November 4, 2009

Eleventh Circuit Hands Victory to Condominium Developers Seeking to Qualify Under Two-Year ILSA Exemption

Holland & Knight Alert
Matt Joe

The Interstate Land Sales Full Disclosure Act, 15 U.S.C. § 1701 et. seq. (ILSA) is not a talisman that transforms a condominium purchaser’s “buyer’s remorse” into a legally cognizable defense to a breach of contract claim, or so goes the clear implication of the Eleventh Circuit’s recent unanimous opinion, Stein v. Paradigm Mirasol, LLC (--- F.3d ----, 2009 WL 3110819 C.A.11 (Fla.)). The ruling must be welcome news to condominium developers because it is likely to dampen – at least temporarily – the recent proliferation of lawsuits from unhappy residential condominium purchasers seeking to reverse or escape deals that have proven to be bad financial investments.

In Stein, the condominium purchaser plaintiffs, the Steins, sought to set aside their contractual obligation to purchase a new condominium unit from Paradigm Mirasol shortly after the Florida housing bubble burst in early 2007. The Steins claimed that they were entitled to terminate their purchase contract and to receive a refund of their deposit because Paradigm failed to give them the extensive property disclosure report required under ILSA. Paradigm countered that it was not required to provide them the property report because, like thousands of other sales around the country, this sale fell under ILSA’s two-year exemption set forth in § 1702(a)(2). This exemption allows a seller to avoid the ILSA disclosure and registration requirements if that seller is contractually obligated to finish building the condominium unit under contract within two years of the date of the contract. Because the Steins’ purchase contract contained a provision requiring Paradigm to complete construction within this time, and because it actually did so, Paradigm contended that it was exempt from ILSA.

The District Court – echoing a series of buyer-friendly decisions by Florida courts – granted summary judgment in favor of the Steins, holding on two independent grounds that they were entitled to terminate their purchase contract because Paradigm did not qualify for the two-year exemption. The Eleventh Circuit reversed the District Court judgment on both grounds, as discussed below.

Completion Delays Caused by Circumstances Outside the Seller’s Control Are Excusable

A force majeure provision traditionally permits one party to delay the performance of its contractual obligations upon the occurrence of substantial disruptive and unanticipated circumstances, such as acts of God, labor disputes, or material shortages. Even in the absence of such a provision in a contract, general contract law will sometimes excuse parties from performance under extreme circumstances. The District Court held that the force majeure clause in the Steins’ purchase contract was not restrictive enough, and that the practical effect of the provision released Paradigm from its two-year completion obligation, so that the exemption did not apply. The provision was indeed broadly worded and expressly permitted Paradigm to delay the completion of the condominium for any reason beyond Paradigm’s control.

Broad force majeure provisions such as this one are prohibited under the Department of Housing and Urban Development guidelines that discuss HUD’s interpretation of ILSA. In those guidelines, HUD states that provisions allowing a seller to delay the completion of the condominium do not violate the two-year exemption so long as they are recognized as defenses to contract actions under the law of the jurisdiction governing condominium contract. These guidelines purportedly prohibit force majeure clauses that contractually excuse delays not otherwise excusable under that governing law. For example, when circumstances make a contract impossible to perform, the resulting delays are excusable by law regardless of whether the contract contains a force majeure provision. The HUD guidelines allow force majeure provisions to cover only these and similar circumstances, essentially permitting such provisions to be mere restatements of existing law. However, Paradigm’s broadly-worded force majeure provision seemingly allowed other delays that would not normally be excused under state law, thereby violating the HUD guidelines.

