More on Private Transfer Fees…The Debate Continues.

Another week and more debate on the issue of Private Transfer Fee Covenants. On Friday, March 5, 2010, Ken Harney wrote an interesting article in the Washington Post discussing Private Transfer Fee Covenants. In A new real estate cost to watch for: Developer's private transfer fee Ken Harney described what a Private Transfer Fee Covenant is and talked about Freehold Capital Partner’s involvement in trying to create a securitized market for these things. From my reading of the article, it appears that Mr. Harney is trying to approach this issue from an unbiased perspective. However, apparently Freehold Capital Partners did not agree.

On Tuesday of this week, Freehold Capital Partner’s sent out an e-mail to an unknown list asking people to post comments in favor of Private Transfer Fee Covenants on the message board for Mr. Harney’s article as well as on any blogs that discuss Private Transfer Fee Covenants. Specifically, the e-mail asks people to post comments on “AS MANY ARTICLES AS YOU CAN.” The e-mail then goes on to list “some themes” for posters to consider. Oddly enough, a couple of those themes were included in the comments that “Bob” posted on my last blog post.

It makes me happy to see that my blog has reached this status where a reader has gotten an e-mail from a company such as Freehold Capital and has in turn posted comments on one of my blog entries. Thanks for your time, Bob! Since you were gracious enough to comment, I would like to respond to each of your comments.

Bob’s Point 1---It makes sense to spread the cost of the development across multiple generations of homeowners rather than put it on the first homeowner.

My response: The market inherently already does this. Basic economics would show that this development cost is placed on the first homeowner when he or she buys her house. When that homeowner decides they are going to sell that house, they are going to strongly consider what they originally paid for the house when they decide what price they will accept to sell the house. If anything, it hurts the homeowner to have this fee tacked on because any purchaser of the house will have to pay the purchase price plus this fee. Furthermore, the seller is not getting the benefit of the fee since that benefit is going to the developer. I am sure this argument could be spelled out much more eloquently, but keep in mind; this is a blog, not a book.

Bob’s Point 2---Realtors are worried that a 1% fee will cut into their 6% fee.

My response: I don’t think it is realistic to expect that a Transfer Fee Covenant is going to have much, if any, effect on the commission paid to real estate brokers (I thought I would be politically correct since all real estate brokers are not realtors). I recognize that commissions are negotiable, but I do not think these new concept fees are going to have an effect on long established commission rates.

Bob’s Point 3---Title insurance companies are worried that their fees will be exposed as super inflated.

My response: Well, that certainly is an interesting article. We have title insurance in North Carolina. I have done title insurance claims work in North Carolina. I own title insurance on my house. From my experience, I can’t say that title insurance is “super inflated.” I have seen title insurance save many a homebuyer and lender from mistakes committed by attorneys that could have resulted in disaster for those homebuyers or lenders. I don’t think the premiums charged for this protection is exhorbitant. You certainly are entitled to your opinion, but I completely disagree with it on this point.

Again, Bob, I thank you for commenting and I encourage further comment about this because I think this really is an interesting new development in real estate law. I think that a developer who imposes one of these covenants is going to face backlash from potential buyers, which backlash will impede the development more than the funds created by one of these things will help the development. I also think that serious questions exist as to whether these covenants would be enforceable under North Carolina law. That being said, even if the covenants are enforceable, I think there may be ways for homeowners in developments that are subject to these covenants to either “get around” the covenants or at least “terminate” the covenants.

No Reformation….But Where’s The Constructive Trust…

The Court of Appeals took another look at reformation law and handed down a harsh decision that was sure to make Fifth Third Mortgage Company very unhappy in its decision in Fifth Third Mortgage Company v. Alan Miller, et al. In reiterating a long held standard in North Carolina in its decision in Fifth Third, the Court of Appeals ruled that an instrument will not be reformed when such reformation would impair the lien of a third party who is an innocent bona fide purchaser.

