Lender Liability for Construction Defects after the Sale of a Bank Owned, Foreclosed Property.

Distressed assets are certainly not uncommon to lending institutions during this turbulent economic climate. Lenders are in a very precarious position when selling “new” homes that have become bank owned assets after the foreclosing bank takes title to new homes built by defaulting contractors. At the South Carolina Construction Defect Blog we are going to examine lender liability in light of South Carolina’s Warranty of Habitability laws which place a responsibility on the seller of a new home.
While a foreclosing lender is not a developer or contractor, South Carolina treats banks in the same fashion as there is no distinction as a bank that sells a lender-owned home is still potentially liable to the home’s eventual buyer. In Kirkman v. Parex, Inc., 632 S.E.2d 854 (S.C. 2006), the lender took title to a recently constructed “spec” home after the builder defaulted. The lender took title and retained a finish contractor to perform about $40,000 worth of touch up work while the home was in its REO portfolio. The lender sold the home for $232,900 to the homeowner Plaintiffs who later sued the bank and others as the home was negligently constructed.
Even though the lender sold the home pursuant to an “as-is” provision in the deed, the lender was not able to escape liability. The homeowners sued the lenders several years later for breach of the implied warranty of habitability due to defects which were the result of the stucco application. The Supreme Court reversed lower courts and stated that the implied warranty of habitability arises upon the sale of a new home, irrespective of fault on the part of the seller of the home. Under the doctrine of caveat venditor, the seller of a new house impliedly warrants the habitability of the house. Arvai v. Shaw, 289 S.C. 161, 345 S.E.2d 715 (1986) (holding that the warranty is implied only in the initial sale, not in a resale); Lane v. Trenholm Bldg. Co., 267 S.C. 497, 503, 229 S.E.2d 728, 730-31 (1976) (holding that, generally, the warranty is made by the seller even if he did not build the house); …. The seller’s “liability is not founded upon fault, but because it has profited by receiving a fair price and, as between it and an innocent purchaser, the innocent purchaser should be protected from latent defects.” Lane, 267 S.C. at 503, 229 S.E.2d at 731. “[T]he warranty springs from the sale. The determining factor is not whether the defendant actually builds the defective house, but that he places it, by the initial sale, into the stream of commerce.” Kirkland at 482-483. Persistent, the lender claimed that it should not have any liability because it effectively disclaimed liability by including an “as-is” clause in the deed. The Supreme Court ruled that an “as-is” clause is not valid unless the seller meets strict standards including specifically negotiating with the buyer to accept the home without a warranty. Kirkland at 485.
Lenders do have a source of protection which might be the real nugget which can be gleaned from the Kirkman case. The opinion, while finding for the owner despite an “as-is” clause found that the implied warranty can be disclaimed and all banking institutions need to heed the case’s impromptu instructions which are buried at the end of the opinion. A disclaimer is only permitted if it is “(1) conspicuous, (2) known to the buyer, and (3) specifically bargained for.”
While providing a high threshold of protection to the homeowner, Kirkman also provides a road map for risk management to lenders. My assessment is that a bank can steer clear of liability so long as it reduces the price, or possibly provides other concessions in exchange for the buyer making a knowing waiver of its rights to the warranty.