April 16, 2014
Unlicensed Real Estate Agent Costs Brokerage $6.6 Million Commission
What tasks can real estate brokerages assign to employees lacking a real estate license? What risks does a brokerage run from allowing unlicensed agents to manage relationships with clients and other parties to the transaction? On April 4, 2014, Judge Anthony Trenga decided that a prominent commercial broker forfeited a $6.6 million dollar commission because a leading member of its team lacked a Virginia salesperson’s license. This blog post discusses how the brokerage lost the commission on account of the unlicensed manager.
The Hoffman Town Center is a 56 acre mixed-use development in Alexandria, Virginia. (Yours truly lived in Alexandria for 9 years. AMC Hoffman was my local movie theater. I ran across the finish line in the George Washington’s Birthday 10K race at the Town Center.)
The Landlord, Hoffman Family, LLC, sought office tenants for the development. In August 2007, Hoffman retained Jones Lang LaSalle Americas, Inc. (“JLL”) as its leasing agent. JLL itself has a valid Virginia broker’s license.
In October 2007, Arthur M. Turowski retired from the U.S. General Services Administration. JLL hired him as a Senior Vice President and assigned him to manage the Hoffman account. Torowski saw an opportunity to lease the property to the National Science Foundation. He marketed the property to the GSA, who successfully bid on behalf of the NSF. Turowski negotiated with GSA and city officials. He signed documents on behalf of JLL. In May 2013, Turowski achieved a $330 million lease for his client from the federal government. The NSF will be an anchor tenant in the development. See Jonathan O’Connell, Wash. Post, Judge Rules for Developer in $6.6 million National Science Foundation Suit.
Mr. Turowski helped Hoffman outshine other suitors and land a sought-after tenant. Unfortunately JLL made one oversight: Turowski lacked a real estate agent’s license while performing the work. Hoffman discovered this fact while defending a lawsuit brought by JLL for payment of the $6.6 million dollar commission (JLL rejected Hoffman’s offer of $1 million).
In its ruling, the U.S. District Court for the Eastern District of Virginia discussed the broad scope of activities for which Virginia law requires a license:
1. Activities Requiring a Licence. The legal definition of “real estate salesperson” is “clearly intended to capture the realities and breadth of activities that make up the leasing process.” This strengthens the real estate sales profession by recognizing business realities and restricting the scope of activities unlicensed persons may engage in. Va. Code Sect. 54.1-2101 “Negotiation” is a broad professional activity not limited to agreeing to a property and a price and signing documents.
2. Activities Not Requiring a License. The Virginia Code provides for a narrow set of activities an employee of a broker may do without a license, such as (a) showing apartments if the employee also works on the premises (b) providing prospective tenants with information about properties, (c) accepting applications to lease and (d) accepting security deposits and rents. Va. Code Sect. 54.1-2103(C). These do not include relationship management and negotiation on behalf of a client. JLL’s lawyers argued that Turowski did not engage in activities requiring a license. If that was the case, what licensee-level work earned the commission? The opinion notes that GSA opted to deal with some matters with Hoffman directly because JLL represented other landlords competing for the NSF tenant.
Judge Trenga found that Virginia law required Turowski to hold a license to work under JLL’s agreement with the Hoffman Family. Since he did not, the Court denied JLL’s request for any portion of the commission. The Court observed that a realtor agreement between an unlicensed agent and a client is void. JLL did have a broker’s license and Hoffman’s contract was with JLL. However, Virginia law does not allow brokers to use unlicensed employees as sales persons. The Court decided that JLL’s use of Turowski voided its commission. Even if a listing agreement is valid at the time it was signed, if the brokerage performs under it through an unlicensed salesperson, that performance violates public policy and voids the commission.
The opinion does not discuss whether any other JLL personnel worked on the Hoffman account. I wonder whether JLL would have received a monetary award if licensed sales persons performed some of the work? Perhaps the outcome would have been less harsh if Turowski was not the leader?
Could a licensed real estate sales persons have achieved a greater result for Hoffman? The opinion does not discuss specific damages that arose out of JLL’s failure to use licensed sales persons in performance of the agreement. The underlying agreement was not per se void. In the end, Hoffman got a $330 million lease negotiated by an (unlicensed) agent with deep familiarity with the agency he negotiated with. Unless the verdict is disturbed on appeal, Hoffman does not have to pay anything except its attorney’s fees defending this suit.
Daniel Sernovitz of the Washington Business Journal observes that this litigation gave both the developer and the broker black eyes. Sernovitz points out that JLL’s lawsuit cast a cloud over the project. The possibility of reversal on appeal keeps a shadow of doubt on whether Hoffman will have an extra $6.6 million to help finance the next phase in the development. Lastly, the Hoffman-JLL relationship was mutually beneficial prior to this fee dispute. JLL’s relationships could procure additional tenants. Hoffman may have to rely upon other brokerages moving forward.