The facts of Fifth Third are as follows. Alan Miller executed and delivered a promissory note to Fifth Third on March 20, 2007. Simultaneously therewith, Mr. Miller also executed a deed of trust that was for the benefit of Fifth Third and that was supposed to secure the Fifth Third Note with property located at 9911 Strike the Gold Lane, Waxhaw, North Carolina. Unfortunately for Fifth Third, the drafter of the Deed of Trust did not name a trustee and did not properly describe the property. Despite these errors, the Fifth Third Deed of Trust was recorded on March 21, 2007.

On June 11, 2007, Mr. and Mrs. Miller entered into an equity line agreement and Deed of Trust with BB&T. The BB&T Deed of Trsut secured the equity line agreement with the Strike the Gold Lane Property. The BB&T Deed of Trust was recorded on June 25, 2007.

Mr. and Mrs. Miller defaulted on the Fifth Third Note and the BB&T Equity Line Agreement. After BB&T commenced foreclosure proceedings of the BB&T Deed of Trust, Fifth Third filed an action seeking the following relief: (i) reformation of the Fifth Third of Deed of trust, (ii) declaratory judgment, (iii) quiet title, (iv) judicial sale, and (v) monetary judgment. Noticeably missing from the relief sought in the Fifth Third Complaint is a claim for constructive trust.

As part of its appeal, Fifth Third tried to argue that reformation was proper because BB&T was not a bona fide purchaser. In support of this argument, Fifth Third cited affidavits and discovery responses that apparently show that BB&T had knowledge of the Fifth Third Deed of Trust at the time the BB&T Equity Line Agreement was executed. Fifth Third also cited the fact that the correct street address for the Strike the Gold Lane Property was included on the Fifth Third Deed of Trust.

The Court of Appeals did not bite on Fifth Thirds argument. Instead, the Court of Appeals ruled that “[a] deed of trust containing a defective description of the subject property is a defective deed of trust and provides no notice, actual or constructive, under our recordation statutes.” In doing so, the Court of Appeals made clear that reformation will not hinder the rights of a bona fide purchaser (or bona fide lienholder) if that purchaser does not have record notice as provided by the North Carolina Recordation statutes. In essence, the Court of Appeals ruled that actual knowledge means nothing in a reformation action that is predicated on the recordation statutes.

This case is a harsh outcome for Fifth Third, or more likely their title insurer. However, it is possible the outcome could have been avoided. In Arnette v. Morgan, 88 N.C. App. 458, 363 S.E.2d 678 (1988), the North Carolina Court of Appeals recognized that constructive trusts do not fall within the recording statutes. The import of this rule is that the strict outcomes necessitated by the recordation statutes can be avoided.

Consequently a grantor of land who retains land that he or she had intended to convey but for a mistake will hold the land in a constructive trust for the intended grantee when consideration is exchanged for the conveyance. When the constructive trust is present, the grantee of the ineffective instrument is entitled to reformation, even if there is a third party lienholder, unless the third party lienholder can show that (i) they did not have notice of the conveyance that went wrong and (ii) they in good faith advanced new consideration or incurred some new liability on the faith of the apparent ownership of the grantor.

If constructive trust were raised in this case, it is unlikely that BB&T would have been able to stave off the reformation. The evidence of actual notice that Fifth Third advanced in its reformation argument would likely have been enough to provide the notice required under constructive trust. Hind sight is always 20-20, but I think the Fifth Third case would have come out differently if the constructive trust claim would have been brought.

This case proves instructive for anyone bringing a reformation action in North Carolina. Don't forget about constructive trust!

Private Transfer Fees...A Distressing New Trend In Real Estate

More and more I am hearing about the possibilty of placing private transfer fees on the transfer of real estate through the imposition of private transfer fee covenants. In an article that hit the PR Newswire today,Private Transfer Fee Covenants Give Buyers a Choice About How To Pay for Rising Infrastructure Costs , the writer makes an argument that Private Transfer Fee Covenants provide a good way for infrastructure costs to be spread over the life of the development rather than being carried only by the first time buyers in the development. I would note that the source of this article is Freehold Capital Partners. Freehold Capital Partners has attempted to patent the idea of Private Transfer Fee Covenants in the past.

