"Protecting Developers from Recission". Published June 25th, 2007.
Stephen Hankin's article published in The NJ Law Journal: "Protecting Developers from Recission". Published June 25th, 2007.
RECISSION: A RENEWED SOURCE FOR CONDOMINIUM PURCHASERS
UNDER THE ëIMPROVED LOT' EXEMPTION OF THE INTERSTATE
LAND SALES FULL DISCLOSURE ACT
The spoils of the rich real estate market during the past half decade have left condominium buyers with the desire to reap immediate profits by assigning their purchase contracts before construction has either begun or been completed. Now that the market has either returned to normal or taken a downward spiral with completed units heading for closing, buyers are feverishly searching ways to rescind. In most instances, resort to traditional equitable principles or to state statutes governing condominium offerings has proven unsuccessful. However, federal legislation may provide a solution if the condominium was uncompleted at the time the contract of sale was signed and the offering involves one hundred or more units.
This article discusses a condominium buyer's right of recission where a developer has failed to qualify for what has been dubbed as the improved lot exemption under the Interstate Land Sales Full Disclosure Act, 15 U.S.C. ß1701 et seq. (ILSFDA).
The Jurisdictional Scope of ILSFDA
ILSFDA was enacted in 1968 as an anti-fraud statute to prohibit the sale (or lease) of certain unimproved or subdivided real estate by means of interstate commerce unless exempted or registered with the United States Department of Housing and Urban Development (HUD). Interstate commerce is broadly construed to include the telephone, the mails and other types of media having an interstate circulation, regardless of whether a developer engages in marketing or sales activities intended for out-of-state. 15 U.S.C. ß1703(a); Schenker vs U.S., 529 F.2d 96 (9th Cir. 1976) (the mails or facilities of interstate commerce suffice); McLain vs Real Estate Board of New Orleans,
Mr. Hankin, the senior member of Hankin Sandman & Palladino of Atlantic City and Cape May Court House, New Jersey, concentrates his practice in commercial transactions, real estate, land use, environmental law and related litigation.
Inc., 444 U.S. 232, 245 (1980) (the interstate movement of real estate purchasers and related activities establishes an interstate commerce nexus). A sale occurs when a purchaser signs a contract of sale rather than when the actual transfer of title occurs. Law vs Royal Palm Beach Colony, Inc., 578 F.2d 98 (Fla 5th Cir. 1978); 24 C.F.R. ß1710.5. ILSFDA is administered by HUD which has promulgated a score of detailed regulations. See 24 C.F.R. ß1710 et seq. ILSFDA is not to be construed technically but rather in a liberal, flexible fashion to effectuate its remedial purposes. Samara Development Corp. vs Marlow, 556 So. 2d 1097 (Fla. 1990). Although ILSFDA was first enacted as a prophylactic against and means of punishment for fraud by developers who were attempting to sell unbuildable lots and other property without access or utilities, ILSFDA is no longer limited to the sale of raw land. Winter vs Hollingsworth Properties, Inc., 777 F.2d 1444, 1447 (11th Cir. 1985); McCown vs Heidler, 527 F.2d 204 (10th Cir. 1975); 24 C.F.R. ß1710.1. While ILSFDA does not apply to a contract for an already fully completed condominium unit, it is now well settled that the sale of a single unit as part of a common promotional plan to sell one hundred or more units in an unconstructed condominium is subject to ILSFDA's registration and disclosure requirements. Schatz vs Jockey Club Phase III, Ltd., 604 F.Supp. 537 (S.D. Fla. 1985); Star Island Associates vs Lichter, 473 So. 2d 791 (Fla. 3rd DCA 1985); Hamptons Development Corporation of Dade vs Sackler, 522 So. 2d 1035 (Fla. 3rd DCA 1988); Winter vs Hollingsworth Properties, Inc., supra; Markowitz vs Northeast Land Co., 906 F.2d 100 (3rd Cir. 1990).
