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Much Ado About Something: Do Offering Plans Need a Warning Label?

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Get Out the Tums

Here's an equation that would make any developer queasy:

Lawyer purchasing a condo, plus alleged misrepresentation about the apartment's square footage = lawsuit.

And that's exactly what happened at a condo development in Brooklyn. As reported in the Times by Christine Haughney on February 11th, just before the buyer was to close on his apartment some four years ago, he discovered that the "living space" in the unit was supposedly short by 109 square feet. As described in the article, the purchaser demanded a reduction in the purchase price commensurate with the difference in the square footage. The developer declined, offering only the return of the contract deposit, and the rest as we say, is history. Whether the purchaser should have determined square footage before the contract was signed, with that lowest of low tech devices (a tape measure), will have to be resolved at trial. Although it's usually a given in the real estate business that a square footage calculation is the stuff of great fiction, and "buyer beware" always applies, this lawsuit does raise an interesting issue about regulated apartment sales.

The Unintended Goal of Disclosure

I recently looked over an offering plan with 61 special risks, one of which "disclosed" the byzantine manner in which the square footage was calculated. Leaving aside the absurdity of a buyer being obligated to wade through 61 risk factors before going forward with a basic apartment purchase, here's the issue on the table: is it sufficient for a developer to satisfy its legal obligations by disclosing a material fact, irrespective of whether a reasonable person understands what that disclosure actually means?

The Reasonable Purchaser Standard

I would answer that question in the negative. The offering plan should be constructed for the protection of the purchaser, but it has morphed into a limitation of liability document primarily for the benefit of the developer. As long as the sponsor throws in every conceivable risk factor, even if the average buyer has little ability to understand those potential risks, the developer will usually be protected from post-closing claims by the disgruntled. A perfect example of inscrutable risk factor design would be disclosures about square footage. Measurements from exterior walls, and other non-living area inclusions are misleading and confusing. The developer should be required to disclose the calculation of square footage in a manner that does not require the purchaser to break out a laser measuring device to insure that there are no "gotchas." Perhaps a solution would be to require disclosure of the actual usable living area measurements, so that a purchaser can be reasonably expected to comprehend the square footage that he or she will ultimately be living in. Isn't that what's it's all about?

How Regulated Are Regulated Sales?

The Real Estate Division of the Attorney General's office in New York has a monumental and daunting task. Each year, a small group of attorneys reviews hundreds of offering plans and thousands of amendments to existing plans. As the top real estate cops, they monitor developers who are always pushing the envelope in terms of acceptable risks for purchasers to accept and complex explanations of those risks as disclosed in the offering plan. But the process had gotten a bit comical. It's simply not feasible for a buyer's attorney to read and understand an offering document the size of a phone book and then be charged with the responsibility of explaining that phone book to a first-time home buyer, which is often the case. But developers and their counsel know that. The offering plan has become a get-out-of-jail-free card.

Residential Reality: Swimming in the Shark Tank

Sometimes I think that the first special risk in an offering plan should be akin to the warning label on a pack of cigarettes:

"The purchase of this apartment may be hazardous to your financial health, proceed with extreme caution."

The above being said, purchasers will always have an emotional attachment to real estate, particularly when it comes to new construction, with its unique features and amenities. But as one of my real estate mentors would often say, "It's rough out there;" so make sure the comfort level about going forward with a transaction is as high as possible under the circumstances. And remember, finish your due diligence; it's good for you.