Imputed knowledge
The new hidden danger with buyer agency

A recent case demonstrates a problem that has become more widespread as more and more members engage in buyer agency. It is a problem that can be effectively addressed through modification of the terms of listing and buyer agency agreements.

The problem can best be demonstrated through a hypothetical. In September 2000, Acme Real Estate lists 123 Elm Street, which is owned by the Browns. The Browns fill out a seller’s disclosure statement in which they represent that there has been no settling or structural problems with the property. Salesperson Green handles the listing for Acme Real Estate.

In October 2000, Salesperson Green receives an offer from a cooperating agent, which is being made by the Smiths. The offer contains an inspection contingency. During the course of the inspection, the inspector discovers that the Browns have not been truthful in preparing the seller’s disclosure statement. The Browns have indicated in the seller’s disclosure statement that there are no settling or structural problems on their property. The inspector discovers that the Browns have gone to great lengths to make cosmetic changes to the property to conceal settling and structural problems in the basement at 123 Elm Street. The Smiths terminate their offer. Ultimately, the listing agreement expires in early 2001, and the Browns withdraw their property from the market.

In early 2004, the Browns once again list their property, but this time they list it with Ace Realty. They have done nothing since 2001 to eliminate the structural and settling problems that are cosmetically concealed in the basement. Nonetheless, they fill out a seller’s disclosure form to provide to Ace Realty, indicating that there are no known settling or structural problems at 123 Elm Street.

In the meantime, Salesperson Jones of Acme Real Estate is working with the Millers as a buyer’s agent. Salesperson Jones shows the Millers the property at 123 Elm Street. The Millers make an offer which has an inspection contingency. Unfortunately for the Millers, their inspector does not detect the structural and settling problems which have been cosmetically concealed by the Browns. The Millers proceed forward and purchase the house in 2004. Within months after moving in, the settling and structural problems become apparent, as the house shifts and the basement floods.

The Millers quickly realize that the Browns had taken great steps to conceal the settling and structural problems and lied on the seller’s disclosure statement. The Millers sue the Browns. During the course of the litigation, the Millers’ attorney deposes (i.e., asks questions under oath) Mr. Brown. During the course of the deposition, Mr. Brown asserts that the Millers should not have been deceived by the seller’s disclosure statement, as their agent, Acme Real Estate, knew all about the concealed problems in the basement. After all, Salesperson Green of Acme Real Estate received a copy of the inspection report in 2000 when the Smiths were going to purchase the property. Thus, the Millers are deemed under law to know about the concealed problems in the basement, because their buyer’s agent, Acme Real Estate, had knowledge of the concealed problems.

The Millers join Acme Real Estate in the litigation over 123 Elm Street. The Millers claim that Acme Real Estate, acting as their buyer agent, had a fiduciary duty to disclose the contents of the inspection report which Acme Real Estate received during the listing of 123 Elm Street for the Browns in 2000.

Obviously, Salesperson Jones and Acme Real Estate had no idea that Acme Real Estate had listed 123 Elm Street in 2000. Further, he certainly did not know and had no way of knowing that an inspection report had been obtained by the Smiths in 2000, which disclosed the concealed structural and settling problems on the Browns’ property.

The lawyer for Acme Real Estate is confident that she can get the complaint by the Millers against Acme Real Estate immediately dismissed. The exclusive buyer’s agency agreement entered into between Acme Real Estate and the Millers specifically provided that Acme Real Estate will not disclose to the Millers any confidential information Acme Real Estate learned about during a prior agency relationship.

It is Acme Real Estate’s contention that the inspection report obtained in 2000 was confidential information learned through representing the Browns; thus, Acme Real Estate did not breach its fiduciary duty to the Millers when Salesperson Jones failed to disclose information which he obviously did not know.

The lawyer for the Millers files a response to Acme Real Estate’s lawyer’s motion to dismiss the case. The Millers contend that the contractual provision regarding confidential information does not apply in their case. They contend that since the inspection report was a report made by a third party, i.e., the inspection company, it cannot possibly be “confidential.” They contend the meaning of “confidential information” is like the attorney-client privilege. In other words, communications between a lawyer and his client are no longer deemed privileged if they are disclosed to a third party or otherwise become public.

Unfortunately, courts have gone off in different directions in dealing with this problem over the past several years. Some courts have rigidly determined that information such as the information regarding concealed settling and structural problems learned by Salesperson Green in 2000 must be imputed to Salesperson Jones in 2004. Thus, Acme Real Estate and Salesperson Jones had a duty to disclose this imputed knowledge to the Millers. Other courts have either determined that this type of information was “confidential” within the use of that term in the real estate industry, or, alternatively, have simply refused to impute knowledge in this situation.