ILSFDA's underlying purpose is to ensure that when a buyer purchases certain kinds of real estate he is fully informed of all the facts which might enable him to make an informed decision. To achieve this purpose, ILSFDA utilitz[es] disclosure as its primary tool, Winter vs Hollingsworth, supra, 777 F.2d at 1447, mandating that for all non-exempt sales a developer file a Statement of Record with HUD's Office of Interstate Land Sales Registration and provide all prospective purchasers with an extensively documented Property Report before a contract of sale is signed. See 15 U.S.C. ß1703(a)(1)(A) and (B). ILSFDA has a number of statutory and regulatory exemptions, all of which have been narrowly construed to achieve its remedial purposes. See 15 U.S.C. ß1702(a) and (c); 25 C.F.R. ß1710.5 to 16; Samara Development Corp. vs Marlow, supra, 556 So.2d at 1101 (because ILSFDA was intended to protect the public [it] should be liberally construed in favor of the public and its exceptions or provisos should be narrowly and strictly construed). Indeed, it is not even a defense to a recission claim under ILSFDA if a developer gives a buyer all of the information a Property Report would have provided or that the buyer may be a sophisticated business person who has actually viewed the site. Rockefeller vs High Sky, Inc., 394 F. Supp. 303 (E.D. Pa. 1975).
The Right to Rescind and to Recover All Downpayments, Interest and an
Award of Counsel Fees and Costs
Some developers concentrate too little upon contract provisions which will effectively exempt them from ILSFDA's Statement of Record registration and Property Report distribution requirements. It is particularly important that a developer comply with ILSFDA or make certain the transaction is exempt. If a transaction is not an exempt sale, non-compliance, despite the absence of any fraud or other wrongdoing, ipso facto entitles the purchaser to revoke the contract at any time within two years from the date the contract is signed, regardless of whether title has been transferred. 15 U.S.C. ß1703(c); Grove Towers, Inc. vs. Lopez, 467 So.2d 358 (Fla. 3d DCA 1985) (absent an exemption a developer must comply with ILSFDA's registration and disclosure requirements). If recission is granted, a purchaser is also entitled to recover his deposits, with interest, court costs, reasonable attorneys' fees and expenses of travel to and from the unit. 15 U.S.C. ß1702(c).
Federal and State courts have concurrent jurisdiction over ILSFDA claims. 15 U.S.C. ß1719. Because ILSFDA provides its own remedy of recission, one court has actually refused to exercise its inherent equitable jurisdiction. Engle Homes, Inc. vs Krasna, 766 So. 2d 311 (Fla. 4th DCA 2000). See Enfield vs FWL, Inc., 256 N.J. Super. 502, affirmed, 256 N.J. Super. 466 (App. Div. 1992); cert. den., 130 N.J. 9 (1992) (comparing the automatic right of recision under ILSFDA with the discretionary remedy of recission under New Jersey law). Even equitable defenses such as estoppel, laches and waiver will not impair a purchaser's right of recission under ILSFDA. Appalachian, Inc. vs Olson, 468 So. 2d 266, 269 (Fla. 4th DCA 1985). The right of recission is thus absolute, Finst Dev., Inc. vs Bemoar, 449 So. 2d 292 (Fla. 3rd DCA 1984), and requires no proof of actual injury. Schatz vs Jockey Club Phase III, Ltd., supra, 604 F. Supp. 542.
The Improved Lot Exemption
The improved lot exemption is popularly sought by developers who have failed to register their projects or provide Property Reports to prospective buyers. This exemption states in pertinent part:
(a) Unless the method of disposition is adopted for the purpose of evasion of this chapter, the provisions of this chapter shall not apply to
(2) the sale...of any improved land on which there is a residential, commercial, condominium or industrial building, or the sale...of land under a contract obligating the seller or lessor to erect such a building thereon within a period of two years. [emphasis added] 15 U.S.C. ß1702(a)(2)
In construing this provision, a number of courts have required that a developer's two-year completion obligation be unconditional. To that end, various court have analyzed whether this requirement has been satisfied by examining not only whether the contract truly and unconditionally guarantees a two-year completion but also whether the contract provides the buyer with a transparent rather than real right to specific performance and damages.
