In the wake of recent wildfires, I thought it would be helpful to answer some questions that may crop up about real estate. But first, I must remind you that I’m a real estate expert, not a lawyer. If you find yourself in any of the situations below, talk to your lawyer. I write this column to shine a light on interesting topics related to real estate, not to give legal advice.
With that disclaimer firmly in place, let’s proceed.
- Who bears the risk of loss in a real estate transaction after a natural disaster?
Imagine you just signed a purchase agreement to buy your dream home, and while the property is in escrow, a wildfire burns that home to the ground. Who bears the risk of loss, you or the seller? Assuming you had nothing to do with starting the fire, the seller bears responsibility for the property until title is transferred to you or until you, as the buyer, take possession (unless the purchase agreement specifies otherwise).
Most of the time, this is a fairly straightforward issue, but what if there’s a rent-to-own situation? If you move in before escrow closes, is that considered taking possession? Without a well-written rental agreement that outlines who has liability before the transfer of title, this can become a murky legal conundrum. This, my friends, is why we have a justice system.
- May a buyer get out of a purchase contract if the fire caused major damage?
If the property sustains major damage from the wildfire (or other natural disaster), the buyer can cancel the purchase agreement and get back any money paid toward the purchase price. Sadly, the buyer cannot recoup the cost of any inspections completed before the fire. The inspectors did their job and should be paid for it. The fact that the resulting reports are now useless is immaterial.
The gray area in this question has to do with the definition of “major” damage. That can be a question for arbitration or litigation.
- May a buyer get out of a purchase contract if the fire only caused minor damage?
Typically, no. The California Uniform Vendor and Purchaser Risk Act suggests that the seller may enforce the purchase agreement if the damage is not material, so long as the seller repairs the damage. In Mendocino County, we use the California Realtor Association contract, and it requires properties to be maintained in the condition they were in when the purchase agreement was signed. As long as the seller can restore the property to that condition, the contract can remain intact.
- With regard to minor damage, does the timing of the fire matter?
Yes. When a purchase agreement is signed, it is customary to include contingencies. The buyer often includes contract language that says, in essence, I’ll buy this property as long as the inspections don’t identify any unforeseen problems. If these contingencies are still in place when the fire hits, the buyer can back out of an escrow, citing the minor damage as an unforeseen problem.
Remember, any material change that could affect the buyer’s willingness to purchase the property must be disclosed. Any new disclosure can trigger a buyer’s right to void the contract (unless the seller is willing to repair the material change).
- Does a seller have to disclose major fire damage that has not been repaired?
Yes. The Standard Transfer Disclosure Statement specifically asks whether the property or any of the structures have sustained major damage from fire, earthquake, floods or landslides. In addition, the Natural Hazard Disclosure Statement asks whether the property is in a high-risk fire zone. So even if the property has not sustained major damage, if it is likely to in the event of a wildfire, that information must be disclosed.
- Does a seller have to disclose that a fire occurred close to the property if the property itself wasn’t damaged?
Yes. A wildfire in the vicinity of the property in question can affect the property’s value because the property may not be considered as desirable if it is now in the middle of a fire-ravaged community. The question is how close is close? Again that’s why we have a judicial system.
- Does a seller have to disclose major fire damage if it has already been repaired?
Yes. Any major repairs or renovations must be disclosed. Whenever a Realtor in my office asks me whether they should disclose something, the answer is always yes. Real estate law, honesty and ethics require the disclosure of any issue that is not obvious during a casual inspection. Keep in mind, during the escrow process the buyer is as in love with this property as they will ever be. Now is the time to share any imperfections. Don’t wait for buyers to discover problems after escrow closes (when they’re having buyer’s remorse), or two years later when property values have declined and a job transfer causes the buyer to look for someone else to bear the cost of their problem.
If sellers don’t disclose what they know, it can come back to bite them years later.
- What are the tax implications of the destruction of property?
Things are going to get a bit technical here, so bear with me. Federal law allows businesses to deduct the full cost of “casualty losses,” while individual taxpayers with residential properties can deduct losses to the extent that they exceed 10 percent of their adjusted gross income for the year of the loss. This is only true if the taxpayer itemizes deductions, and each loss is subjected to a $100 floor. The amount of the casualty loss is equal to the difference in the value of the property immediately before versus immediately after the loss. If you’d like more information, take a look at the following tax codes: 26 USC 165(a), 26 USC 165(c)3 and (h), and 26 USC 165(i).
Of course, I’m quoting the tax code as it stood before the recent tax overhaul. You may want to give your accountant a month or two to catch up and then ask them whether this is still the case.
- Can a landlord or tenant terminate a lease or rental agreement if a fire destroys all or parts of the premises?
Yes. In fact, under California Civil Code, the agreement is terminated automatically if the entire property is destroyed. If only part of the property is damaged, the tenant can cancel the lease if the damaged part was the reason the tenant signed the lease in the first place. For example, if a tenant rents a property because it has a mother-in-law unit for his aging mother, and that unit burns while the main house remains intact, the tenant can cancel the lease (provided the tenant made it clear to the landlord that the mother-in-law unit was an essential part of the agreement).
While the landlord cannot collect rent for any time after the lease agreement is terminated, they can still collect unpaid rent from before the fire.
While I have focused on wildfires and natural disasters, most of what’s written here applies to single-structure fires, too. As long as the buyer or seller is not complicit in starting the fire, the information above applies. As a side note, “complicit” doesn’t necessarily mean intentional involvement. If a buyer or seller’s stupidity or poor judgment leads to the property being damaged, they are just as responsible.
One of these days, I’ll write a column on all the crazy things tenants have done, intentionally and accidentally, to damage properties.
If you have questions about real estate or property management, please contact me at firstname.lastname@example.org or visit www.realtyworldselzer.com. If I use your suggestion in a column, I’ll send you a $5.00 gift card to Schat’s Bakery. If you’d like to read previous articles, visit my blog at www.richardselzer.com. Dick Selzer is a real estate broker who has been in the business for more than 40 years.