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Construction Defect Rules May Change

State lawmakers appear to be accepting the longstanding argument that needed construction of condominiums and townhouses is being chilled by construction defect litigation, and legislators might be ready to pass a reform bill this year. Homebuilders have long argued that such litigation is the main reason why the state sees little construction of attached ownership units -- housing that would seem to make sense in a high-cost, high-demand market and that conforms with the "smart growth" philosophy of higher-density housing. However, many planning and development experts have been reluctant to accept the homebuilder argument completely, suggesting that other factors including anti-growth sentiment, lender reluctance, and even consumer preference may also play an important role. This summer, however, representatives of the building industry, trial lawyers and the insurance industry are meeting regularly to negotiate language that could be inserted into a bill before the Legislature adjourns at the end of this month. State Senate President Pro Tem John Burton (D-San Francisco), as well as Assemblymen John Dutra (D-Fremont) and Darrell Steinberg (D-Sacramento) are encouraging the talks and appear ready to push legislation. "The problem has gotten so bad that legislators can't say it's not a problem anymore," said Kimberly Dellinger, a lobbyist for the California Building Industry Association. "We're about as near to a collapse as you can get without having an actual collapse." The industry would like lawmakers to adopt "functionality standards" that define what constitutes a construction defect, said Dellinger, noting that "cosmetic" deficiencies often get thrown into lawsuits. Builders also want a right to repair any defects, and mandatory mediation if problems remain. Trial lawyers say they can accept a speedier process for resolving problems. But attorneys and consumer advocates argue that when a builder continually stalls to repair "cosmetic" problems, a homeowner has no option but the courtroom. Mark Milstein, of Santa Monica's Verboon, Milstein & Peter, which specializes in construction defect lawsuits, said he is encouraged that the building industry's proposals are not as strongly tilted against consumers as they have been in the past. "I think there is a fair amount of momentum, and it is not unlikely we will see some substantial legislative changes," Milstein said. He Said, She Said The construction defect litigation battle has traditionally occurred separately from the policy debate over higher density housing. The battle is largely between builders, who fear higher insurance rates, and trial lawyers, whose members are active in construction defect liability lawsuits. Although anyone can sue over poor construction, defect lawsuits often involve condominium homeowners associations. This is because homeowners associations bring many plaintiffs together and because the associations are corporate entities with a fiduciary duty to members. The exact number of condominiums built each year is unclear. "No one collects data on condominium construction is a systematic way," the California Research Bureau reported in 1999. "There is, however, little dispute that the market has declined." The California Building Industry Association offers a chart compiled by The Meyers Group, a real estate consultant, that shows condominium construction slipping from about 18,000 units annually in 1994 to about 3,000 units a year in 1999. Those figures suggest that condominiums account for only about 2% of the new units built each year. And a fair number of those are high-end units or second homes in resort areas. Anecdotal evidence exists that condominium construction is picking up. "What is curious in the Bay Area is that a lot more condos are starting to go up," observed Christy Riviere, a regional planner for the Association of Bay Area Governments. The Olson Company is developing about 15 townhouse or loft projects in the East Bay and Southern California. At least three condominium projects are under construction, or nearly so, in suburban Sacramento. The first phase of the huge Playa Vista project on the west side of Los Angeles, which is under construction, will provide about 3,000 townhouses and condominiums ranging from about $200,000 to more than $500,000. Barratt American is building a 324-unit project in Temecula, with units starting at less than $160,000. Some redevelopment agencies are working with condominium developers. Barratt American President Michael Pattinson said some developers are pressing ahead because there is a large consumer market for condominiums. "Without them, there is no first rung on the [homeownership] ladder," he said. More Interest in Land-Use Circles For the most part, housing advocates and smart growth supporters have been reluctant to participate in the debate over construction defect litigation. Although it is a new party to this summer's Capitol negotiations, the Davis administration has also stayed out of the fray. "It is an issue of interest," said Richard Friedman, chief counsel for the Department of Housing and Community Development. "It is a constant battle. We know we're not building enough units in this state, and that leads to overcrowding and loss of affordability. Multi-family units, whether they are rentals or condos, are some of the more affordable units." Recently, however, planners and land use policymakers have begun to pay more attention to the construction defect litigation issue as a possible brake on needed higher-density housing. Besides providing opportunities for first-time buyers, condominiums and townhouses are also efficient land uses. And, because they are for-sale units, they can help stabilize a neighborhood. "If you want to build compact housing, you need to build townhouses," said Judy Corbett, executive director of the New Urbanist-oriented Local Government Commission. Sacramento architect, planner and developer David Mogavero said most people involved in smart growth advocacy do not see construction defect litigation as a big issue because they are not connected to the development community. But, he contended, the issue provides common ground for environmentalists, smart growth advocates and developers all of whom have a stake in efficient development patterns. "It's a very, very critical urban form issue, and, therefore, an environmental issue," Mogavero said. "The number of people who are interested in getting entangled in doing condominiums these days, whether they do them well or not, is very limited especially in markets like the Central Valley and