A Conditional Guaranty Based Upon an Uncertain Two-Year Building
Hamptons Development Corporation of Dade vs Sackler, supra, held that the sale of a condominium unit was not entitled to an improved lot exemption where the contract did not guarantee the firm completion and availability date... within two years. 522 So.2d at 1035-36. [emphasis added] To the same effect, see Mosher vs South Ridge Associates, Inc., 552 F. Supp. 1226 (W.D. Pa. 1982) (emphasizing the importance of the guaranty of the delivery date vis-a-vis the completion date); Arvida Corp. vs Barnett, 502 So.2d 11, 12 (Fla. 3d DCA 1986), review denied, 511 So.2d 297 (Fla. 1987) (The general rule is that a seller is ëobligated,' within the meaning of section 1702(a)(2), only if the contract contains an unconditional commitment by the seller to complete construction within two years) [original emphasis]; Appalachian, Inc. vs Olson, supra, (the improved lot exemption is not available even if the units are actually completed within two years where there is no contract provision guarantying a two-year completion); Nargiz vs Henlopen Developers, 380 A.2d 1361, 1365 (Del. 1977) (exemption not available where contract does not guaranty completion in two years even though completed by then despite the fact that the result may permit a purchaser to perpetuate a fraud upon a developer who has acted in good faith.) It is thus of no moment that a condominium building happens to be completed in the two-year period if the agreement does not unconditionally guaranty completion. Compare Marco Bay Associates vs Vandewalle, 472 So.2d 472 (Fla. 2d DCA 1985) (contract provision estimating, but not guaranteeing, completion of construction within 10 months but elsewhere guaranteeing completion in 2 years exempts a contract under ß1702(a)(2)); Mosher vs South Ridge Associates, Inc., supra, (while the delivery date was not guaranteed by a definite date it was guaranteed to precede the two-year completion date).
Fairly summarized then, the improved lot exemption requires clear and unconditional contract language guaranteeing completion of the condominium building within two years. Under Hamptons and Mosher, if actual delivery of the condominium building is not guaranteed within two years the two-year build obligation is deemed conditional - transparent rather than real - and the improved lot exemption is unavailable to the developer.
Some developers have rendered illusory contract provisions purportedly guaranteeing a two-year completion by unilaterally reserving the right to extend closing beyond that time. In Mosher, an exemption was found only because completion and delivery was to be performed within 24 months. [emphasis added] 552 F. Supp. at 1229. Otherwise, the completion obligation becomes transparent and illusory. There is little doubt that a court would refuse to compel a developer to complete construction within the promised two-year period where he has reserved the right - willy nilly - to adjourn delivery and closing, and, therefore, the buyer's right of possession for a period beyond that time. No contract purchaser is either likely to or could rightfully complain about the non-completion of a unit if at that time he lacked the right to own or possess it. On the other hand, no developer would reserve the right to extend closing beyond the two-year completion date (other than for acts of God for which HUD permits additional time) if he really intended to unconditionally guaranty completion within that time frame. It bears repetition that Samara teaches we must look to [state] law to determine whether the ëobligation' to complete construction is illusory. Samara Dev. Corp. vs Marlow, 556 So. 2d at 1100. Since generally an award of injunctive relief, among other elements, requires a showing of irreparable harm, and since a buyer who seeks injunctive relief to compel a seller to complete construction by a specific date on which he is not entitled to either possession or ownership cannot prove irreparable harm (or damages), the transparency of a developer's so-called two-year build obligation under these circumstances becomes obvious. Such a contract provision is also nothing short of a method of disposition [which] is adopted for the purpose of evasion under ß1702(a) since it both discourages and precludes a buyer from seeking enforcement of the two-year completion obligation given his disentitlement to delivery. Samara, 556 So.2d at 1099.
