly trigger the statute of limitations clock by turning a blind eye to construction defects that could have been discovered.

Insurance Catastrophe Claims Often Deserve a Second Opinion and Possibly a Legal Opinion

Chip Merlin | Property Insurance Coverage Law Blog | October 23, 2017

Barry Zalma recently wrote an excellent article, Claims in a Catastrophe, in the The CPA Journal. Zalma is a very experienced property insurance attorney. He is a prolific writer of articles and books involving property insurance claims. To all policyholders having felt the impact of 2017 catastrophe claims, one important point in Zalma’s article is that a second opinion is often needed.

Many insureds believe that insurers make a practice of making inadequate (sometimes called “lowball”) offers of settlement. They are wary of what they think are estimates from insurance-company-friendly contractors. Whether true or not, it is a good practice to get a second, or even a third, written estimate to repair and replace damaged property from reputable, independent professionals. . . .

2017 has had numerous catastrophe claims with hurricanes, floods, and now California wildfires. Zalma warns that these catastrophes bring out all kinds of scammers and people who will say things that are not true and sometimes designed to steal money and twice make a person a disaster victim. Consumers need to be careful who they believe and hire.

In an age where many insurance industry attorneys are supporting insurer backed contractors, this is what Zalma refreshingly stated:

Thoroughly investigate the qualifications, license, and references of your insurance company’s approved contractor before agreeing to hire them to perform the repairs. The State Contractors Licensing Board will usually provide the consumer, by telephone or over the Internet, with the contractor’s license status and history of discipline. At a minimum, the licensing entity and a reference should be checked before a contract is signed.

You do not have to use or accept the opinions of consultants or contractors recommended or approved by the insurer to perform repairs.

Approved contractors are typically contractors who have agreed to discount their labor and costs and follow insurer guidelines in exchange for a volume of business from the insurance company. If your insurer promises to guarantee the approved contractor’s work, the guarantee is generally limited to replacing any defective materials or correcting faulty workmanship. The insurer is not insuring against any contractor delays, negligence, or liability. Accordingly, do not use the approved contractor unless it is a contractor that you would independently hire to do the work after a thorough screening. Check that each contractor’s license is valid and for any complaints against the license. Ensure that the contractor is bonded and insured before you allow it to work on your property.

While I cannot agree with him that “almost all claims will be handled promptly and fairly,” I do agree that policyholders should not sign releases, assignments of benefits or other legal forms without first seeking an experienced attorney:

If the dispute does require legal advice, contact a lawyer who is experienced and specializes in representing policyholders. There are many consultants who claim to be “insurance claims experts” who do not have adequate training, skill, or experience. Before you retain one investigate the person diligently by contacting licensing bodies and references.

If you use the search function on our blog and type “Zalma,” you will see that Barry has been quoted numerous times. He corrected me as noted in Zalma Provides A View Shared by Others Regarding Appraisal and a Warning About the Unauthorized Practice of LawThe CPA Journalarticle noted that Zalma is the first recipient of the Claims Magazine/ACE Legend Award.

Bravo Barry!

Commercial General Liability Insurance Exclusions Are Worth a Close Examination

Christian Graham | National Real Estate Investor | October 19, 2017

The sunset clause is a clause providing that insurance coverage will cease after a specified point in time.

When purchasing or renewing commercial general liability (CGL) policies there is often talk about “what is covered.” But the moral of this article is that it can be more important to discuss “what is not covered.” And by this I am referring to policy exclusions.

Exclusions play a critical role in every CGL policy. When coverage is denied, it is more often than not due to an exclusion. Yet too often I find that the policy holder is unaware of the exclusion prior to the denial. I believe this calls for a shift in focus.

The reason exclusions play such an important role is relatively simple. All CGL policies begin with essentially the same concept: that the insurance carrier will defend and indemnify the policy holder if he/she/it becomes legally liable for bodily injury or property damages. Because this concept affords broad coverage for a wide variety of claims, the policies typically have multiple exclusions.

By carving a much narrower scope of coverage, these exclusions define the true extent of the policy.  Indeed, it is impossible to determine whether a claim is covered without proper examination of the exclusions. For this reason they deserve a significant amount of attention.

To illustrate the importance of this principle, I will discuss one exclusion that has particular relevance for those in the real estate development industry: the sunset clause. The sunset clause is a clause providing that insurance coverage will cease after a specified point in time. In and of itself this sounds fairly innocuous because, obviously, we can’t expect coverage to continue forever. The problem is that insurers can and sometimes do use these clauses to limit coverage in ways that can leave policy holders in very precarious situation.

Insurers know when claims are likely to be filed. By writing exclusions like sunset clauses they can limit their risk, and increase the profitability of policies in ways that are not readily apparent to the unwary. Drawn by cheaper premiums, policy holders may not realize the exclusion is there, or may not understand the full effect of the exclusion. Ignorance is bliss—unless and until a claim is filed.

One of the most significant costs of real estate development, and one of the most significant reasons to purchase a CGL policy, is construction defect claims. In my home state of California it seemed like nearly every development constructed within recent memory was involved in some form of litigation regarding construction defect claims before the real estate market crashed a few years ago, particularly with respect to residential properties. This drove insurance premiums through the roof, forcing some in the industry out of business.

The thing to know about this litigation, for purposes of the sunset clause, is that each U.S. state has passed legislation limiting the period of time in which it can be filed, called the statute of limitations. In California the litigation can, and fairly often will, be filed up to 10 years after substantial completion of construction. So if a sunset clause precludes coverage any time prior to this, you may be liable.

This is why sunset clauses can be devastating if there’s a claim. Some preclude coverage even before the completion of construction. These clauses are particularly onerous because experience has shown that construction defect claims virtually always arise after the completion of construction. A clause like this can render a policy virtually worthless for the claims. This can be very disappointing, especially when considering the fact that premiums for policies with these clauses can easily cost hundreds of thousands of dollars.

Of course, construction defect claims filed before the period specified by the sunset clause may generally be covered. And if asked, those in the business of selling insurance may be quick to verify that point, as assurances that tend to persuade customers to bind coverage are usually provided quite readily. But the period of coverage that is precluded by the sunset clause will likely be a critical period of coverage, and can lead to serious consequences.

This isn’t to lay blame on the insurance industry, however. To meet a strong demand for lower premiums, insurers must write exclusions that limit risk to a reasonable level. And while it is often normal to provide a substantial amount of information to your broker in procuring your policy, he/she still may be unfamiliar with other important aspects of your business sufficiently enough to realize that an exclusion is an issue. In such a case, the exclusion may never be mentioned, and I am sad to say this can and does happen.

Circling back to the moral of this article, do not assume that exclusions potentially affecting your business will automatically be brought to your attention before your CGL policy is bound. Take the time to review the exclusions, and ask questions. Time spent going over the exclusions can pay for itself many times over down the road.