Construction Defect

Construction defect lawsuits are a huge problem in the development and construction industry.  Most of my experience with this issue has been in California, but I see that Nevada is constantly trying to figure out how to get legislation about the issue right, too.

Here’s what happens.  Developer builds a project…in my case I’ve seen this play out with townhomes, single family residences, and condominiums.  It cuts across all product types.  In California there is something called the ten-year tail.  The developer and/or contractor who builds and sells the units to end users must guarantee their work for ten years after a certificate of occupancy is issued.

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The concept means well.  A house is a big purchase.  Builders should not cut corners and hide shoddy construction.  In my experience I haven’t seen many builders trying to get away with things.  In this business, like any other, most people take pride in their work and show up every day to do their best.  Granted, in the boom times some unqualified people are deployed in the field, and mistakes can be made.  Building homes is complicated.  Building multi-story, multi-family apartments and condominiums is extremely complicated.

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Developers have a “right to repair” in this time frame.  If a defect is discovered, they have an opportunity to fix the problem for the owner.  This can work with a reasonable owner and a reasonable builder.  But ten years is a long time to be on the hook for something and situations change.  A lot of construction companies and developers ceased to exist in much less time than that during the last downturn.

Also, as mentioned previously in my HOA blog, things can get twisted very quickly when defect attorneys can convince an HOA to begin a class action lawsuit on behalf of all the owners of a certain product type.  Insurance has gotten very expense and sometimes cost prohibitive to obtain for this reason in California.  As far as I can tell, defect attorneys solicit HOAs for opportunities to sue builders and developers on behalf of the owners right about  the time a project is seven or eight years old.  Defect attorneys can sell FREE!  FREE! FREE!  They generally agree to work on a contingency with insurance companies and perceived wealthy developers in their bullseye.

Once they can get one unhappy homeowner to convince the HOA it’s a worthy pursuit then it’s off to the races.  Granted, this may often start with real problem.  Water intrusion and mold is a serious issue and that’s often where it starts.  But one problem quickly turns into, “If we’re going to sue, we might as well go for as much as we can.  Let’s find everything!”  The attorneys hire experts who will then de-construct a unit and create a report that shows everything someone might consider was not done perfectly.  The reports I’ve seen show every nail that wasn’t driven all the way in, every piece of flashing that might by ½” short, every place the gutter doesn’t drain as the architect anticipated.

One issue can start it all, but it turns into all-out war over as many issues as the defect attorneys can bring onto the battlefield.  I guess the assumption is that it’s just the insurance company that will pay so it’s OK.  But it drives construction companies out of business having to fight these suits and it makes insurance that much more expensive which ends up in the price of homes.  It’s a very risky part of building and selling homes in California, and I think in many other states as well.

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Author: edmorgan1

I am an accounting and finance professional focused in the real estate development sector in the North Lake Tahoe and Reno area. I have managed the accounting and financing of large master-planned communities in high end resort areas with complex arrangements for large public companies and for private asset managers. I am experienced in GAAP financial reporting, business plans, cash forecasting, variance reporting, audits, treasury management and tax. I have helped companies grow and downsize during the real estate cycle and have a proven ability to manage diverse teams through real estate matters. In my current role I am managing a 900 unit master planned community through a change in ownership and am seeking new residential development opportunities in Northern Nevada.

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