“As-Is” Clauses in Real Estate Contracts: Impenetrable Shield or Paper Tiger?
You own some property that, shall we say, has some warts. You want to sell it before those warts require costly treatment. But how do minimize the risk of a buyer holding you liable for the treatment? One tactic is to draft an “as-is clause” into your sales contract. Generally speaking, an as-is clause seeks to shift risk regarding the property’s condition to the buyer, i.e., the buyer agrees to accept the property “as-is,” which includes those warts you are concerned about. Sounds simple enough, right? Not so fast. Two recent Texas opinions demonstrate that as-is clauses can be the shield a buyer wants it to be, but it can also be nothing but a paper tiger. In this post, I’ll briefly summarize the two recent opinions and then provide tips and suggestions for buyers and sellers of real estate to consider in relation to as-is clauses.
In Gramen Farm, LLC v. Ngyuen, the Houston Court of Appeals reversed a jury verdict because an as-is clause shielded the landlord from property condition liability. No. 01-13-00569-CV, 2014 Tex. App. LEXIS 10009 (Tex. App.—Houston [1st Dist.) Sept. 4, 2014, n. pet.) (opinion available here). In the lease, the landlord represented that she was “not aware of any material defect on the Property . . . or any environmental hazard on or affecting the Property that would affect the health or safety of an ordinary person, except: electrical, drainage or septic system for buildings.” (Emphasis added) Additionally, the tenant accepted the property “in its present (as-is) condition unless expressly noted otherwise in [the] lease.”
On appeal from a jury verdict in the tenant’s favor, the court of appeals acknowledged two situations which will preclude the enforcement of an as-is clause: (1) where the as-is clause was induced through a fraudulent representation or concealment of information by the lessor—known as fraudulent inducement; and (2) where the property owner impaired the lessee’s property inspection. Because the jury found that the landlord had not intentionally made a false representation of fact concerning the septic tank, had disclosed that it was defective, and had not impaired the tenant’s ability to inspect the property, the court found that neither exception applied. The as-is clause was therefore a complete bar to the tenant’s breach of lease claim.
A week before the Gramen Farm decision, the Eastland Court of Appeals held that an as-is clause was unenforceable in Domel v. Birdwell, No. 11-12-00200-CV, 2014 Tex. App. LEXIS 9767 (Tex. App.—Eastland Aug. 29, 2014, no pet.) (opinion available here). In that case, the plaintiffs had purchased a 120-acre ranch near Marble Falls, Texas. The plaintiffs subsequently sued the sellers for negligent misrepresentation based on the sellers’ failure to disclose accurate information about the condition of the roofs of various buildings on the ranch.
When the sellers first marketed the ranch in 2008, they provided a completed Seller’s Disclosure Notice to their broker, which stated that they had no knowledge of prior flooding, had not received insurance proceeds relating to any property condition, and there had been no prior roof damage. After providing the notice to his broker, however, a hailstorm damaged several metal roofs on the property. The sellers received an insurance settlement for the damage but failed to repair the roofs. Despite the change in circumstances that caused the original disclosure notice to be inaccurate, the sellers provided the plaintiffs with the original notice and did not otherwise disclose the events that occurred after the date of the notice. At trial, the jury returned a verdict in the plaintiffs’ favor and awarded damages for repair costs and other expenses.
The sellers appealed, arguing that an as-is clause in the sales contract shielded them from liability. The court rejected this argument and affirmed judgment against the sellers, despite the presence of the as-is clause. In doing so, the court cited the seminal case on the enforceability of as-is clauses (Prudential Ins. Co. v. Jefferson Assocs., 896 S.W.2d 156 (Tex. 1995)), for the proposition that as-is clauses will not be enforced “where the seller has actual knowledge of information material to the transaction and withholds that information from the buyer.”
Although the Domel court cited Prudential for the proposition that withholding known information is sufficient to avoid enforcement of an as-is clause, this is not an express holding of Prudential. Prudential expressly stated that an as-is clause will be unenforceable in the two situations noted above: (1) where the buyer/lessee was induced to purchase the property through the seller’s/lessor’s fraudulent representation or concealment (fraudulent inducement), and (2) where the seller/lessor impaired the buyer’s/lessee’s inspection. The Prudential court then held that the plaintiffs could not prove fraudulent inducement in order to avoid enforcement of the as-is clause because there was no evidence that the seller had actual knowledge of the defective condition—an essential element of a fraudulent inducement claim.
