Daily Development for Tuesday, December 7, 2005
by: Patrick A. Randolph, Jr.
Elmer F. Pierson Professor of Law
UMKC School of Law
Of Counsel: Blackwell Sanders Peper Martin
Kansas City, Missouri

BROKERS; COMMISSION; CONFLICTS:   Broker-buyer acting as principal in real property purchase was not entitled to commission when seller breached purchase contract.

Horning v Shilberg (2005) 130 CA4th 197, 29 CR3d 717

In 2001, Shilberg contracted to sell Horning, a licensed real estate broker representing himself, a multi-unit property for $715,000, and to pay Horning a 3-percent commission on the sale. Under the contract, Shilberg could cancel the contract within five days after Horning's failure to produce a loan pre-approval letter, which was due on December 24, 2001.  The contract provided that Shilberg could cancel within five days of the date the letter was required if Horning didn’t provide the letter.  Apparently, over a week after the due date, when there was still no letter, Shilberg canceled the contract.   It’s not clear what Horning’s position was - but it likely was that time was not of the essence or that the right to cancel was waived in some way.  The court doesn’t really tell us. 

Horning sued Shilberg, seeking either specific performance or damages, and recorded a lis pendens, which Shilberg had expunged before selling the property to another party in 2003 for $920,000. As damages, Horning requested the difference between the 2003 and 2001 sales prices and the 3-percent commission he would have earned on the sale. He also sought damages for expenses associated with a blown 1031 exchange he had contemplated with the sale, but his attorney abandoned that claim at trial, when it appeared that the 1031 exchange may have been invalidated by Horning’s selection of four properties for exchange, rather than the maximum of three.  (Experts for Shilberg provided uncontradicted testimony on this point, which both trial and appeals courts accepted.). 

The trial court ruled that Horning had not actually been damaged because, as a broker acting as the principal in the transaction, he was not entitled to the commission by law. Further, because Horning had not been damaged, Shilberg was entitled to over $80,000 in attorney fees and over $5000 in costs.

Undone by the court’s ruling, which was contrary to a preliminary ruling made at close of evidence, Horning tried to reopen the case to admit evidence that he’d incurred a few hundred dollars in inspection fees and $275 for a preliminary title report.  Had he been able to get this small amount awarded to him, apparently, he hoped that he could be the prevailing party and at least dodge the fee award to Shilberg and possible collect his own.  But the court refused to reopen. 

The court of appeal affirmed.

Business and Professions Code §10131 defines "real estate broker," in part, as one who acts on behalf of someone else. Because Horning was representing himself as the principal, and not acting on behalf of someone else, in the defunct transaction, the court held, he was not entitled to a commission in the first place. As such, he could not recover for a lost commission when the transaction did not close. Further, because the contract expressly stated that brokers were not parties to the transaction, Shilberg's agreement to pay Horning a 3-percent commission was, in effect, an agreement to reduce the purchase price by paying Horning a 3-percent rebate if escrow closed.

The court did find that Shilberg did breach, and that Horning was entitled to damages owing to Shilberg's breach.  But these damages would be  measured by the difference between the agreed-upon sales price and the fair market value as of the date of the breach, plus consequential damages. Note that the court viewed the agreed upon price as 3 percent lower than $715,000, because of the “discount.”  Consequently, if $715,000 represented fair market value, Horning had a chance to claim a loss.  But  Horning had failed to produce evidence as to any market price differential, and because lost resale profits have long been refused as consequential damages under California law, Horning was not entitled to breach of contract damages.

After finding that the trial court's award of attorney fees to Shilberg was not an abuse of discretion, the court affirmed the trial court's judgment in its entirety.

Reporter’s Comments:  Everybody appears to have been blundering all over the place in this litigation. The contract was clear enough in requiring the buyer to produce a prequalification letter by December 24, but what did it mean when it then added "If buyer fails to provide such letter within that time, seller may cancel this agreement in writing within 5 days After [sic] the time to provide the letter expires"? Does that mean the buyer really had five extra days or that the seller had to give him five days notice of cancellation? If it meant five extra days, then the seller's cancellation on January 2 was not premature, but it apparently was taken by the court to mean a five-day notice that probably was not sent.

Sellers are often eager to get out of their contracts with delinquent buyers once they get a better offer, but they make the mistake of not paying attention to the fine print. Just because the contract specifies certain dates for performance, and adds that time is of the essence, does not mean that the seller can just walk away the day after the buyer didn't perform. Notice is almost always required, either by the contract or by the law, and overeager sellers who fail to notify act at their peril. See Bernhardt, On Making and Breaking Contracts, 27 CEB RPLR 12 (Jan. 2004).