I'd recommend anyone interested in this issue to take a look at two blog entries from the Source of Title Blog. One entry is entitled Banning Transfer Fee Covenants in Ohio. The other entry is entitled Freehold Licensing, NKA Freehold Capital Partners, At It Again. I'd also direct people to a white paper issued by the American Land Title Association that discusses the negative consequences of Private Transfer Fees Covenants. In this white paper, the American Land Title Association points out that these negative consequences include the fact that (i) private transfer fee covenants steal equity from consumers, (ii) private transfer fee covneants cost consumers money, (iii) private transfer fee covenants depress home prices, (iv) private transfer fee covenants have no positive effect on consumers property tax liability, (v) private transfer fee covenants increase procyclicality of real estate markets, and (vi) private transfer fee covenants reduce transpacrency and exploit the complexity of real estate transactions.

I understand the America Land Title Association has issued proposed legislation that prohibits transfer fees. I am not aware of any such legislation that has reached our legislature in North Carolina. However, I do understand that this topic is on an upcoming agenda North Carolina Bar Association's Real Property Council so a movement may be under way soon.

Even if legislation banning Private Transfer Fee Covenants is not enacted, legal arguments will still exist that Private Transfer Fee Covenants are invalid and unenforceable. Also, there are other possible ways for landowners subject to these covenants to try to attack them. After seeing the article supporting Private Transfer Fee Covenants hit the wire today, I felt obliged to post as soon as possible that it would be wise to take a look at this thing from all angles rather than just believing what is in that article verbatim. In the near future, I will post further on what effect this push for Private Transfer Fee Covenants may have on real estate and real estate litigation in North Carolina.

Supreme Court Rules That the Court Gets To Play Connect the Dots, Not the Jury

In Pardue v. Brinegar, an opinion filed on January 29, 2010, the North Carolina Supreme Court overturned the North Carolina Court of Appeals in regard to whether a judge or a jury gets the final decision on what a boundary line should look like when the parties can only agree to the markers that are located on the boundary line. In doing so, the Supreme Court accepted the logic of Judge Steelman dissent. See Pardue v. Brinegar, ____ N.C. App. ____, 681 S.E.2d 435 (2009).

In Pardue, Pardue commenced a quiet title action against her neighbors, the Brinegars, to determine the true boundary between the two parties’ respective properties. In reality, the parties were fighting over who owned 0.79 acres.

The deeds in the Pardue chain described the boundary with Brinegar as follows:

BEGINNING on a white oak in the old S.P. Smith line and runs up the branch, South 11 ½
degrees West 32 poles to a maple, at the forks of said branch; then South 62 degrees East
up the east prong of said branch 56 poles to a post oak on the east side of the public road.

The deeds in the Brinegar chain described the boundary with Pardue as follows:

[From two white oaks in the S.P. Smith line on the west bank of a branch] then South 20
deg. West up said branch 32 poles to a maple at the fork of the branch; thence South 60
deg. East up the left prong 56 poles to a white oak (now down) on the South side of the
public road.

The parties agreed that the boundary line was marked by (i) the white oak in the S.P. Smith line, (ii) the maple at the forks of the branch, and (iii) the oak on the public road. The parties disagreed about whether “up the branch” meant that the boundary between the markers was following the meandering path of a stream or whether it meant in straight lines from each marker.

The boundary dispute made it to a trial. At the close of evidence, Pardue moved for a directed verdict on the theory that “up the branch” meant that the boundary between the markers was following the meandering path of the stream. The Court denied the directed verdict motion and submitted the issue to the jury. The jury determined that the boundary was made up of straight line segments between the three markers.

In his dissent that was accepted by the Supreme Court, Judge Steelman noted the accepted law that a deed is to be construed by the court and not the jury. Thus, Judge Steelman reasoned that when the language of a deed is clear and unequivocal, the deed must be given effect according to its terms, and a court could not speculate that the grantor intended otherwise.

