Buyer’s Due Diligence

A Real Estate Lawyer’s PerspectiveRon Morin, AuthorInterim Agreement Realtor’s Role: Lawyer’s Role: Title Search Strata Purchases Site Surveys Searches at the City Planning & Engineering DepartmentsProperty Transfer Tax Building Inspections (This article includes the content of a speech given at Sutton Group West Coast Realty by Ron Morin in the Spring of 2000. It has been updated since then but its currency is not guaranteed.)INTRODUCTION:When I was approached to speak here today my first reaction was, “Wonderful. What a great opportunity to promote my business and possibly provide a few ideas to help realtors do a better job for their clients.”When it was suggested that the topic I speak on would be titled “What Realtors Do Wrong” I had a second reaction and that was, “I wonder if coming into a room of realtors and criticizing them for 30 minutes might not have the desired promotional value I was hoping for?”So, what I would like to discuss is what I have seen Realtors do Right during the 15 years I have acted as a lawyer in closing real estate transactions.(Update at February 2018 it will be 33 years).To many of the more experienced of you what I will say may be nothing new. Hopefully though, I can leave some of you with an idea or two that will help you do a better job for your clients.The Contract of Purchase and SaleInterim Agreement. When I began in this business 15 years ago  what is now called a Contract of Purchase and Sale was called an “Interim Agreement”. The process back then was that realtors would prepare a form of preliminary, incomplete contract. The extent of their due diligence searches was also less than they do today. Lawyers would review the Interim Agreement, assess its deficiencies and then create a final form of contract for the purpose of closing the transaction. By implication realtors could do, in effect a cursory job of preparing the contract and of assisting their clients with researching a property knowing that the lawyers were going to do a final job on these issues before closing.And indeed, when I began in this profession, lawyers did many forms of due diligence searches for their conveyance clients, which are not generally done today and they did in effect rewrite the contract by creating an elaborate 2-3 page set of notes to the Vendors and Purchasers statements of adjustment.Changes Have Been MadeRealtor’s Role:The problem with that system was that there would never be a binding contract that buyers and sellers could rely upon until very near the closing date, thus creating a lot of uncertainty and a number of law suits. During the 80’s and early 90’s this uncertainty was clarified through a number of court cases by making it clear that realtors, not lawyers created the final and binding contract of purchase and sale and the title “Interim Agreement” was replaced with “Contract of Purchase and Sale” on the contract you now normally use.So today we have, in effect, a situation where the responsibility of realtors has grown dramatically in the areas of assisting their clients with due diligence and in creating a final and binding contract of purchase and sale.[Top of Page]Lawyer’s Role:Conversely, the role of lawyers has been diminished because we can only work with the contract you prepare. We have no legal right to change a binding contract just because we think it is incomplete or failed to protect our clients in some way, although we sometimes try. Some lawyers still prepare elaborate “Notes to Vendors Statements of Adjustments” adding in all kinds of representations and warranties they feel should have been in the original contract. Vendor’s lawyers routinely replace those notes with their own, or alter the notes sent to them by deleting all those representations and warrantees. Purchaser’s lawyers can’t argue with those changes because the purchaser’s lawyer had no right to try to change the binding contract in the first place. In fact they do so at the risk of destroying the deal because, in law, such changes can be interpreted as a revocation of the original agreement.Also, the due diligence type searches we do now are very limited for two reasons. The first reason can simply be described as “What is the point?”. There is already a binding contract, if a search I now do (say at City Hall) discloses something a purchaser does not like, 99 times out of 100 the purchaser has no legal option but to close the deal anyway.Secondly, most clients do not want to pay to have lawyers do the kind of extensive searches and give the kinds of comprehensive opinions they used to give. Lawyers would love to have a greater role in this process (and bill accordingly). All the education and experience we have sits largely dormant and untapped because the nature of the business has changed to all but reduce a lawyer’s role to the mere technical routine of closing a sale after the contract of purchase and sale has been entered into. Conversely, the importance and responsibility realtors has grown.Based on this brief history and my own experience, with regard to protecting their clients legally, good realtors put a great deal of time and energy into doing two things well:They do comprehensive research, “due diligence,” before a binding contract of purchase and sale is entered into, andthey write a clear and complete contract of purchase and sale.What I want to talk about today are some of the most important and common due diligence steps I have seen good realtors do. I will have to leave a discussion of writing good contracts for another time. For liability purposes I must state that the following are not all inclusive and are meant as illustrations only and are not to be relied upon.