With starter homes in some parts of the Bay Area over $1M, even well-educated high-earning, dual-income couples are having a hard time getting in, especially with interest rates creeping up.

Enter a long-existing but obscure concept called “equity sharing” and a new online service called — appropriately enough — HomeEquityShare.com.  The idea is simple:  match prospective priced-out and/or risk-adverse home buyers with real estate investors who don’t want the pain of landlordship.  The home buyer and the investor together come up with an appropriate down payment, sign an ownership agreement, and buy a suitable property.  The investor gets the best of all possible tenants:  one who treats the home as if it were his own — which of course it largely is.

At the end of a specified time period, the home owner buys out  the investor, or they sell the property and split the money.

The devil, as always, is in the details.  The site explains some of the basics of how these agreements are structured, who pays what, how the taxes work, and so forth.  The “Chief Real Estate Officer” of the company is Marilyn Sullivan, a Santa Barbara-based real estate attorney with two decades and 3000 transactions’ worth of equity sharing experience.

The site includes a calculator to estimate the co-ownership structure of the deal.

My thoughts?  I think it’s a brilliant idea — partly because it’s something a friend of mine and I toyed with already several years ago but simply never executed on.  Many local couples with $300K plus year combined salaries are simply being priced out of areas like Palo Alto, and this makes it possible for them to get in the market.  Many investors are wary of getting into consistently negative cash flow real estate investments.

The major red flag I see is one of branding:  this looks and feels very much like a tenancy-in-common arrangement.  (In fact, according to Marilyn Sullivan’s site, it is tenancy-in-common.)  When I hear that phrase, warning bells of real estate deals gone awry in the People’s Republics of San Francisco, Oakland, and Berkeley start ring.  Due to ownership laws in those cities, condo-type ownership is difficult for certain older buildings, and so people resort to tenancy-in-common arrangements, which are more difficult to structure, more difficult to get loans for, and greatly dependent on good cooperation amongst the co-tenants.

Still, I’ll reserve judgement about the efficacy of this kind of ownership.  If Marilyn has done several thousand of these deals, I’m sure the agreement itself is pretty solid and caters for all sorts of thing that could go wrong.

Time to go register to join their network and learn more.

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All employees of contractors in California are required to be covered by workers’ compensation insurance (“WCI”); California Business and Professions Code Section 7125 et seq. A residential remodeling contractor was found to be legally unlicensed because he failed to obtain WCI for his employees during a contract. His failure to pay WCI resulted in an automatic suspension of his license, and as a result, he had to pay back all monies that he had been paid by the homeowner for the contract, even though there was nothing wrong with his work.

A contractor on a residential remodeling contract filed suit against a homeowner for breach of contract for payments owed. The homeowner counter-sued that the contractor was unlicensed, because he failed to pay WCI when required to. The result is that not only could the contractor not recover for compensation he claimed he was owed, but was also required to reimburse to the homeowner all payments already made; California Business and Professions Code Sections 7031(a) and (b).

The (Santa Cruz County) trial court found that the contractor’s license was automatically suspended during the period of the contract work because he failed to obtain WCI. Specifically, during the period he was working on the house and using five employees, the contractor underreported payroll to the State Compensation Insurance Fund, thereby failing to obtain WCI for those employees. The trial court held this failure to obtain WCI resulted in the automatic suspension of the contractor’s license under California Business and Professions Code Sections 7125.2.

CA B&P 7152.2 states in pertinent part: “…The failure of a licensee to obtain or maintain workers’ comp insurance coverage, if required, shall result in the automatic suspension of the license by operation of law…” An unlicensed contractor is not allowed to collect on a construction contract. Moreover, an unlicensed contractor is required to pay back all monies paid to a consumer under a contract, no matter how well or how poorly the contractor’s work was done.

The contractor appealed the decision. The California Court of Appeal, Sixth District, in Wright v. Issak No. H030399, 2007 (Mar. 20, 2007) WL 831716 agreed with the lower court decision under the following rationale. The statute (CA B&P 7152) contemplates two grounds for license suspension: failure to obtain compensation WCI or failure to maintain WCI. The Court of Appeal stated that a case about underreporting payroll is, by definition, a failure-to-obtain case, and by operation of law, the contractor was effectively unlicensed the day that he failed to obtain WCI after he was required to, or the day any employee worked on the job without WCI.

An important side issue of Wright v. Issak illustrates a common risk that homeowners seemingly take on without understanding the full ramifications. A homeowner who hires an underreporting contractor whose employee is subsequently injured at the homeowner’s property may be liable for that employee’s injuries. The small amount of money saved by a homeowner using an underreporting contractor seems obviously absurd for the potential huge risks of paying a person a lifetime of compensation for injuries suffered on one’s property.

Wright v. Issak once again illustrates the importance for people to be careful about whom they are referring to their clients. The temptation to underreport payroll to save money for the bottom line is a common problem within the construction community. The only way to protect yourself and your clients is to perform due diligence and carefully review the contract and the background of the contractor prior to execution.

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I wonder if I may be making history here as the first person to ever be live-blogging a real estate legal update seminar.