Applying this law, Judge Steelman noted that the Pardue deeds and the Brinegar deeds each stated that the boundary runs “up the branch.” Judge Steelman also noted that neither the Pardue deeds nor the Brinegar deeds referenced straight lines between the markers. In North Carolina, “up the river” is established to mean the same thing as “along the river” unless there is something else besides course and distance to control it. Therefore, Judge Steelman found that the express language in the deeds showed that the grantors intended for the boundary line to run along the branch.

Judge Steelman’s pointed out that the cases cited by the majority recognized that the call for a permanent natural monument controls the boundary rather than any distance contained in the deed. Applying this law, the fact that the branch was a natural monument controls over the fact that the distances included in the deed lend more to an interpretation that the boundary was in straight line segments.

There are two key points to take away from the Supreme Court’s decision to accept Judge Steelman’s theory.

1. In determining boundaries, “Up the river” means the same thing as “along the river” unless there is something else besides course and distance to control it.

2. A reference to a permanent natural monument control a boundary over any distances contained in a description.

SEAL. It Does Mean Something. But It Better Be On The Signature Line, Not On The Notary Line

The North Carolina Court of Appeals took on the question of the meaning of the term “Seal” in Burton v. Williams, issued on January 19, 2010. The Court of Appeals reiterated the long standing rule in North Carolina that the presence of the term “Seal” on a instrument raises a presumption that the instrument is supported by consideration. However, the Court of Appeals clarified that the “Seal” must be appear next to the signatures of the parties to the instrument, not with the notary’s official stamp.

In Burton v. Williams, Mr. Williams purchased a house from Mr. Burton. Mr. Burton provided seller financing for $160,000 of the $185,000 purchase price to Mr. Williams. As part of the seller financing, Mr. Williams executed a promissory note and deed of trust in favor of Mr. Burton. A couple of years later, Mr. Williams approached the elderly Mr. Burton and asked that Mr. Burton sign a “payment release agreement” whereby the note would become null and void and Mr. Burton would be released “of any and all remaining financial obligations” to Mr. Williams in the event Mr. Burton died prior to Mr. Williams completely repaying the note. The word “Seal” was not present beside the signature lines on the payment release agreement. The word “Seal” was present in the notary acknowledgement on the “payment release agreement.”

The Estate of Mr. Burton brought this action to have the “payment release agreement” ruled void for lack of consideration. The Trial Court granted the Estate’s Motion for Directed Verdict. Mr. Williams appealed the ruling.

The Court of Appeals upheld the trial court’s directed verdict. In doing so, the Court of Appeals reasoned that a trial court can direct a verdict in favor of a party that has the burden of proof in a matter when one of following three “recurrent situations” are established: (i) the non-movant establishes the proponent’s case by admitting the truth of the basic facts upon which the claim of the proponent rests, (ii) the controlling evidence is documentary and the non-movant does not deny the authenticity or correctness of the documents, or (iii) there are only latent doubts as to the credibility of oral testimony and the opposing party has failed to point to specific areas of impeachment and contradictions. The Court of Appeals agreed that this case presented the second recurrent situation because the parties had stipulated to the evidence to be presented at the trial and thus “everyone has conceded that [the release] is the document that is the basis of the agreement and as a matter of law, it is not a valid contract, there being absolutely no consideration specified.”

In this case, the Court of Appeals recognized that the payment release agreement failed to recite any consideration for the new agreement to release Mr. Williams from having to continue to make payments on the note in the event Mr. Burton died prior the note being paid in full. In particular, the Court of Appeals noted that the payment release agreement stated that it reflected the entire understanding of the parties and thus consideration could not be present outside of the terms of the agreement.

Mr. Williams tried to argue that consideration was proven because the word “Seal” was located in the notary acknowledgment. The Court of Appeals refused to bite on this argument. Instead, the Court of Appeals noted that the word “Seal” was not present next to the signature lines and thus the document was not executed under seal.

Importantly, the Court of Appeals reasoned “[D]efendant cites no authority, and we have found none, suggesting that a notary public’s acknowledgement is equivalent to a party’s execution of an instrument under seal.” Rather, the Court of Appeals found that the notarial seal’s purpose “is to authenticate the document to which it is duly affixed and to provide prima facie evidence of the notary’s official character.”