There appears to be a ready solution to this problem. There does not appear to be any practical way for firms with many agents, multiple offices, or both, to try to police their files in the event they end up representing a buyer in the purchase of a property that was previously listed by the firm. Instead, all REALTORS® should modify their forms of listing and buyer agency agreements to address this problem.

The scope of information which will not be disclosed by the brokerage firm must be broadened beyond confidential information in the legal sense.

Instead, the term should now provide that the agent shall not disclose information previously learned in connection with a prior transaction or business relationship.

While REALTORS® pride themselves in providing the highest level of services in an ethical manner, there is simply no sure solution to this problem other than letting buyers and sellers know that the firm cannot, as a practical matter, provide them with information learned by a salesperson years before in a prior transaction.

Arbitrate, Don’t Litigate

Many years ago, MAR developed an ambitious program to try to keep its members out of court. For a number of years the same scenario kept occurring over and over. Buyer A would purchase a home from Seller B.

Buyer A would then move in and discover alleged hidden defects and claim damages in the amount of $7,500.

Buyer A would sue Seller B and both the listing and cooperating broker. After wasting significant time and resources in the litigation, ultimately the case would settle with the seller, listing and cooperating brokers each writing a check for $1,000 to Buyer A, and after having paid $3,000 each in attorney fees.

MAR worked with the American Arbitration Association (AAA) to develop an efficient and relatively inexpensive alternative to this type of litigation. The program created a ready forum for buyers and sellers to arbitrate their disputes in a single day before an arbitrator who, unlike most judges with a busy docket, had the time and the experience to deal with issues regarding the physical condition of the property and earnest money deposits.

The program worked very well for a number of years. Unfortunately, administrative changes, by AAA, soured the whole program.

Administrative change occurred in the way that AAA processed the request for arbitration filed by Buyer A. Through the law, parties can only be required to arbitrate if they have previously entered into an agreement to arbitrate their disputes. Several REALTOR® firms in this state included arbitration agreements in their purchase agreements, but limited the requirement for arbitration to the buyer and the seller. In past years, when AAA received a request for an arbitration from a buyer who named a REALTOR® firm as a respondent, AAA would merely check the arbitration agreement to determine if the REALTOR® firm had agreed to arbitrate.

If it had not, then AAA simply eliminated the REALTOR® firm as a respondent in the case. Unfortunately, after the administrative change, AAA was no longer willing to look at the arbitration agreement and determine if a REALTOR® firm had actually joined in the agreement to arbitrate. Instead, REALTOR® firms were advised that if they wanted to avoid participation in an arbitration that they never agreed to be involved in, they had to go to the circuit court and obtain an injunction to stop AAA from conducting an arbitration with them as a party. Obviously, this procedure defeated the purpose of REALTOR® firms using arbitration. If a REALTOR® firm has to pay lawyers to go to court to obtain an injunction every time the REALTOR® firm is wrongfully named as a respondent in an arbitration, it makes no economic sense to continue using MAR’s arbitration system. REALTOR® firms were required to litigate to avoid arbitration intended to avoid litigation.

MAR has responded to the problem with AAA. It is as important today as it was years ago for REALTOR® firms to at least have arbitration available to their buyers and sellers as a risk reduction tool for REALTOR® firms. MAR has entered into an agreement with Construction Arbitration Services, Inc. (CAS), which administers a similar program for the Minnesota Association of REALTORS®. MAR and CAS have specifically addressed the issue of how to handle a request for arbitration which names REALTOR® firms as respondents who are not parties to an arbitration agreement. It will no longer be necessary for REALTOR® firms to go to court. If CAS determines they are not a party to an arbitration agreement (by simply looking at the agreement), then the REALTOR® firm will be deleted as a respondent in the arbitration. The rules agreed to by MAR and CAS provide:

An important example of CAS Administration is the intake process in which CAS will compare the names on the arbitration agreement submitted with a request for arbitration with the names of the complainant and respondent on the request for arbitration. If a request for arbitration contains a name of a complainant or a respondent who is not a party to the agreement to arbitrate, CAS will not proceed with the arbitration against that respondent, and will notify the complainant to that effect. The burden would then be on the complainant to go to court to prove that the entity who is not a party to the arbitration agreement must be included in the arbitration.

All REALTOR® firms are again urged to review the possibility of including arbitration agreements within their purchase agreements. The benefit to this alternative form of dispute resolution is the same as it was many years ago when MAR started the program. Arbitration is cheaper and more efficient than litigation. Further, the parties are much more likely to be satisfied with the results if the decision is made in their case by a person who has the specific expertise and time to meet with them, instead of by a harried judge with an overloaded docket who has neither the time, the experience nor the resources to efficiently and timely resolve the dispute.