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Is homebuilder's contractual construction-defect pre-litigation procedure unenforceable due to its variance from statutory procedure, and unenforceable when used with subsequent home purchasers?

Homebuilder.jpgIn The McCaffrey Group, Inc. v. Superior Court (filed 3/24/14) F066080, the trial court denied homebuilder McCaffrey's "Motion to Compel ADR" brought in an action filed by real parties in interest who were the owners of 24 homes built by McCaffrey which allegedly contained construction defects. McCaffrey petitioned for writ of mandate to enforce provisions in the home purchase contracts that require the homeowners to submit their construction defect claims to non-adversarial pre-litigation procedures before proceeding with a lawsuit. The trial court had found the contract provisions unenforceable as being unconscionable. The Court of Appeal, Fifth Appellate District, granted the petition.

The appellate court opinion addressed the three categories of suing homeowners: (1) pre-2003 original purchasers, (2) post-2003 original purchasers, and (3) subsequent purchasers who bought an existing McCaffrey-built home from a third party. The distinction in the first two categories derives from the Legislature's passage of the so-called "Right to Repair Act," effective January 1, 2003, found at Civil Code sections 895 through 945. Prior to 2003, there was no statutory procedure; after 2003, the builder has the option of contracting for an alternative non-adversarial procedure in lieu of the statutory procedure. Those contracts that came after this date stated that McCaffrey opted for its own procedure; essentially the same procedure it used before that date.

In short, both statutory and contract procedures provide for the homeowner giving written notice of claimed defects; some written acknowledgment by builder, followed by inspection and the opportunity to propose repairs/compensation; a determination by the homeowner to accept the builder's proposal or have the dispute mediated. If still unresolved, litigation may then follow; the contract procedure has an additional judicial reference procedure.

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Where settlement agreement provides for a discounted principal amount to be paid in installments and the entire original liability becomes due because of a late payment, is default judgment for amount in excess an unenforceable penalty?

In promissory note cases, it is not uncommon in my role as a mediator to assist parties in framing terms of a settlement that provides for installment payments. The creditor normally wants some "teeth" in the agreement in exchange for its promise to accept gradual payments rather than the full sum immediately upon settlement. On the other side, the debtor wants the benefit of a discounted principal as a reward for timely payment. This appears to be the scenario that was played out in Purcell v. Schweitzer (ordered published 3/17/2014) 2014 DJDAR 2387.

Plaintiff had received from defendant a promissory note for $85,000. Plaintiff sued defendant for default on the full sum. The parties reached a settlement agreement: plaintiff agreed to reduce the principal amount to $38,000, conditioned upon defendant's payment of 24 timely monthly installment payments to include 8.5% interest; the full, discounted amount would be paid within these 24 months. The payments were due the first of each month; should a payment not be received by the fifth day of any month, the entire original liability of $85,000 would then become immediately due. The settlement agreement further provided that the late-payment provision was not a penalty, and that defendant waived any right to appeal and any right to contest or otherwise set aside a judgment.

Defendant paid the settlement note down to a balance of $1,776.58, then made a late payment of that balance, which was accepted by defendant. Asserting the late-payment clause of the settlement agreement, plaintiff filed this lawsuit and received a default judgment for $58,829.35, reflecting reinstatement of the original liability. Defendant's motion to set aside this default judgment was granted, and plaintiff appealed. The Court of Appeal, Fourth Appellate District, Division One, affirmed, finding the default judgment was the result of an unlawful penalty or forfeiture.

The Court of Appeal recited the rule of enforceability of a liquidated damage clause: it must bear a reasonable relationship to the range of actual damages that the parties could have anticipated from the breach (Civil Code sections 1670 and 1671). Plaintiff argued that the settlement agreement here recited that the $85,000 was an agreed upon amount actually owed and was expressly stated as not being a penalty. However, the appellate court cited Greentree Financial Group Inc. v. Execute Sports, Inc. (2008) 163 Cal.App.4th 495, 499, for the proposition that the relevant breach here is the breach of the stipulation contained in the settlement agreement (in that case the stipulation for entry of judgment of installment payments of a lesser total sum than sought, which would be increased to the greater sum if not timely paid), not the breach of the underlying contract for which recovery was sought.

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Home Construction Defect Case Prelitigation Procedure Under California Civil Code Section 914 Backfires on Homebuilder Drafting Its Own Contract Provision

In 2002, hoping to reduce construction litigation and the impact on housing costs, the California Legislature enacted Civil Code sections 895-945.5 that included a nonadversarial prelitigation procedure requiring home purchasers, who believe their home may be defective, to give the builder notice of the claimed defects and an opportunity to investigate and repair the defects prior to the homeowner being allowed to bring a lawsuit. Section 914, subdivision (a), allows the builder to provide in the home purchase contract an alternative procedure to that provided by statute so long as the alternative procedure is "fair and enforceable."