Brokers, Take Good Notes On Your Conversations With Your Clients. Those Conversations Could Be Grounds for a Contract.

According to the Court of Appeals in Scheerer v. Fisher, an opinion released on January 19, 2010, the North Carolina Real Estate Commission rules have no bearing on whether an oral agreement to compensate a real estate broker for services provided is enforceable. In essence, the effect of this decision is that a broker can bring an action to recover compensation for his brokerage services even if the agreement to provide such services was not in writing.

A look at the facts of the Scheerer case shows the import of this rule. In Scheerer, David Scheerer, a broker, informed Jack Fisher, a developer, that two developments, Highland Forest and Indian Ridge Preserve, were for sale. Scheerer had done work for Fisher in the past and apparently thought Fisher would be interested in these two developments. Scheerer was right about that fact and Fisher ended up instructing Scheerer to investigate the cost of developing the two developments and to negotiate terms with the owners of the two developments. On March 20, 2007, Fisher, as a member-manager of an entity named Renaissance Ventures, LLC, executed purchase contracts to buy the two developments. The purchase contracts included a provision that stated the seller of the developments would pay Fisher a two percent (2%) commission. Fisher and Renaissance Ventures orally agreed that Scheerer would be paid another two (2%) percent commission because of his role as the buyer’s procuring agent.

In April 2007, Fisher and Renaissance Ventures unilaterally rescinded the purchase contracts. After the rescission, Fisher negotiated an agreement with Anthony Antonio whereby Antonio would enter into contracts to purchase the developments for a much lower price than Fisher had negotiated and then would assign the contracts to Fisher. Fisher did not inform Scheerer about this arrangement. However, Fisher maintained communications with Scheerer about what Fisher may offer for the developments in the future.

In October 2007, Highland Forest Partners, LLC, a new holding company formed by Fisher, purchased the developments. Fisher did not pay Scheerer or his company a commission for their role in procuring the properties for Fisher.

Scheerer, and his company, Mountain Life Realty, LLC, filed an action against Fisher and Renaissance Ventures for breach of an express contract to pay Scheerer a commission. The trial court granted Fisher and Renaissance Ventures motions to dismiss for failure to state a claim upon which relief could be granted. In this opinion, the Court of Appeals reversed the trial court.

Fisher and Renaissance Ventures based their refusal to pay Scheerer a commission on Rule A .0104(a) of the North Carolina Real Estate Commission Rules. This Rule provides that:

Every agreement for brokerage services in a real estate transaction…shall be in writing and signed by the parties thereto….Every agreement for brokerage services between a broker and a buyer or tenant shall be express and shall be reduced to writing and signed by the parties thereto not later than the time one of the parties makes an offer to purchase…real estate to another…A broker shall not continue to represent a buyer or tenant without a written, signed agreement when such agreement is required by this Rule.

Based on this Rule alone, it is clear that the North Carolina Real Estate Commission takes the position that an agreement to compensate a broker needs to be in writing.

However, the Court of Appeals took a different view on the matter and reversed the trial court in Scheerer. In doing so, the Court of Appeals adopted the reasoning of the Western District of North Carolina in McAlister v Hunter, 634 F.Supp.2d 577 (W.D.N.C. 2009). The Court of Appeals agreed with the McAlister Court and found that a violation of the Rule A. 0104(a) of the North Carolina Real Estate Commission Rules opens a broker to discipline, but has no bearing whether or not an enforceable agreement exists. The Court of Appeals noted that the Real Estate Commission Rules do not state that (i)“no action shall be brought” on an oral contract, (ii) that oral contracts are “void,” “invalid,” or “not valid,” or (iii) that no oral brokerage contract “shall be valid.” As a result, the Court of Appeals recited the fact that oral contracts to compensate real estate brokers for their professional services have never been required to be in writing under the Statute of Frauds in North Carolina and thus need not be in writing to be enforceable.