the East Bay, where land is available and people have a choice." Mogavero, who is currently developing a 13-unit condominium complex in midtown Sacramento, said insurance for such projects costs five to eight times as much as for a comparable single-family home development. Insurance alone can top 2.5% of total development costs for a condominium project, he said. The more people like Mogavero, a respected urban thinker and activist, talk about construction defect litigation, the more attention the subject gets from entities without a direct economic interest. Both the San Diego Association of Governments (SANDAG) and the Association of Bay Area Governments (ABAG) have conducted workshops, and the influential Silicon Valley Manufacturing Group is lobbying for reforms. Last year, SANDAG conducted a workshop and several follow-up meetings involving representatives of developers, insurers, attorneys and local government. SANDAG even identified the issue as a legislative priority. However, the group had not progressed far enough to sponsor legislation by January 2002, and the effort has waned since then, said Susan Baldwin, SANDAG senior regional planner. Still, the SANDAG Housing Task Force, which looks for affordable housing solutions, hears about the issue constantly. "A key part of implementing smart growth is having attached housing built," Baldwin said. "What's getting built in San Diego is the luxury apartments and the subsidized projects that the nonprofits build." But new, moderately priced attached housing whether it is for-rent or for-sale is absent, she said. In May, ABAG gathered the parties together for a half-day forum that was well received, said Riviere. The group's regional planning committee would like to sponsor legislation, and Riviere said ABAG might join with SANDAG and the Southern California Association of Governments next year for a push at the Capitol. What such legislation would say, however, remains unclear. Rhetoric Continues to Swirl Despite the potential for cooperation, the rhetoric continues to flow from all sides. "If there is genuinely defective work, it needs to be fixed and the builder should step up," said Barratt American's Pattinson, who is also president of the California Building Industry Association. "But anybody who has seriously studied California's history of construction defect litigation can see these cases were brought with the intention of somebody profiting from litigation, most often plaintiff's attorneys. It's gotten to the stage now where insurance carriers won't insure builders, subcontractors and the trades for building attached product." But Milstein, the Santa Monica attorney, argues that builders use construction defect litigation as a red herring in the condominium debate. "We think it's clever politicking for the most part," he said. "Certainly there's litigation for single-family homes, but they [builders] are still building those." There is little hard evidence that a "wave" of litigation has hit condominium builders. Most lawsuits get settled out of court. Still, the availability of insurance has decreased. The California Research Bureau reported that only a handful of companies are willing to underwrite contractors who have worked on condominiums, and the cost of coverage has risen. Milstein questioned how builders can say insurance is unavailable or prohibitively expensive when numerous condominium projects are going forward. Like other developers, Barratt American started its Temecula project after the state Supreme Court issued a ruling favorable to builders in a construction defect case. In Aas v. Superior Court, 24 Cal. 4th 627 (see CP&DR Legal Digest, January 2001), the state high court ruled that homeowners could not sue a builder in cases where no property damage or personal injury had occurred. In the Aas case, homeowners in a single-family home subdivision and a condominium association in San Diego's Carmel Mountain Ranch alleged that their homes were not seismically safe and that fire walls had been improperly constructed. But in a 5-2 ruling, the state Supreme Court said that until the alleged defects resulted in economic damage, the homeowners could not sue. While the Aas decision appeared to be a major victory for the construction industry, builders contend that the basic rules of the game remain unchanged, which is why they continue to press for legislation. Builders' record on this subject in the Capitol is not good. In 1995, the Legislature did approve SB 1029, which established the "Calderon process" (named for the bill's author, Sen. Charles Calderon) that requires arbitration prior to litigation. However, many people say the process does not work because subcontractors and insurers are not required to participate. Last year, lawmakers approved AB 1700 (Steinberg), which was intended to strengthen the Calderon process by involving all the parties and laying out a dispute resolution process. AB 1700 was the result of consensus reached by builders, lawyers and insurers. Whether that consensus extends further this legislative year is the big question. The fact that Senate leader Burton has taken an interest means that a bill introduced during the Legislature's final month could still pass. Among the bills that could serve as a vehicle for last-minute amendments are AB 267 (Steinberg), AB 2418 (Dutra), and SB 355 (Escutia). "We're not trying to stop a homeowner from getting to court," the CBIA's Dellinger insisted. "We just want to give the builder a chance to fix the problem before the lawyers get involved because that's where all the money is." Added the multi-hatted Mogavero, "The problem with litigation is huge. I've had some developers tell me they've never done a condo project they haven't gotten sued on." But attorney Milstein countered that he has never filed a lawsuit in which the builder responded by arguing that nothing was wrong. The defense is always a matter of what the defects are and how best to remedy them, he said. Contacts: Kimberly Dellinger, California Building Industry Association, (916) 443-7933. Michael Pattinson, California Building Industry Association, and Barratt American Homes, (760) 431-0800. Mark Milstein, Verboon, Milstein & Peter, (310) 396-9600. Susan Baldwin, San Diego Association of Governments, (619) 595-5343. Christy Riviere, Association of Bay Area Governments, (510) 464-7923. David Mogavero, Mogavero Notestine Associates, (916) 443-1033. Richard Friedman, Department of Housing and Community Development, (916) 323-7288. California Research Bureau report on Construction Defect Litigation, http://www.library.ca.gov/html/statseg2a.cfm
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