[Top of Page]1. Title SearchVery often I meet with clients to close the purchase of a property and they have no idea that a number of non-financial encumbrances are registered on the title they are buying or what those encumbrances are or how they will affect their use and enjoyment of the property. Good realtors not only do a title search, but they order copies of all the encumbrances and the plans that go with them shown on the title search and they review those documents with their clients before the contract is signed or at least made final and binding. These documents sometimes can be difficult to interpret and should you have serious concerns about them I would encourage you to have your client retain the services of a lawyer at this early stage to advise on this or any other aspect of the potential transaction.Typical Non-Financial Encumbrances Title Searches Disclose:”Rights of Way” Usually to allow sewer pipes under the land, in favour of Cities; traditionally they gave legal right for designated persons to pass over a part of the land: for example, if the title search discloses that BC Hydro has a right to pass a hydro line over part of your property, which is not currently physically present over the land, you might become very concerned.”Easements” Usually to allow the passage of storm water over your land to allow for orderly drainage of water in newer subdivisions, but traditionally they are used to allow a neighbour to use part of the property’s land for a designated purpose;”Restrictive Covenants” Usually in newer subdivisions they are the result of a developer and the City agreeing to regulate the development of the subdivision by dictating to all future buyers the manner and quality of construction of a new homes and to protect the City from legal liability if something goes wrong. These are often associated with “Statutory Building Schemes” which dictate that for a certain period of time any new home built on the land must conform to a strict, and sometimes not so strict set of building guidelines. Occasionally restrictive covenants will include a prohibition against using a property in a way that is so important to you that you would not buy it. Of all non-financial encumbrances these must be reviewed the most carefully because they are the ones that tend to have the biggest impact on your client’s use of the land.The “Plans” that often accompany a right of way document or easement document are essentially diagrams that map out exactly where easements and right of ways exist on the land.Before the contract is made binding most realtors review a title search with their clients. In my opinion, good realtors review with their clients full copies of the non-financial encumbrance documents and the plans that sometimes go with them.[Top of Page]2. Strata PurchasesThe strata council, usually through its management company can provide you with copies of all of the following.Depreciation Report-   This is supposed to be a comprehensive study at a point in time of the physical condition of the entire building and it is supposed to provide projections of work that needs to be done, when the work will likely need to be done, and the potential cost to owners.  A prudent buyer will look at this and compare it with the amount of money in the contingency fund and the amount of monthly maintenance to determine whether the purchase price reflects the risk of future costly repairs as well as ongoing maintenance costs. The statutory requirement for a strata corporation to obtain one of these reports can be opted out of by votes of the members and any such choice to opt out should be looked upon suspiciously by a potential buyer.By-laws - Common restrictions regarding pets, children, under 55’s and rentals have often turned buyers away from certain strata complexes.Minutes - Look for lengthy discussions on such topics as “How will we pay for all this water damage.” Discussions of potential upcoming special assessments can indicate your purchaser may soon be in for a large financial outlay, say, to replace a roof, which they may not like.Obtain a Current Form B - A Form B document is provided by the Strata Council or their Property Manager. It discloses to potential buyers such important information as: how much money is in the “contingency reserve”*, whether there is any current or anticipated litigation involving the strata council, whether there been any recent “special levies”+, or any special levies planned for the future that a new owner will have to pay, and what the monthly maintenance fees are for the unit in question. Make sure this is a current as possible!*“Contingency Reserve” is the money that has been saved by the owners of a strata complex and put into a contingency reserve account. It is a major asset, along with the land and building, that a purchaser is buying. Have the owners been saving? Will your buyer be looking at major financial expenses in the near future because former owners failed to save enough in the past?)