Twice a year my broker, Alain Pinel Realtors, runs attendance-mandatory legal update seminars hosted by Bill Jansen of Broker Risk Management.  Most of us look at these events akin to a trip to the dentist:  painful, but necessary and perhaps even good for us.  Fortunately the company provides a breakfast to get us all there on time — a fairly reliable ruse in the case of Realtors.

Bill does his best to liven up his talks with anecdotes, pithy lines, and the occasional joke.  Some of his best lines today were on disclosure obligations:

1) Seller:  “Do I have to disclose–”

Agent (interrupting):  “Yes.”

The point?  If there’s any doubt about whether something should be disclosed, the answer is “yes”.  In legalese, everything material has to be disclosed, which is of course a subjective standard.  Since the likely plaintiff in any lawsuit is a buyer, their interpretation of material could come back to bite you.

Disclose, disclose, disclose.

2) “What buyers learn before escrow, they forgive.  What they learn after escrow, they sue.”  Buyers hate surprises, especially expensive ones.  Attorneys, on the other hand, simply luv ‘em!

——————–

Disclaimer:  I am not an attorney, so don’t make any decisions or take any actions based on what I’ve written above.  Consult your own attorney for advice related to your particular situation.

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Unlicensed contractors have the riskiest of occupations. That is, they risk the legal ability to collect compensation for work they perform, and more importantly, they risk the ability to keep the money they have been paid. Why is this you say? Well the California legislature has made a point to prevent unlicensed individuals from doing business in this state by not offering them any judicial help to recover compensation even if the consumers strategically were lying in wait to prey on the unlicensed individuals. California Business & Professions Code Section 7031(a) prevents an unlicensed contractor from collecting on debts owed to them by consumers under contracts due to their unlicensed status. Similarly, B&P Sec. 7031(b) gives consumers who have contracted with unlicensed contractors the ability to sue for restitution or reimbursement of all monies paid to the unlicensed contractor for ‘any act or contract.’ This harsh and draconian rule applies even if the unlicensed individual has perfectly built you the Taj Mahal.

The California Supreme Court has a long history of consistently supporting the legislative determination that unlicensed contractors ‘work for free in this state.’ California courts have consistently held that the licensing status of all contractors and subcontractors is a condition precedent to recovering compensation for contracted work in this state.

Most recently the California’s Highest court held in MW Erectors v. Neiderhauser (2005) 36 Cal. 4th 412, that a sub-subcontractor (MW Erectors) who sued a subcontractor (Neiderhauser) for non-payment of more than $1.3 million for steel work performed under two sub-contracts on a private hotel project (California Grand Hotel at Disneyland) was barred from recovering their compensation because they were unlicensed when they entered into the subcontracts. Neiderhauser argued that MW’s payment claims were barred under 7031(a), because MW was unlicensed when the sub-contracts were signed and was not licensed for the first eighteen days of the year-long project in which it was involved under one of the contracts. MW performed their obligations proficiently but was barred from recovering their $1.3 million by the Court because they failed to abide by B&P Sec. 7031. Sound unfair? Write your state senator or assemblyperson and tell them you think so.

Recently, my firm represented a homeowner in a binding arbitration with this issue dominating the outcome. The homeowner stopped paying his contractor because he felt the contractor was not properly building his house, i.e., a number of defective components began to manifest themselves during construction which were denied by the contractor. The contractor filed a mechanic’s lien and sued our homeowner client for breach of contract and foreclosure of the lien. Our client cross-complained for defective construction and breach of contract. We began investigating the contractor’s background and found that he had obtained and maintained his contractor’s license by fraud. In essence, he had obtained his license by the use of sham RMOs (Responsible Managing Officers) – other licensed individuals who have an ownership interest in a construction corporation and who supervise the day-to-day operations of the contracting business. Needless to say, the RMOs this contractor had vouch for him never set foot on his projects; which is a violation of the statute. Thus, we were able to prove that he did not have a valid license, and we successfully prevailed under a B&P Sec. 7031(b) claim. Our client received approximately $400,000 in reimbursement of monies paid to the contractor and another $200,000 in attorney’s fees from this unlicensed individual. Ouch!

The lesson here is that it’s important to recognize this body of law when referring individual contractors to your clients, especially if they end up in a dispute with a contractor. A quick check of a contractor’s license may give you or your client a significant upper hand in a contract dispute if the facts show the contractor is not validly licensed. B&P 7031(b) is ultimate remedy against an unlicensed contractor and will give a consumer a judicial windfall by enabling them to collect all of the money paid to the contractor as a penalty for them not being licensed. (The status of a contractor’s license can be viewed at the California State Licensing Board’s website at www.cslb.ca.gov.)

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Did you ever hear the age old statement that the only stupid question is the one that is not asked? Well that applies to real estate agents too. Agents should consider asking the following simple but important questions before referring home inspectors or home inspection companies (hereinafter “inspectors”) to their clients. Referrals reflect the agent’s own professional judgment and may affect the most important pipeline of potential future business. My opinion is that agents shouldn’t use an inspector just because an officemate or friend recommends one or has been using one “for years.” An agent is a fiduciary who must put the client’s interests above everything else, must make the best possible recommendations, and must not act with expediency and convenience when there may be a better alternative or option that should be evaluated for their clients. The questions below are easy, simple and should be considered each and every time you refer an inspector.