In Anders v. Superior Court (filed February 7, 2011) 2011 DJDAR 2137, the homeowner petitioners, owners of 54 homes built by real party Meritage Homes, filed their lawsuit for alleged defects without exhausting the prelitigation procedure. Meritage moved in the trial court to require the procedure it had prescribed in its home sale contracts. The Stanislaus County trial court found the particular procedure set out in the contracts unconscionable and unenforceable; however the court found it appropriate to require the homeowners to comply with the statutory prelitigation procedures. The homeowners petitioned the California Court of Appeal, Fifth Appellate District, to be relieved of this prelitigation requirement claiming the unenforceability of the builder's contractual procedure exempted them from having to comply with the statutory procedure. The appellate court agreed with the homeowners, with the exception of two homeowners whose contractual provision contained an election to use the statutory procedure.

The Court of Appeal points to the plain language of the statute that stated the builder's election was binding regardless of the success or unenforceability of the builders own contractual provision; that the builder waives the statutory provision by so electing. The trial court tried to take a practical approach, in the appellate court's view, by thinking the statutory procedure "would not harm them (the homeowners) and might be beneficial." But the problem with that thought, as is correctly noted by the appellate court, is the statute absolutely precludes such recourse.

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Alternative Dispute Resolution (ADR): California Statutes, Public Policy, and Agreement --Part II: Enforcement of Recorded Covenant to Arbitrate

The second recent ADR case on the meeting of minds concerns arbitration--that is, whether an arbitration will even happen. The Court of Appeal (4th District, Division 1) in Villa Vicenza Homeowners Association v. Nobel Court Development LLC (filed January 11, 2011) 2011 DJDAR 585 found "CC&R's are not an effective means of obtaining an agreement to arbitrate a homeowners association's construction defect claim against a developer." In short, the court reasoned that there may not be a valid agreement constituting a meeting of minds and legal consideration on the subject of waiver of judicial remedies. In the court's view, the legislature did not intend, in stating in California Civil Code section 1354 that Covenants, Conditions, & Restrictions (CC&R's) be treated as equitable servitudes, to provide continuing and irrevocable contractual benefits to the developer.

The Villa Vicenza decision follows a trend of cases that concern themselves with questions of fairness in terms of relative bargaining power in requiring contractual arbitration. There can be little doubt that a CC&R provision that sets forth an easement or limits the size of construction will be enforceable under normal circumstances against a homeowner who purchases a home from an existing homeowner, even though the new homeowner is outside of contractual privity with the original developer who recorded such CC&R's. The enforceability is a matter of notice of the equitable servitude as provided in Civil Code section 1354. The homeowners association in Villa Vicenza appears to be similarly on notice of the equitable servitude that any claims of defect against the developer are to be arbitrated. Those homeowners who constitute members of the homeowners association arguably had a choice in buying their homes and accepting the CC&R's as part of the bargain.

This brings me to a comparison of the two cases I have discussed. There of course is the obvious difference that Cassel is a Supreme Court case. Interestingly, literal interpretation of the statute in question there took precedence in serving the public policy favoring resolution of disputes by means short of litigation in a public court. The court refuses to rewrite the statute even to ensure accountability of attorneys. In Villa Vicenza, the appellate court appears to take considerable license in interpreting the provisions of Civil Code section 1354 to protect the public policy of not forcing parties into arbitration where they may not have knowingly agreed to forgo the public trial process, placing this policy above favoring ADR.

Had someone posed these two opinions to me without identifying which was from a higher court, I would have guessed the opposite.

Alternative Dispute Resolution (ADR): California Statutes, Public Policy, and Agreement --Part I: Mediation Confidentiality

Welcome to the inaugural posting of the California Appellate Lawyer Blog, presented by the Appellate Practice Group of Dowling Aaron Incorporated, Inc. This is Steve Vartabedian, recently retired from the bench, having spent 21 years on the California Court of Appeal which followed 8 years on the trial court. From time to time, I, and other attorneys at Dowling Aaron Incorporated, will be addressing matters such as recent appellate opinions, appellate practice, and trial practice issues aimed at protecting clients' appellate rights. I also participate in Dowling Aaron Incorporated's ADR Group, performing mediations and arbitrations. So I thought I would comment in my first two posts on two recent cases concerning ADR proceedings.

This first post is about mediation confidentiality and the California Supreme Court opinion in Cassel v. Superior Court (filed January 13, 2011) 2011 DJDAR 658. Evidently in this case, the mediation client felt that his attorney did not fairly achieve an agreement with the client in the settlement reached with the opposing party. The opinion does not tell us whether the settlement agreement was attacked in the trial court. We do know that client sued attorney for malpractice claiming counsel gave him bad advice, deceived and coerced him, and did so based on a conflict of interests. The client claimed he was induced into settle for a lower amount than the case was worth and lower than what client had communicated he was willing to accept.

The malpractice action reached the Supreme Court. In his defense at trial, attorney moved in limine to exclude ALL evidence of communications between him and client (plaintiff) that were related to the mediation, including pre-mediation discussions. The trial court granted the motion. On mandate petition, the Court of Appeal majority granted relief to plaintiff, finding that because defendant is free of his attorney-client privilege in defending the malpractice action, he cannot use mediation confidentiality as a shield in that action--that to do so would allow him to unfairly hamper the proof of malpractice against him.

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