November 25, 2014
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Colorado Construction Defects Update: A Perspective
(This article first appeared in Colorado Real Estate Journal, July 4, 2007)
This past legislative session witnessed the controversial passage of House Bill 07-1338, labeled as the “Homeowners Protection Act of 2007”. This new law, which went into effect on April 20, 2007, intended to update and clarify prior law passed in 2003, House Bill 03-1161, known as the Construction Defect Action Reform Act (CDARA). Rather than clarify, House Bill 07-1338 significantly amended CDARA in confusing ways, and portends to adversely impact real estate development and construction in Colorado.
Prior to CDARA, during the late nineties and into the new millennium, the construction industry experienced a dramatic increase in construction defect lawsuits with many claims valued higher than the cost to build. Builders were having difficulty managing these risks as insurance carriers pulled out of the Colorado market. To address these problems, representatives of homeowners, developers and contractors negotiated proposed legislation and reached a compromise, CDARA.
CDARA affects both residential and commercial properties, and generally provides for a pre-suit notice of claim process. The law also limits recovery to “actual damages,” meaning the reasonable repair cost, replacement cost, or fair market value of the property without the defect, whichever is less. Damage caps, including attorney fees, were mandated at $250,000 for any viable Colorado Consumer Protection Act (CCPA) claim or personal injury claim. Express warranties were not affected and could be provided in exchange of a waiver of any implied warranties. As a result, CDARA provided a measure of certainty to the construction industry, and remedies to homeowners who had valid claims.
After CDARA, the construction industry stabilized. The notice of claim process was working, speculative damage claims were reduced, valid claims had remedies, and insurers returned to the market. While the average home is more expensive here then some other areas of the Country, Colorado's economic climate was improving. CDARA faced subsequent challenges by special interest groups, the most serious threat coming from proposed constitutional amendment 34, which voters soundly defeated.
Enter the 2007 legislative session, and a new opportunity for those special interest groups seeking to change CDARA. HB 07-1338 was introduced under a claim that unconscionable contract provisions gave homeowners no legal recourse for defective construction. Most provisions restricting a builder's liabilities are fair given the risks involved in construction, but the bill's proponents seized upon the extremes. The legislature reacted and, unfortunately, overreacted. HB 07-1338 is a blanket fix to a specific problem.
HB 07-1338 affects residential properties including mixed use developments. Under the new law, any waiver of, or limitation on, the “rights, remedies, and damages” available under CDARA or CCPA are void as against public policy. This appears simple enough; give homeowners the rights that are available under CDARA, and don't restrict access to them. That begs the question: What rights, remedies, and damages does CDARA provide? As described earlier, CDARA provides a pre-suit notice of claim process, and the ability to recovery actual damages which are capped. CDARA does not provide a cause of action in and of itself. Causes of action such as negligence or breach of contract derive from common law, contract, or statute.
So the impact of HB 07-1338 should be limited, right? Well, not exactly. The law can, and will, be applied broadly. For example, the law is not specific to purchase agreements and can apply to governing documents such as homeowner declarations. Any provisions in any document that directly or indirectly limit a homebuyer to damages less than what is available under CDARA is void. Similarly, no document may limit the time period to bring suit for construction defects. These are obvious limitations prohibited by the law.
Less obvious is the law's impact on express warranties. While an express warranty can still be provided, arguably it cannot be provided in exchange for the disclaimer of any implied warranties, and it cannot in any way limit current statutes of limitation, or any other claims that may be brought by the owner such as negligence, breach of contract, and breach of implied warranties. Implied warranties are broad and undefined standards that increase the risk of defect claims.
The law's impact will be far reaching. HB 07-1338's impact will reach affordable housing. In order to obtain HUD financing, builders often use third party warranty companies. Most third party warranties, however, contain provisions that run afoul of HB 07-1338.
HB 07-1338 will negatively affect the economics of mixed use developments. Mixed use development is taking place under a variety of names-TOD, sustainable development, livable/walkable communities, new urbanism, etc., and are currently encouraged by those communities seeking to further such “density-by-design” efforts to solve their traffic congestion, affordability and related infrastructure challenges. The underwriting of mixed use projects whether by owner, contractor, lender or equity provider is already a complex and difficult task. The added risk of residential defect claims complicates that analysis and threatens the viability of mixed use developments.
Remarkably, HB 07-1338 goes back in time. The law was effective on April 20, 2007, but it applies to all lawsuits filed after its effective date, and not just to contracts entered into after the effective date. As a result, contractual provisions executed up to six years earlier, if subject to a lawsuit, will be deemed void if they conflict with the new law.
The certainty brought by CDARA has been replaced with a new uncertainty. While CDARA's damage caps remain in place, the ability to fairly limit risks associated with residential construction is greatly reduced. This is especially true for multi-unit developments where the number of potential claimants amplifies the risks. The inability to control or mitigate these risks could well render many projects simply too risky to undertake. The ability of lenders to underwrite and finance projects is a serious concern. The uncertainty of the insurance costs and the potential loss of carriers who were just reentering the market could be devastating.
HB 07-1338 will have substantial impact; however, its full impact remains to be seen. It is safe to say, however, that the impact will be felt to the detriment of developers, builders, and homeowners alike. Stay tuned…!