But in Horning, the seller's hasty conduct seems more than offset by the buyer's bizarre trial strategy. If the seller was the breaching party, the buyer was entitled to specific performance or damages. Why the lis pendens was expunged is not explained, but while that ended the prospect of a successful specific performance claim, the damage count clearly still survived.

Damages under CC §3306 for breach of contract by a real estate seller are pretty clear: the difference between the contract price and the value of the property on the date of the breach, together with out-of-pocket expenses, consequential losses, and interest. (It used to be worse-limiting a buyer to out-of-pocket expenses unless it could show bad faith by the seller. That restriction was lifted in 1982.) Under the current measure, this buyer had to offer into the evidence the contract-showing the "price agreed to be paid" and some opinion testimony as to the value of the property on January 2 (and perhaps being careful to explain away why the owner was selling property to his broker for perhaps $200,000 less than it was worth).

Instead of putting in evidence of value (it probably would have been sufficient for the buyer merely to testify that that is how much he thought the property was worth), he showed how much the seller resold the property for later. The difference between the original sale price and a resale price may be a proper measure of loss for breach of contract to sell personal property (see Com C §2706 and CC §3353), but it has nothing to do with real property contracts. The resale price might provide some evidence of value at the breach date, if the two events are close enough in time, but here the seller repudiated in January 2002 and resold in February 2003-far too late to say very much about values in the frantic California housing market of recent years. So, that was not respectable substitute evidence.

This buyer, as a broker, also sought to recover a broker's commission instead of his difference value damages. This he could not properly claim, since he had acted as a principal rather than an agent in the transaction. This $21,500 item might have constituted ipso facto proof that there was a benefit of the bargain to the buyer in the same amount, to provide some indirect proof of value under §3306, or maybe it could have qualified as known consequential damages had the contract characterized it differently, but brokers should know enough not to claim straight-out commissions on sales to themselves.

This buyer should also have known that he couldn't get Starker damages if he hadn't complied with the tax rules requiring him to designate three, not four, candidates for exchange. (Indeed, he probably wouldn't have gotten his tax deferment either, even if the deal had closed in time.) Finally, and perhaps saddest to note, the buyer's most legitimate consequential damages-his $275 preliminary title report (clearly fitting within the statutory description as "expenses properly incurred in examining the title" (CC §3306))-weren't recoverable because they weren't offered in evidence the first time around.

The effect of all of these blunders was to make the buyer a successful but undamaged plaintiff, which meant that the breaching seller could recover $80,000 in attorney fees. Even this is peculiar, because 20 percent of that fee was contingent. Just how does an attorney ordinarily expect to recover a contingent fee for representing a seller who is being sued rather than suing anyway?

Editor’s Comment 1: The court really owes us an explanation as to why there was a breach by the seller.  Even where time is not stated as the essence, usually specific time periods phrased as stated in the contract are taken seriously.  If the contract says that seller can avoid the contract five days after a set date if no letter is produced, then this likely should have been taken seriously.  Why wasn’t it?

We weren’t riding around in anyone’s pocket through this trial, and maybe there were good explanations for some of the apparent blunders.  Perhaps preliminary indications by the judge led the broker’s counsel to conclude he had a winner, and he elected not to press things by throwing in the penny ante claims for the title report, etc.  Or, as the editor suspects, those costs were not “real” costs in that the title company and inspection company  might not have demanded them if the broker lost his deal, based upon the desire for further referrals.   Therefore, until there was a pinch, the broker’s lawyer didn’t want to put them forward. 

Editor’s Comment 2: What was the broker doing by demanding a commission on his own deal?  Was he kicking that fee over to his agency - perhaps qualifying for some commission threshold or year end bonus arrangement?  (Note that this was a year end deal.)  In any event, the court does not say that the broker was unethical in demanding that there be a 3% reduction in the price as a “commission.”  It just says that the reduction should not be regarded as a commission, but simply a break in the price.  Interesting. 

What if the contract had said that there were brokers in the deal, and that the buyer was one.  Would this have mattered?  Probably not.  The court simply says that a broker buying in his own behalf is not functioning as a broker and cannot claim a commission.  But what if there was a preexisting “exclusive listing,” by which the broker earned a commission no matter who would buy?  In such cases, the idea is that the broker earns the commission not so much by providing a buyer, but by doing spadework and diligently trying to sell the property during the listing period.  If this were the case, and the seller agreed that the exclusive commission was payable, would there be any ethical issue here? 

The Reporter for this item was Professor Roger Bernhardt, of Golden Gate Law School, writing in the California Real Property Reporter.

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