A Conditional Guaranty Based Upon a Limitation of the Buyer's Remedies
In addition to not qualifying for an improved lot exemption because of ambiguous or conditional contract language failing to assure a two-year completion date, an exemption will be denied where the agreement of sale effectively limits or impairs a buyer's right either to procure specific performance of the construction completion obligation or the buyer's right to recover damages for its breach. In Samara Development Corp. vs Marlow, supra, the Florida State Supreme Court emphasized not only that a seller must be obligated to complete construction in two years but also that a buyer's right to enforce that obligation must be real and not illusory in order to achieve entitlement to an improved lot exemption. Samara explains:
We believe that without the availability of at least both specific performance and damages the obligation to complete the construction within two years is illusory. Specific performance alone is not sufficient because the developer could sell the property to a third party in the interim, nullifying the availability of specific performance. 556 So.2d at 1101 [emphasis added]
To the same effect, see Dorchester Development, Inc. vs Burk, 439 So. 2d 1032, 1035 (Fla. 3d DCA 1983) (Since the Act is to be construed to effectuate its remedial purpose of protecting the land sale consumer, we can hardly conclude that a contract which has the effect of limiting the purchaser's remedies conforms to the requirements of the Act.); Schatz vs Jockey Phase III Limited, 472 So.2d at 474 (to be exempt from ILSFDA, a contract cannot limit the purchaser's ability to enforce the seller's promise to complete the condominium in 2 years); Berzon vs Oriole Homes Corp., 497 S.2d 670 (Fla. 4th DCA 1986) ([A] developer may not claim an exemption under the act when damages for violation of a 2-year construction provision are limited to a return of deposit or specific performance.); Hardwick Properties, Inc. vs Newbern, 711 So.2d 35, 39 (Fla. 1st DCA 1998) (a diminished ability to recover damages precludes a ß1702(a)(2) exemption because if [a] developer [ës] expos[ure] to damage[s]...[is] sufficient to constitute a substantial economic risk...the developer's obligation is real rather than illusory); Markowitz vs Northeast Land Co., supra, 906 F.2d 105 (the two-year completion obligation is not absolute where a buyer's remedy is limited to a return of his deposit plus interest); N & C Properties vs Windham, 582 So.2d 1044 (Ala. 1991) (the sole remedy of recission is not sufficient to afford a developer an improved lot exemption).
In sum, while parties to a contract generally have the right to limit their respective remedies, for purposes of ILSFDA a developer's right to do so must be analyzed in the context of ß1702(a)(2). If a developer's risk is limited to his interest in the condominium, as Samara instructs, by selling it he can avoid both specific performance and damages. Under Hardwick Properties, Inc. vs Newbern, a purchaser must have the availability of both specific performance and some damages for the developer's obligation to complete construction to be real, rather than illusory. Hardwick, 711 So.2d at 39. And if the recoverable damages would be sufficiently low in amount as to render the developer's risk of loss upon breach so insubstantial that the developer could breach the contract virtually at will then a ß1702(a)(2) exemption is not available. Hardwick, 711 So. 2d at 40.
The Agreement of Sale Must Guaranty More Than Just The
Timely Completion of the Unit
The two-year completion requirement appears to apply not only to the condominium unit being purchased but to all of the common (and limited common) elements as well as all of the other units in the condominium building. Developers should accordingly be cautioned from risking recission by guaranteeing only the completion of the unit itself or any limited common elements to which the buyer may have an exclusive right of possession. Perhaps it is because ß1702(a)(2) is so clear in requiring completion of the condominium building rather than merely the unit being purchased that there is a paucity of caselaw on this issue.