Do you think that use of an unlicensed real estate agent presents the same risk to residential brokers?
case cite: Jones Lang LaSalle Americas, Inc. v. Hoffman Family, LLC, No. 1:13-cv-01011-AJT, 2014 WestLaw 1365793 (E.D. Va. Apr. 4, 2014)(Trenga, J.).
April 10, 2014
Landlord Strategies for Avoiding Security Deposit Disputes
The departure of a tenant leaves the landlord with long to-do list, including listing the property for rent, evaluating applicants, repairing or remodeling the property and preparing a new lease agreement. Wrapping-up the relationship with the previous tenant can inadvertently fall to the bottom of the list of priorities. A lawsuit over the prior tenant’s security deposit can create a big distraction to the landlord after the old tenant leaves and the new one moves in. Proving damages can be a time intensive activity. Fortunately, many of these disputes are avoidable. This blog post explores seven strategies landlords may employ to avoid tenant security deposit disputes.
1. Use a Lease Appropriate to the Jurisdiction and the Property:
In urban areas of Virginia, landlords leasing out 4 or more properties must follow the Virginia Residential Landlord & Tenant Act (“VRLTA”). Similarly, District of Columbia landlords must follow the D.C. Housing Code. These sets of rules contain different provisions regarding what terms a landlord may put in a lease. They also show how the courts would interpret the lease. If the property is a condominium unit, the community will have rules and regulations governing leases in the development. Confusion is fertile grounds for conflict. Wise landlords use lease agreements adapted to their jurisdiction’s laws and the property unique situation.
2. Calculate Realtor Commissions and Routine Repairs into the Rent:
When the tenant moves out, the landlord may need a realtor to promptly market the property to a good replacement tenant. The realtor will require a commission on the rental. Even with fastidious tenants, features of the property will wear out with the passage of time. Most landlords want the property to “pay for itself” out of funds from tenants. During a transition, the previous tenant’s security deposit appears as low-hanging fruit. However, the landlord’s interests are best served by having the property pay for these expenses over the term of the lease out of ordinary rent. Landlords should account for more than mortgage payments, insurance, association fees and real estate taxes in the rent. The decision to rent the property requires a full cost analysis in addition to review of what the market will bear. The security deposit is for damage that exceeds ordinary wear over the period of the tenancy.
3. Conduct an Inspection of the Property Prior to the Tenant’s Move-In:
If the landlord and tenant end up litigating over the security deposit, the Court will hear evidence of the difference in the condition of the property between the move-in and the move-out. Whenever a property is in transition or dispute, a thorough, documented inspection is invaluable. I have previously blogged about property inspections in my “Navigating the Walk Through” post series. Before the tenant moves in, the landlord should conduct an inspection, take photos and provide a simple report to the tenant. The VRLTA requires the landlord to provide the tenant with a move-in inspection report. This can save the landlord tremendous time later on.
4. Provide the Tenant Notice and Inspect the Property Again at the End:
Both the VRLTA and the D.C. Housing Code require landlords to provide tenants notice of the final inspection. The close-out inspection should be conducted within three days of when the tenant returns possession. This requires the landlord and his agent to focus on the departing tenant, new renter, realtors and contractors simultaneously. Some inexperienced landlords put off focusing on the previous tenant’s security deposit until after any renovations are done and the new tenant is in. Savvy landlords recognize the significance of the condition of the premises at the time the previous tenant departs. After the property has been renovated and the new tenant has moved in, the condition of the property cannot be documented post-hoc.
5. Retain and Store Damaged Fixtures Replaced Between Tenants:
When contractors replace fixtures in a rental property, usually they throw the replaced ones away to clean the job site. If the landlord intends to deduct those damaged fixture from the security deposit for damaged fixtures, he should consider retaining them as real evidence. Some damages don’t photograph well. If the tenant later complains about the deduction, the landlord can then offer to let the tenant inspect the physical items. A tenant will think twice about filing suit knowing that the landlord will bring the disputed fixtures to court. Few landlords do this. Even if they tell the contractor, the manager may not remind the employees accustomed to cleaning up the site. This requires extra attention to detail, but may be convenient to some landlords. Some bulky or fragile items may not be suitable as trial exhibits.
6. Provide an Itemized List of Deductions Supported by the Inspection:
Under the VRLTA and the D.C. Housing Code, the landlord has 45 days to provide the tenant with the security deposit refund and the written list of deductions. If the tenant disputes the list, the landlord may desire to later add additional items not included on the list to aggressively respond to the lawsuit. However, the Court may deem any items not listed as waived. The deductions included on the list should be those supported by the final inspection documentation. Note that the landlord cannot deduct for ordinary wear and tear. The definition of “ordinary wear and tear” is flexible. I like to understand it as normal depreciation over the life of the item’s normal use. If any refund is made, the tenant may be entitled to interest.