The Domel court interpreted Prudential’s analysis of actual knowledge to mean that if the court had found that the seller had actual knowledge of the undisclosed defect, this alone would be enough to avoid the as-is clause. Domel’s interpretation is arguably incorrect, however, because it would result in dispensing with proof of the other elements of fraudulent inducement, such as specific intent. Therefore, Domel’s interpretation arguably broadens purchasers’ and lessees’ ability to attack the enforceability of an as-is clause. One could argue, relying on Domel, that “negligent inducement” is sufficient to avoid an as-is clause—at least in situations of non-disclosure.
Tips and Suggestions
As shown by these cases, an as-is clause is a valid risk-shifting mechanism that sellers may use when selling or leasing property, but it can be invalidated in certain circumstances. Here are some tips to consider in relation to as-is clauses:
For Sellers and Lessors
- Do not make any affirmative, inaccurate representations about the property.
- An as-is clause should contain the words “AS-IS CONDITION” or “PRESENT CONDITION.” Courts have interpreted “present condition” as being synonymous with as-is condition. Using different words to convey the same meaning creates more uncertainty as to how a court will interpret the intending meaning of the words.
- To preclude such a claim by a buyer, include in your sales contract a clause whereby the buyer (1) disclaims reliance on all representations other than those expressly set forth in the contract and on seller’s silence as to fact relating to the property, and (2) a representation that the buyer is relying solely and completely on its own due diligence. This must be drafted carefully so that the intended disclaimer is not considered to be a standard merger clause as found in Italian Cowboy Partners, Ltd. v. Prudential Ins. Co. of Am., 341 S.W.3d 323 (Tex. 2011). For example of language that was enforced as an effective disclaimer of reliance, see Forest Oil Corp. v. McAllen, 268 S.W.3d 51, 54 n. 4 (Tex. 2008); Schlumberger Tech. Corp. v. Swanson, 959 S.W.2d 171, 180 (Tex. 1997); Matlock Place Apts., L.P. v. Druce, 369 S.W.3d 355, 371-72 (Tex. App.—Fort Worth 2012, pet. denied).
- You should also include an agreement that seller has no duty, either expressly or by operation of law, from disclosing any information related to the property other than as expressly assumed in the contract.
- The second potential ground for avoiding an as-is clause is where a seller interferes with the buyer’s inspection of the property. To minimize the risk of such a challenge, make sure to allow the purchaser to inspect the property and do nothing to inhibit the inspection. Memorialize the opportunity for inspection in the contract and buyer’s agreement that by proceeding to close on the property, the buyer is representing that the seller did nothing to interfere with its rights to inspect the property.
- Disclose known material conditions affecting the property’s value. If you would prefer to remain silent about known conditions, you should consult with your attorney about this issue. Note that by statute sellers of residential property are required to disclose certain conditions of the property as set forth in Tex. Prop. Code § 5.008.
- Although not discussed in Gramen Farm or Domel, courts have occasionally refused to enforce as-is clauses where the totality of the circumstances show that it would be unfair to enforce the clause. This “totality of the circumstances” analysis focuses on the relative bargaining position/sophistication of the parties and whether the as-is clause is a “boiler-plate” provision or an important part of the bargain. Therefore, the as-is clause should be featured prominently in the contract and made explicit that it is an important part of the bargain. If the buyer is represented by counsel, include an acknowledgment of this representation and a representation that buyer’s counsel has explained the meaning of the as-is provision to the buyer.
- State that the “as-is” clause shall survive closing and that it will be inserted into the deed conveying the property.
- Disclaim any implied warranties that you do not want to provide.
For Buyers and Lessees
- Carefully review as-is clauses and discuss them thoroughly with your attorney. Make sure you understand the effect of every word and phrase.
- If you forego inspecting the property, you should secure a representation that the seller/lessor has disclosed all known material conditions affecting the property and you should not disclaim reliance on the sellers’ representations.
- A better approach is to secure a representation that the seller/lessor has disclosed all known conditions but still perform your own inspection.
- If you perform an inspection, include a provision in your contract that states that you are relying on the representations of the seller and your own inspection in purchasing/leasing the property. This is prudent because a buyer’s inspection of the property can preclude the buyer from claiming that it relied on the seller’s representations about the property’s condition when it purchased the property.
- Before agreeing to a disclaimer-of-reliance provision, carefully consider whether you are in fact relying on other representations. If you are, then you should not agree to the disclaimer provision or you should at least require that those representations be set forth in the contract and be excepted from the disclaimer. In other words, do not sign an as-is clause unless it accurately states the facts on which you are and are not relying.