The Scheerer opinion could serve as a saving grace to preserve a disputed commission for any real estate broker who begins doing work for a prospective client without first securing a written engagement agreement. However, in light of this opinion, it would be wise to expect that the North Carolina Real Estate Commission is going to be strict in enforcing its Rule that is contrary to the conclusion in Scheerer. One would expect that the Real Estate Commission will not think twice about handing down disciplinary action for failure to obtain a written engagement agreement. Thus, in order to be safe and to avoid this potential disciplinary action by the North Carolina Real Estate Commission, brokers would be wise to always get a written engagement agreement for every client as soon as possible.

If It Smells, You Better Investigate

The North Carolina Court of Appeals added further strength to the doctrine of Caveat Emptor on April 7, 2009 when it handed down its opinion in Sunset Beach Development, LLC v. AMEC, Inc., et al., ____ N.C. App. ____, ____675 S.E.2d 46, 52 (2009)".The key point for real estate professionals to learn from this case is that if something seems amiss, you better investigate.

In Sunset Beach, the developer plaintiff entered into a contract to purchase a 453 acre coastal tract from an entity named GGSH Associates. The contract was contingent on GGSH providing the developer with a wetlands delineation approved by the Army Corp of Engineers which did not vary more than three acres over or under twenty-five acres. If the variation in the wetlands delineation varied by more than three acres, the parties were required to renegotiate the price.

After the contract was executed, GGSH hired a consultant to prepare the wetlands delineation. At the same time, the developer hired the same consultant to perform a wetlands delineation on three other adjoining tracts that the developer had also purchased or was going to purchase and to produce a composite map of all four tracts. It is important to point out that during this time GGSH provided the developer with a key to the tract of property that allowed the developer with “unfettered access” to the tract.

At some point before closing, GGSH entered into an undisclosed agreement with the consultant whereby it agreed to pay the consultant $90,000 as long as the sale occurred for the original purchase price. GGSH’s consultant forged the name of a prior employee of the Army Corp of Engineers on the maps he prepared.

Upon their review of the composite map, the developer’s engineers and members raised concerns regarding the wetlands delineation. Specifically, the engineer was concerned (i) that “the wetland[s] information received was not sufficient for design due to the lack of information concerning wetland size, type, and directional/distance ties to an established boundary,” (ii) that the only date on the map was January 9, 1989, (iii) that the Army Corps had not issued a separate letter of wetlands certification, (iv) that the composite map was signed by an individual who did not work for the Army Corps at the time the composite map was prepared, and (v) that the composite map had no legend for the delineations even though a legend was required by the Army Corps. At no time did the developer contact the Army Corps to inquire about the authenticity or accuracy of the Composite Map.

After closing, the Army Corps sent a letter stating it had never received verified wetlands delineation from the consultant and requiring that work on the tract had to stop.

The Court of Appeals in Sunset Beach Development held that the developer did not reasonably rely on any misrepresentations made by the GGSH because (i) the developer had an opportunity to inspect the tract and (ii) the GGSH had not resorted to any artifice which was reasonably calculated to induce the purchaser to forego investigation action. Specifically, the Court of Appeals noted the developer had been given unfettered access to the tract so they had ample opportunity to inspect the tract. Further, the Court of Appeals noted that the following actions did not constitute an “artifice to induce” the developer into foregoing further investigation into the wetlands delineations: (1) GGSH making statements to the developer that the tract contained approximately twenty-five acres of jurisdictional wetlands, (2) GGSH’s representations in the contract that there were no known violations of environmental laws on the tract, and (3) GGSH entering into an undisclosed agreement with the consultant for a conditional payment of $90,000.00.

In its decision, the Court of Appeals focused on the fact that the developer never took any real steps to investigate whether the composite map was accurate. In essence, the Court of Appeals recognized that the composite map was so flawed that the developer could not have reasonably relied on it. This fact coupled with the fact that the Court of Appeals noted that both parties were sophisticated parties who had experience dealing with coastal real estate emphasized that the fact that the Court of Appeals is of the opinion that sophisticated parties know that they better conduct their own due diligence rather than rely on assertions from the adverse party.