In Hamptons, the contract provided the seller would erect the condominium building containing the subject condominium unit within two years, but then provided that the seller cannot guarantee the firm completion and availability date within the aforedescribed two (2) year time for completion as to any uncompleted condominium unit. 522 So.2d at 1035-36 [emphasis added] Although the agreement unconditionally promised timely completion of the unit the plaintiff was purchasing, the court nonetheless denied the developer a ß1702(a)(2) exemption because the completion of the building as a whole, that is, the other units, was also not guaranteed. An extensive law review article published shortly after the enactment of ILSFDA likewise subscribes to the view that the two-year completion obligation applies to the building rather than merely the unit being purchased within the building. Comment, Condominium Regulation: Beyond Disclosure, 123 U. Pa. L. Rev. 639, 660-61 (1975) (noting the national benefit of ILSFDA because the typical state enabling statute does not require that a unit be within a completed building [emphasis added] and that [a] sample contract of sale will...provide  that ëSeller is obligated to erect the Building of which the Premises are a part within two (2) years from the date [of signing]'). This interpretation has been subscribed to by several other commentators who have concluded ILSFDA requires a contract guaranty that all of the common elements of the development will be completed in two years. Peretz: Recission Under the Interstate Land Sales Full Disclosure Act, 58 Fla. B.J. 297 (1984); John Paul Hanna and David Van Atta, California Common Interest Developments: Law and Practice, ß16.27 (2006) (the sale of a condominium is exempt [from ILSFDA] if the developer completes the sale of all improvements, including all common areas...). [emphasis added]. To the same effect, see Nargiz vs Henlopen Developers, 380 A.2d at 1365 (recission granted to purchaser of high rise condominium unit because [t]o be exempt under ß1702(a)(2)...the seller must be obligated under the terms of the sales contract to erect a building within two years.) [emphasis added]; Winter vs Hollingsworth, Inc., supra, 777 F.2d at 1450 (If at the time the purchaser signs the contract there exists a condominium building or the seller is obligated to erect such a building within two years, the sale is exempt from the Act. If, as in this case, no building exists at the time of contracting and the contract does not create a binding obligation to complete one within two years, compliance with the statute is required.) [emphasis added]
Some developers have maintained that ß1702(a)(2) does not require the two-year completion of anything other than the unit itself and limited common elements, that is, portions of the building to which the buyer is entitled to exclusive possession. However, not only does this argument ignore the plain language of ß1702(a)(2) but it also confuses what triggers ILSFDA's threshold jurisdiction with a developer's right to an exemption once jurisdiction is triggered. ILSFDA admittedly only applies to the sale of real estate to which there is some exclusive right of use. See 24 C.F.R. ß1701.1(b) (defining a lot as any portion, piece, division, unit or undivided interest in land...if the interest includes the right to the exclusive use of a specific portion of the land.) ILSFDA thus applies to a contract of sale for an uncompleted condominium unit (when one hundred or more units will exist) because of a buyer's right to use the unit exclusively. However, once jurisdiction exists, in order for the sale of an otherwise non-exempt condominium unit to qualify for an exemption under ß1702(a)(2) the contract of sale must obligate the seller within two years to erect the condominium building as distinct from merely the unit itself. In other words, once threshold jurisdiction obtains, a developer is not entitled to a ß1702(a)(2) exemption if the contract does not guaranty completion of the other units and common elements in the building despite the fact that the buyer has no exclusive right to enjoy them.
The Guidelines for Exemptions under the Interstate Land Sales Full Disclosure Act, 49 Fed. Reg. 31375, providing for a building or unit to be considered complete, it must be physically habitable and usable for the purpose for which it was purchased [emphasis added], do not require a contrary conclusion. 49 Fed. Reg. 31378. It is common knowledge that condominium purchasers reasonably anticipate, and that normal incidents of ownership include, use of common elements. Ofttimes condominium purchasers desire the enjoyment from and security of having other units occupied rather than uncompleted, unoccupiable units which require the daily noise incident to their completion. Indeed, in most condominium projects with one hundred or more units there are a number of significant common elements that are part of the building without which many buyers would be denied the anticipated benefits of condominium ownership, thus making the unit unusable for the purpose for which it was purchased. These anticipated benefits include lobbies, pool decks, swimming pools, billiard and multi-purpose rooms and tennis courts. It is for this reason HUD's Exemption Guidelines also plainly state:
If a seller (or developer) is relying on this [ß1702(a)(2)] exemption and the residential, commercial, condominium or industrial building is not complete, the contract must specifically obligate the seller to complete the building within two years. [emphasis added] 49 Fed. Reg. 31375, 31378.