1. Know Your Inspector’s Background, Experience, and Credentials

All agents should consider the inspection experience of the inspector they refer including how many inspections they have performed, their certifications, licenses, memberships, and how long they have been in this business. Why? Because all inspectors are not created equal. Most inspectors are contractors, but many of the best are not. Extensive training in the art of inspection or other code knowledge by far outweighs a contractor’s license, in my opinion. A properly trained individual who is well versed in all aspects of residential construction is critical to a well rounded inspector.

Although some states now require licensing for home inspectors California doesn’t. See California Business & Professions Code §§ 7195 et seq. There are however, professional organizations which require experience and training before an individual can become a member. The two primary associations in California are the California Real Estate Inspection Association, www.creia.org, and the American Society of Home Inspectors, www.ashi.org. Consider referring an inspector who is affiliated with one of these organizations.

Also consider the inspector’s relationship to their company. Are they the owner or just an employee? This is important because in my mind and my experience, an owner of a home inspection business cares deeply about their work and reports they produce because they are concerned about potential liability. However, an employee may not perform as well as an owner-operator because they have less at stake.

2. Does Your Inspector Have Errors & Omissions (E&O) Insurance?

Errors and omissions insurance (hereinafter “E&O”) is an important consideration. E&O may help resolve claims against the inspector, for items they may have missed during the inspection, after close of escrow. E&O insurance is not required for inspectors and there is currently no reliable data on the percentage of inspectors who actually are insured. I have heard it is in the fifty percent (50%) range; i.e. one out of two inspectors actually carries it. Consider asking the inspector for a current declarations page of their E&O policy. The declarations page shows the type of policy, i.e. claims made or occurrence, coverage limits, and the policy periods.

Some agents even request the inspector include the agent’s name and broker’s name as “additional insureds” on the policy. This added layer of protection for the agent and/or broker will also sometimes help resolve and settle potential claims which arise out of the referral. It may prevent an agent from having to pay their own carrier’s deductible if a claim arises and both the inspector and agent are asked to participate in resolution of the claim.

An inspector who does not have E&O may have a broad range of reasons why they are not insured. Whatever the reason consider referring an inspector who has E&O to provide better overall protection and value for your client.

3. Does Your Inspector Use An Inspection Agreement?

Today, most inspectors have their customers, your clients, sign inspection agreements prior to the inspection. These agreements detail the ground rules, the inspector’s scope of work, and items outside of their scope. I have personally reviewed hundreds of these agreements and most of them are fair, however, some have clauses that attempt to circumvent statutory and current case law. Consider getting your client a copy of the agreement well in advance of the inspection to give them a fair amount of time to read, consider, digest and then agree to the terms. If you or your client has questions about the terms make sure they are answered before your client signs the agreement.

A popular attempt by some inspectors is to place a limitation on their monetary liability by stating that their total liability for negligence, errors or omissions is limited to the cost of the inspection report. This is expressly prohibited by statute, but is sometimes cleverly navigated by limiting their liability to two or three times the cost of the inspection. See California Business & Professions Code § 7196. Although there have been no appellate court decisions testing these type of clauses which tip-toe around the limitation described above it is imperative that agents know what the inspection agreements say and give their clients plenty of time to digest this information and make a well-informed decision.

Another common avenue to reduce liability by inspectors comes in the form of a reduction in the statute of limitations to bring an action against an inspector. California Business & Professions Code § 7197 states that an action may not be brought against a home inspector four years after the date of the inspection, however, some inspectors attempt to contractually reduce this time period to one or two years. The issue of reducing the statute of limitations was addressed in the California Appellate court case of Moreno v. Sanchez (2000) 140 Cal.App.4th 1315, which held, that notwithstanding a contractual device to reduce the time period allowed in § 7197 the delayed discovery rule prevents an inspector from contractually reducing the four year statute of limitations if the defect, error or omission by the inspector was found or identified and the claim brought within four years of the date of the inspection.

4. How Does Your Inspector Handle Callbacks?

Callbacks are a fact of life. The first call or email you receive from your client stating that the inspector you referred “missed something” will probably be a frightening moment in your career. It can be a lot less disconcerning if you know the inspector is a stand-up business person, has a procedure to deal with these situations, and has E&O insurance. Make sure you know the procedure that your inspector has in place to deal with this situation. A smooth and simple callback procedure will calm nerves and will hopefully facilitate any repairs that may be necessary before tempers raise and attorneys get involved.

Conclusion

Ideally, issues between your clients and the inspector you referred will not arise, however, that is not reality. If you are interested in increasing your professionalism, adding significant value to the services you already provide your clients, significantly reducing potential risks to your clients, you and your broker, it is paramount that you consider the answers to these questions prior to referring an inspector. Knowing the answers to these questions before your referral may help give you a certain peace of mind and confidence that you are making a quality recommendation based on due diligence and professionalism.

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