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Mixed-Use Properties Raise Disclosure Questions

Written by on Monday, 19 May 2014 1:02 pm

The transfer of mixed-use properties can pose special issues for both principals and brokers and agents. By "mixed-use" I refer to properties that have, or may have, multiple functions for purposes of such things as zoning, codes, and financing. A thirty-acre orchard with a four-bedroom home on it, a building with a retail store at street level and a two-bedroom unit upstairs, and a warehouse with office condos in the front are all examples of properties that might be classified as mixed-use.

A recent California Appellate Court ruling (Richman v. Hartley, Second Appellate District, March 20, 2014) illustrates some of the issues. In April of 2007, Mark Hartley entered into a purchase agreement to acquire Randall Richman's property in Ventura. The property is a single parcel with two structures: one commercial building and a residential duplex. The agreement was on a standard offer form for "Purchase of Real Estate (Non-Residential)". It provided that "Seller shall make to Buyer, through escrow, all the applicable disclosures required by law (See AIR Commercial Real Estate Association (‘AIR') standard form entitled ‘Seller's Mandatory Disclosure Statement')…" The escrow was to close in two years. Meanwhile, Hartley, the buyer, entered into a two-year lease agreement.

The buyer failed to close escrow two years later, citing the seller's failure to provide disclosure agreements including a Transfer Disclosure Statement (TDS) which is required in California for transfers "of real property…improved with or consisting of not less than one nor more than four dwelling units." (Civil Code section 1102).

The seller sued for breach of the Agreement; but the buyer moved for summary judgment -- essentially, dismissal –on the grounds that the seller had breached first because he had not delivered required disclosures. The trial court found that the TDS was required, and found in favor of the buyer. The seller appealed.

The seller argued that the transaction was essentially a commercial one, both on the basis of the parties' experience and the fact that commercial forms were used. Moreover, the seller argued that the commercially-experienced buyer was not the "kind of buyer" that the Legislature had intended to protect when it adopted the Transfer Disclosure Law.

The Appellate Court acknowledged that the law was not intended for commercial transactions, but it rejected the notion that it (the Court) should try to determine the "essence" of a transfer. It also rejected the notion that Civil Code section 1102 applies "exclusively to residential transactions."

Ironically, the seller had cited an earlier ruling by the same court (Smith v. Rickard) that involved a 50-acre commercial avocado and lemon orchard improved with a residence. In that case the court had determined that the property was not residential. "The presence of a residence on the commercial property does not transform the property into residential property."

But, the Second District Court pointed out, in the Smith case there was a different issue at stake. It had to do with a different Civil Code section ( 2079) which dealt with the duties of an agent in a residential transaction. But here, the issue was whether or not a TDS was required. In the Court's view, the requirement for a TDS was not intended by the legislature as a requirement exclusively for residential transactions. It is a requirement for the transfer of any property (residential or not) that includes "not less than one or more than four dwelling units."

Hence, the Appellate Court upheld the ruling of the trial court. A TDS was required.

There will, inevitably, be other cases regarding the use of the TDS in the transfer of mixed-use properties. Here, the Court noted, "The parties appear to agree that the disclosure obligation, if it exists, applies to the dwelling units only and not to the entire property. That issue is not properly before us, however." "Because there is not actual controversy concerning the extent of the disclosure obligation, we do not decide it."

It will have to be decided some other day. Some day someone will sell a building with a retail store on the bottom and a dwelling unit on top. Disputes will arise as to whether the scope of required disclosure includes the lower portion of the building. Its foundation, for example. There will be more for courts to decide.

Bob Hunt is a director of the California Association of Realtors®. He is the author of Real Estate the Ethical Way.

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