Moreover, most state laws deem common elements inseparable from the units themselves, literally precluding common elements from being conveyed or encumbered without the condominium unit itself. See, for example, N.J.S.A. 46:8B-6 and F.S.A. ß178.107(2).
Accordingly, in order to safely qualify for a ß1702(a)(2) exemption, a contract for the sale of an uncompleted condominium unit should unconditionally obligate the developer to substantially complete the entire condominium building, including all of the common and limited common elements and the other units, within the two-year period.
Some condominium developers have also inserted contract provisions limiting a buyer's recourse to their interest in the condominium building. In doing so, however, these developers risk the argument that such language is really no different from the contract language limiting the buyer to specific performance or a return of his downpayment which precluded an improved lot exemption in Berzon vs Oriole Homes Corp., supra.
In Samara, Florida's Chief Justice took pains to explain that a developer will not be afforded the benefit of a ß1702(a)(2) exemption if there is any type of contract provision which not only restricts or impairs the developer's two-year construction obligation but which restricts or impairs the buyer's right to enforce it. In order to determine what a contract truly means, he explained:
HUD's interpretation of what constitutes a two-year obligation to construct a building relies on general principles of contract law in deciding whether or not the seller has, in fact, an obligation to erect a building within two years. Provisions for purchaser financing and remedy clauses are matters to be decided by the parties to the contract under the laws of the jurisdiction in which the construction project is located.
We must therefore look to Florida law to determine what is required of the contract in order to ensure that the ëobligation' to complete construction is not illusory. 556 So.2d at 1100 [original emphasis]
Practitioners must accordingly resort to state law to determine governing contract principles to determine the real from the imaginary.
In an unwise effort to evade the strict exemption requirements of ß1702(a)(2), some developer agreements provide that if any term violates ß1702(a)(2) then those provisions shall be deemed invalid and unenforceable. In Arvida Corp. vs Barnett, supra, the court refused to enforce this kind of contract provision, finding it a method of disposition ...adopted for the purpose of [the] evasion of ILSFDA within the intendment of 15 U.S.C. ß1702(a)(2). A developer should not be able to have it both ways by inserting contract language which rather obviously precludes an exemption under ß1702(a)(2) but which in the same breath purports entitlement to the exemption once a purchaser is forced to litigate and a court interprets the contract as exemption preclusive.
In sum, a developer is not entitled to a ß1702(a)(2) exemption under the following circumstances:
1. If the agreement of sale does not require completion within two years of the unit being purchased as well as the common and limited common elements and all of the other units in the condominium building.
2. If the developer's obligation to complete the unit within a period of two years is subject to the developer's unbridled right to delay possession and closing beyond that time.
3. If the developer's two-year completion obligation under applicable state law effectively limits the buyer's right to specific performance or damages resulting from a breach of the two-year completion obligation.
4. If the agreement of sale contains a savings or other provision designed to evade ß1702(a)(2).
Many states have enacted legislation similar to New Jersey's Planned Real Estate Development Full Disclosure Act, N.J.S.A. 45:22A-21 et seq. proscribing registration and pre-agreement distribution of Public Offering Statements similar to ILSFDA's requirements. Counsel for developers should thus take whatever additional time may be necessary to conform that information with ILSFDA's registration and Property Report requirements rather than defend costly recission suits arising out of contracts which may fail to satisfy ß1702(a)(2) requirements.