BROKER RISK MANAGEMENT
WEEKLY PRACTICE TIP
SCENARIO 1: I am a listing agent. The buyer was supposed to close escrow on June 1. I issued a demand to close escrow three days in advance. The buyer did not close escrow on June 1, but advised that he was prepared to close escrow on June 2. The seller sought to cancel the escrow. The seller’s attorney advised the seller that the seller could face a lawsuit if the seller canceled the contract as the seller would be acting in bad faith. Given the contract terms, how is it possible that the seller has to perform when the buyer did not close the escrow as set forth in the contract?
ANSWER: Pursuant to the implied covenant of good faith and fair dealing, a seller must act in good faith toward the buyer. Therefore, arguably, the seller could be subject to liability if he refused to close the escrow one day after the scheduled date.
SCENARIO 2: At my buyer’s request, I wrote offers on two properties at the same time despite the buyer only intending to purchase one. Both offers were accepted at almost the same time by both sellers without a counteroffer. I told the buyer that she could cancel the contract that she does not want based on the investigation contingency even though no inspection report or other investigation was done by the buyer. The buyer signed a Cancelation of Contract and I delivered it to the listing agent. Because both listing agents work in the same brokerage, the listing agent on the property the buyer chose not to purchase learned of this situation and alerted the seller who contacted their attorney. The attorney then brought a lawsuit against the buyer and me for breach of contract alleging that buyer was acting in “bad faith.” Was what I did wrong?
ANSWER: The term “bad faith” is a simple term for stating that a party to a contract has breached based on the implied covenant of good faith and fair dealing. You have given improper advice in advising the buyer that she could write two simultaneous offers on different properties when she only intended to purchase one. In this situation, you advised the buyer to cancel for a dishonest reason when the truth was that she never intended to buy both properties. This is a common scenario where “bad faith” is alleged by a seller.
EXPLANATION: In California, implied in every contract is a covenant of good faith and fair dealing. This means that both parties must act in good faith toward, and deal fairly with, each other to fulfill the purpose of the contract. While this covenant does not require the parties to contradict the expressed terms of the contract, it does require the parties to treat each other with respect and undertake reasonable actions to fulfill their obligations under the contract. For example, parties to a contract must cooperate with each other, so long as that cooperation is reasonable. This means that the parties may not undertake actions to obstruct the other parties’ ability to fulfill the contract.
The CAR RPA has embedded this obligation into the purchase agreement obligation of the parties in paragraph 14: “Any removal of contingencies or cancellation under this paragraph by either Buyer or Seller must be exercised in good faith and in writing.”
In Scenario 1 above, the purpose of the contract is to purchase and sell real estate resulting in a close of escrow and transfer of title. If the parties are acting in good faith and reasonably toward the conclusion of the close of escrow, even if the seller properly issued a demand to close escrow, if the buyer is able to close within one day of the date set forth in the contract, and the seller refuses to close, the buyer could argue in court that the seller acted unreasonably and breached the implied covenant of good faith and fair dealing. A court could easily side with the buyer in this circumstance.
While this covenant seems to create a gray area, the purpose is to require the parties to act reasonably toward each other. Therefore, it is important that if a situation arises when an agent believes their client is being unreasonable, the agent should refer their client to a qualified California real estate attorney.
In Scenario 2, it was the buyer’s agent who instructed the buyer to cancel the contract in a manner that was not acting in good faith. In such situations, while the buyer (or seller as the case may be) may have damages for their conduct, their attorney will then sue the agent for inducing them to take that action. The agent also faces liability to the seller for their conduct as well as potential DRE license sanction.
PRACTICE TIPS:
- Note that parties to a purchase agreement have an obligation under the law to act in good faith toward each other in fulfilling the purposes of the contract. Therefore, they cannot be uncooperative, contrarian or act in bad faith in their conduct toward the other parties.
- Do not assume that because a party did not immediately close the escrow, the contract can be canceled. If this situation arises, refer your clients to a qualified California real estate attorney for review.
- If one of the parties is acting unreasonably, you should also consider referring your client to a qualified California real estate attorney so the attorney can evaluate the situation and advise the uncooperative party regarding their obligations toward the other party.
- Do not advise your clients on their legal rights to immediately cancel the contract if you believe that a dispute will arise. This is a gray area and clients should be referred to a qualified California real estate attorney for advice.
- Do not advise a buyer to write two offers on two properties at the same time if they intend to only purchase one of them. If that buyer cancels one of those contracts without a valid reason to do so, that buyer can be subject to a claim of bad faith breach of contract; and the buyer agent advising that buyer can also be subject to monetary damages and license sanction by the DRE.
WEEKLY PRACTICE TIP: DO NOT FORWARD TO CLIENTS. This Weekly Practice Tip is an attorney-client privileged communication for the exclusive use of clients of Broker Risk Management and their agents. It may not be reproduced or distributed without the express written consent of Broker Risk Management LLP. The advice and recommendations contained herein are not necessarily indicative of standards of care in the industry, but rather are intended to suggest good risk management practices.