+“special levies” are one time charges to all of the owners of a strata complex to cover one or more significant cash outlays. Occasionally, but not frequently, we have seen buyers who did not know they were going to have to pay a special levy after they moved into a building when the decision to charge the special levy was made before they moved in.  It is of the utmost importance that buyers make thorough inquiries about the existence of present and future levies. Sometimes these are known and already in place but sometimes they are only in the discussion stage within a strata council and are much more difficult to confirm.  In the latter case, I suggest a phone call be made to the strata manager to ask whether there is any “talk” of future special levies, that are not yet voted on.  Depreciation Reports (see above) can provide a buyer with information in this respect as well.[Top of Page]3. Site SurveysIn almost every situation, non-strata, a copy of a site survey should be viewed and in your client’s possession before the contract is entered into.A survey will show, most importantly, that the foundation of the residence is wholly on the land being purchased or that a neighbour’s home is not partially on the land. It will also indicate whether the City’s foundation setback requirements have been adhered to.Far too often a mad rush occurs just prior to closing a conveyance when lawyer discovers that a bank, whose mortgage instructions often don’t get delivered until a day or two before closing, requires a survey, or a lawyer recommends to his or her clients that they obtain one, and the topic has not fully been addressed earlier by the client and their realtor. In my experience this is very often a cause of some anxiety to a purchase when this happens at the last minute before closing.Existing site surveys can be obtained from Vendors and from Cities for free if they have one. If a new one is needed most surveyors want at least 3 or 4 days to prepare a new one at a current cost of about $270.00.I’ll give you an example of how failing to obtain a survey can lead to problems way down the road. We acted for clients who purchased a residence about 6 years ago. They got a mortgage with a credit union which did not require them to obtain a survey and despite our advice that they obtain one, they chose not to in order to save the money. Last summer they sold the property and the transaction nearly collapsed two days before closing because their purchaser had a survey done which disclosed that the carport was encroaching 18 inches on to the neighbour’s lot. Our clients, who were relying on the sale proceeds to purchase another home, then had a number of sleepless nights while the purchasers threatened not to complete. The transaction did close with our clients agreeing to pay about $5,000.00 toward the cost of an easement over the neighbours land.[Top of Page]4. Searches at the City Planning & Engineering Departments First and foremost at the Planning Department find our if there is a “final building approval” on file. This is of particular importance in new home construction. The final building approval is the city’s stamp of approval that the building has been completed properly and completely. If one does not exist you should find out why and what still needs to be inspected and approved. Without a final building approval your client may be buying an unfinished home and the city could force your client to complete the construction, or worse still, to make major and costly alterations to the construction to meet the City’s building and zoning by-law requirements.Secondly at the Planning Department find out if a “Work Order” is outstanding. A Work Order means that the City is requiring the owner to make alterations, failing which the City will do it and add the cost to the owner’s property tax bill. We acted for purchasers who, fortunately, through the diligence of their realtor, discovered that the City of Surrey had an outstanding work order to force the seller to reconvert his garage back to a carport. If the purchasers had bought that home without the work order first being adhered to they would have been stuck with the cost of changing a garage into a carport.Thirdly, ask a Planner what the zoning and official community plan is for the property and surrounding properties and what they think the future holds in store for the area. It is of utmost importance that the current use of the property complies with its zoning but a more likely problem is that future plans for the area might cause a buyer not to buy their. Some examples that come to mind: people who purchase in a single family residential area are often disappointed to find our that higher density construction is going to take place, or that commercial development is contemplated, or that the construction of a halfway house or jail is planned for their neighbourhood.At the Engineering Department you can find out their understanding of the existence and location of road allowances, water and sewer lines, easements and rights of ways.