The District Court adopted the position of the HUD guidelines and held that Paradigm’s force majeure clause rendered its completion obligation “illusory.” The force majeure provision, it contended, would excuse many hypothetical circumstances beyond Paradigm’s control that would not otherwise be excused in the absence of the provision. Although the Eleventh Circuit agreed that the force majeure provision was more than a reiteration of state law, it rejected the “implied by law anyway” standard as an entirely artificial limitation upon sellers’ rights. To support this conclusion, it disregarded the HUD guidelines, explaining that they are “inconsistent” and not entitled to much judicial deference under the Supreme Court’s Chevron and Skidmore tests. The Eleventh Circuit also emphasized that ILSA is intended to protect consumers against seller fraud, and reasoned that excusing delays under a provision expressly limited to circumstances outside the seller’s control would not promote or permit fraud.

Sellers Can Restrict a Buyer’s Remedies in the Event of the Seller’s Default

The contract also contained a provision limiting the Steins’ remedies upon Paradigm’s default. The disputed provision stated that the Steins waived any right to seek special, consequential, punitive, speculative, or indirect damages from Paradigm. However, it did grant the Steins the right to seek specific performance or to terminate the contract, recovering their deposit plus interest and actual damages from Paradigm. As the Eleventh Circuit expressed it, the Steins contended that because the types of damages they could seek from Paradigm were contractually limited, they could not “inflict enough legal pain” on Paradigm to force it to abide by its two-year completion obligation.

The District Court was unfazed by the contractual waivers of speculative and punitive damages, since those types of damages are never recoverable under Florida law for breach of contract. However, it was troubled by the limitation on special damages, which could prevent the Steins from obtaining the “benefit of their bargain” by collecting the difference between the contractual purchase price and the fair market value of the property after Paradigm’s breach. It concluded that the provision entirely undermined Paradigm’s two-year completion obligation, because if Paradigm breached the contract the Steins would be without meaningful recourse against it.

However, the Eleventh Circuit disagreed that the limitations on the Steins’ damages were fatal under the two-year exemption. Instead, it focused on the fact that the Steins could seek specific performance of Paradigm’s two-year completion obligation. It reasoned that if the Steins obtained a judgment ordering Paradigm to perform under its two-year completion obligation, that judgment would be backed by civil and criminal contempt penalties. The very nature of injunctive relief forces parties to take the actions commanded by the court, which is certainly enough to render Paradigm’s two-year completion obligation more than “illusory.” It further discarded the Steins’ objection that specific performance is not available if the seller has sold the condominium to a third party, since in those circumstances Florida law would provide other remedies allowing them to recover Paradigm’s ill-gotten profit – regardless of what the contract says. The Eleventh Circuit essentially concluded that buyers entitled to seek specific performance of a seller’s two-year completion obligation have a sufficient remedy against that seller under the two-year exemption.

The Decision Provides a Needed Boost to Condominium Developers

Stein is undoubtedly a welcome relief to condominium developers, most of whom probably hope that it will rein in some of the more extraordinary ILSA cases that have been decided in recent years. They also most likely hope that lower courts will adopt the Eleventh Circuit’s more balanced view of the statute’s anti-fraud purposes, de-emphasizing the prevalent rule of construction interpreting ILSA broadly in favor of purchasers. The Eleventh Circuit seems to have intentionally drafted its opinion broadly and limiting the effect of the opinion may prove to be difficult. However, the courts and legislatures may nonetheless construe the decision narrowly. State law governs the extent to which force majeure clauses are enforceable, and it is possible that the state legislatures or courts will limit the effect of this holding by further restricting the circumstances in which delays are allowed. They might also expand the remedies available to purchasers after a seller’s default, regardless of any limitations set forth in the purchase contracts.

In broad context, the Eleventh Circuit’s decision is perhaps best understood as its attempt to inject some common sense into the two-year completion exemption. The court was overtly skeptical of the recent surge of rescission actions brought by upset condominium purchasers, each of whom argues in abstract that their sellers were never truly obligated to complete their condominium units on time. In cases such as this one, where the seller does in fact adhere to its two-year completion obligation, and where there is no evidence that it has sought to be excused from performance, those arguments ring especially hollow.

About the Editor

  • Michael D. Rechtin

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