7. Provide Strong Customer Service:
Whether a landlord is renting out a room to a summer intern or leasing a single family home for a year to a large family, he owes it to himself (and the tenants) to manage the property like a business, including a commitment to strong customer service. A happy tenant can save a landlord a realtor’s commission by referring a new tenant. Where the realtor may also get referrals by establishing rapport with the departing tenant.
Can you think of any other strategies for landlords to prevent or resolve legal disputes with departing tenants?
photo credit: Jem Yoshioka via photopin cc
April 3, 2014
Commercial Leasing: New Developments in Acceleration of Rents
How much unpaid rent can a landlord of a commercial property collect against a tenant who has fallen into default? Arlington attorney John G. Kelly explored this issue in his blog post, Acceleration of Rents: Part 1, How to Ensure It’s Enforceable? Acceleration of Rents provisions typically give the landlord the right, after default by the tenant, to demand the entire balance of the unpaid rent under the lease paid in one lump sum. Without such a term, a Virginia landlord is only entitled to possession of the premises or to collect each rent payment as they become due. The landlord has no duty to mitigate his damages by re-letting the premises unless such is required by the terms of the lease. Kelly’s post shows that although this is a significant issue, there haven’t been many Virginia case opinions guiding landlords, tenants and their advisors. Kelly discusses a 1996 Virginia Circuit Court opinion that acceleration of rents provisions are enforceable unless they constitute a “penalty.” This reflects a concern that a landlord may be unjustly enriched if it receives accelerated rents under the defaulted lease and rents from a new tenant for the same premises. In the country there is an expression, “Pigs get fat, hogs get slaughtered.” As we will see, this principle may carry weight even when there is no affirmative duty to mitigate damages.
In September 2013, a new federal court opinion illustrated how acceleration of rents provisions may be enforced against tenants. A Federal Judge sitting in Lynchburg, Virginia awarded accelerated rents as damages arising from default of a lease of a nursing home property. Landlord Elderberry owned a 90-bed nursing facility in Weber City in Southwest Virginia. Elderberry rented it to ContiniumCare of Weber City, LLC to operate the nursing home. Continium continued to pay rent until March 2012. Three months later, the Virginia Department of Health & Human Services terminated the nursing home’s Medicaid Provider Agreement. Elderberry terminated the lease by letter in August 2012. Continium then vacated the premises. The property required substantial repairs and renovations for further use as a Medicaid facility. In January 2013, Elderberry re-let the premises to Nova, a new nursing home tenant.
The parties litigated this case heavily through extensive motions practice, discovery and a multi-day trial. Today’s blog post focuses on the Court’s interpretation of the acceleration clause provisions in the nursing home lease. The tenant asserted that the acceleration of rent provision was not enforceable because it constituted an impermissible “penalty” above and beyond fair compensation for actual damages.
Elderberry did not have a legal obligation to mitigate its damages. The landlord nonetheless gave the tenant credit for rents already collected from the new tenant and scheduled to be paid in the future for the term of the prior tenant’s lease. In addition to other damages, the Federal District Court awarded Elderberry $278,228.58 in unpaid rent up until the replacement tenant began paying rent and $125,857.04 in shortfall between the two leases. The court observed that the landlord’s efforts to invest its own funds into repairing and remodeling the premises mitigated tenants’ damages and returned it to functional use to Medicaid patients faster.
To secure a new lease, the landlord provided to the new tenant $588,708.60 in working capital above and beyond renovations and replacement furnishings invested in the premises by Elderberry. The defaulting tenants complained that Elderberry would receive a windfall if awarded both this working capital and the rent shortfalls. The Court observed that the landlord is entitled to rent increases under the new lease based on the amount of working capital provided. However, the shortfall is adjusted accordingly to prevent any windfall. The Court found the working capital to be a necessary incentive to a new tenant to take over the space and begin making rent payments mitigating the damages.
Retail leasing attorney Ira Meislik observes in his blog that the modern trend is for courts to interpret leases less like land conveyances and increasingly like commercial contracts. See his 2012 post, How Much Can a Landlord Collect from an Evicted Tenant? Elderberry illustrates how even in “land conveyance” states like Virginia, reasonable efforts to mitigate damages can facilitate the collection of the balance of accelerated rents. Avoiding unnecessary windfalls is a principle that underlies both mitigation of damages and the prohibition against penalty provisions in leases. In this case, the landlord re-let the premises before trial but after filing suit against the tenants. Like in many cases, the facts continued to develop after the lawsuit began. By adjusting their trial strategy to give a re-letting credit, Elderberry avoided asking for damages that tenants could easily argue were a windfall and hence a penalty. It is not clear whether Elderberry will actually collect all or even some of this judgment, but they did avoid getting “slaughtered” at trial.
The Defendants appealed the Western District of Virginia’s award of damages, and as of this blog post the Elderberry case is now on appeal before the U.S. Court of Appeals for the Fourth Circuit.
photo credit: pcopros via photopin cc (photo of a Lodge in Scott County, Virginia [same county where Weber City is situated]. Does not depict premises discussed in blog post)