[Top of Page]5. Property Transfer Tax (PTT)Almost always, realtors discuss the topic of Property Transfer Tax with their Purchasers. Once every six months or so, if a buyer does not have a realtor, of even despite the fact that the purchaser had a realtor, I am the first person to advise a purchaser they must pay Property Transfer Tax. When a purchaser discovers from me, sometime very near the closing date, that they must pay thousands of dollars  more to complete the purchase, they are not happy, especially if the money is tight. Good realtors will go over this issue thoroughly with their clients before the contract is signed. As a matter of practice, a reference to the buyer being aware of the tax is now included as a standard added clause by most realtors.As you know, as a presumption, the province will levy a tax of 1% of the first $200,000.00 of the purchase price, 2% on the balance of the price to $2,000,000.00 and 3% on the price after two million, whenever the ownership of a property changes.In February 2016 a new home buyer’s Property Transfer Tax exemption came into effect for purchasers of a newly built home, condo or town house valued under $750,000 as long as the purchaser is a Canadian Resident and be a Citizen of Canada or Landed Immigrant who will live in the home for at least a year. The purchaser has 92 days to move into the house from the date of purchase in order to qualify for this exemption.  There may be a partial exemption for prices between $750,000 and $800,000 and there are other qualifications that must be met. But these are the big ones.Some “First Time Home Buyers” are exempt from paying this tax. The basic rules to qualify for a PTT exemption are these:The property must not be valued over $500,000 for a full exemption. Between $500,000 and $525,000, there is a graduated tax payable. Below $500,000 there is no tax payable, assuming all other qualifications are met (see below).To be a “first time buyer”:(1) The purchaser must be purchasing the property as a primary residence.(2) The purchaser can not have owned a residence in which he/she has resided, ever, anywhere in the world.(3) The purchaser must be a Canadian Citizen or Permanent Resident of Canada. (Please note: If this status is obtained within a year after buying, the tax must be paid but can be refunded if applied for within 18 months of the registration date.)(4) The purchaser must have continuously resided in British Columbia for at least one year prior to the registration date or have filed income tax returns as a BC resident for two of the past six taxation years immediately prior to the registration date.(5) The purchaser must live in the residence for at least a year and must not sell the property within the first year or the government will want the tax paid.There are more qualifications but the ones noted above are the most common. These are general guidelines. Don’t rely on them as they are always changing. If you have questions regarding whether or how much property transfer tax your client must pay, a good place to obtain an opinion is to phone the Property Transfer Tax office in Victoria. You can call them toll free by calling the Vancouver Government Agent and asking to be put through to the Property Transfer Tax Department. You can also call the lawyer who will be handling the transaction.For all title transfers taking place on or after August 2, 2016 any buyer who is not a Canadian Citizen or permanent resident of Canada (someone without a Canadian Social Insurance number) must pay an additional 15% Property Transfer Tax for purchases or gifts of property in the Greater Vancouver Regional District (GVRD).  The tax does not apply outside the GVRD.The Greater Vancouver Regional District includes Anmore, Belcarra, Bowen Island, Burnaby, Coquitlam, Delta, Langley City and Township, Lion’s Bay, Maple Ridge, New Westminster, North Vancouver City and District, Pitt Meadows, Port Coquitlam, Port Moody, Richmond, Surrey, Vancouver, West Vancouver, White Rock and Electoral Area A.  The additional tax does not apply to properties located on Tsawwassen First Nation lands.The additional tax applies on all applicable transfers registered with the Land Title Office on or after August 2, 2016, regardless of when the contract of purchase and sale was entered into.[Top of Page]6. Building InspectionsAs a presumption, except in new home purchases, a buyer takes the home “as is” unless a misrepresentation has been made by a seller or their agent, or possibly a buyer’s agent. In the past, realtors and lawyers found themselves being sued over these issues. As a result, increasing reliance has been put on Disclosure Statements and the recommendation that purchasers obtain the written opinion of a building inspector in order to better protect buyers and to relieve realtors and lawyers from being caught up in this issue.Most of all legal problems I have seen in home buying are the result of a construction problem, usually discovered by the buyer after they move in. Problems with water damage in condominiums, poor perimeter drainage, damaged foundations, plugged septic systems, faulty electrical systems, leaking roofs, leaking gas lines, poor insulation and many others all have a greater chance of being avoided if buyers have the construction inspected by a building inspector before they enter a binding contract.However, I am very concerned that buyers overly rely on building inspectors. I can not stress enough that having a building inspection done provides a buyer only with an added level of comfort that they will not have construction problems with the home they are purchasing but the inspection should not be heavily relied upon.It would be nice to think that if a buyer pays money for a building inspector and the buyer should subsequently have a construction problem that existed at the time of the purchase and the buyer did not know about, that legal recourse against the inspector or his or her insurer was available. The fact is that inspectors do not promise that their inspections will protect a buyer from all problems. Unfortunately typical inspections to not promise much at all.A typical building inspection contract has limitations on the scope of work (“We are inspecting these things only and not these other things”. Sometimes the very things that you want to know are working well (an appliance for example) is outside of a particular inspectors scope of work).Also, contractual limitations of liability clauses are common. Take the following one for example:”Inspector and it employees are limited in liability to the fee paid for the inspection services in the event that Client or any third party claims that Inspector is in any way liable for negligently performing the inspection or in preparing the Inspection Report, or for any other reason or claim that Inspector has not fully satisfied all its obligations hereunder.” Great, the chimney falls off a month after you buy the house and the inspector says he is only responsible to refund the fee you paid him/her. This was an actual case in our office.If you are dealing with an inspector who works through a limited liability company and you subsequently wish to seek recourse against that company the company can dissolve overnight and the buyer may have no one to sue.Finally, if you are purchasing a Condominium and are concerned about serious long term expenses, for example a possible leaky condo problem, the best form of protection is to see a current Depreciation   Report done by an engineer.  In the event that a possible serious water problem is expected a further report called a “Building Envelope” report, done by an engineer, may exist as well. A standard $300.00-$400.00 building inspection that a typical potential buyer obtains will not provide any advice or any protection against existing or potential building problems.I am still of the view that it is worth having an inspection done in most cases of purchasing used residential homes because a buyer is given a much better idea of what they are buying and of potential problems and costs they might be incurring. But don’t start thinking, “Good, now I have nothing to worry about”, because if you run into unforeseen construction problems after you buy you will have a very hard time seeking recourse from a building inspector. Consider, in addition to getting an inspection, obtaining written warrantees from a seller (although these can often have little use if you are dealing with a disreputable or insolvent seller), or having a friend who has a lot of building experience have a look at the property and give you their unofficial thoughts. Consider some of the intangibles such as whether the sellers are reputable people, whether the home constructed as a custom house (built for a specific buyer who will normally be very conscientious about construction quality) or was it a house built with the hope of selling to anyone in the future (a “spec house”) in which case cost savings by cutting corners on quality could well have been a big influence in the construction of your future home.Generally some other things I have seen realtors do well are:When acting for sellers they try to avoid making a contract with a Completion Date on a Friday. Because purchaser’s lawyers don’t legally have to make closing funds available for the seller’s lawyer’s courier to pick up until the end of the day, the result, on Friday closings is often that seller’s lawyers don’t actually receive the closing funds until the following Monday (or Tuesday if a long weekend) and sellers are deprived of their funds and unnecessarily pay interest on their mortgage(s) for two or three more days.They try to avoid setting up the same Completion Date for the sale of their client’s home and the client’s subsequent purchase. Because purchaser’s lawyers can not register documents for a property purchase at the land title office until the sale proceeds from the first sale are actually in the lawyer’s trust account, and because those proceeds may not be made available until after the land title office closes, it may be impossible to complete the subsequent purchase on that same day, thereby exposing the client to being in breach of contract and losing the new home should the seller be looking for a way to avoid the sale (a desire, that in practice is very rare but becomes more likely if a major price escalation is happening in the market).They advise non-resident sellers to obtain a Certificate of Tax Compliance from the Canada Revenue Agency far in advance of the sale date.   Failure to do this will result in a 25% withholding tax and in some cases can actually prevent a seller from completing should there not be 25% equity remaining in the property after mortgages, commissions and closing costs are paid out.They try to arrange the possession date for a sale to be a day or two after the date on which their client takes possession of their new residence to give them time to move comfortably.They advise their client to finalize their mortgage arrangements and retain a lawyer well in advance of the closing date to avoid additional costs and the increased chance of errors that happen when things are left to the last minute.[Top of Page]