ID: 37

Date: 1/1/2002

Title: Chapter 40 and Construction Defect Litigation - Boom or Bust

AuthorLast: Boyden

AuthorFirst: John

Body: Introduction "It all depends on how you look at it," says experienced construction defect attorney, Paul Matteoni, when asked if the present law works to resolve disputes between homeowners and contractors. Matteoni was, of course, referring to NRS Chapter 40 -- the body of law created by the Nevada Legislature to govern construction defects. In analyzing Chapter 40, Matteoni's opinion seems accurate -- it does depend. Determining the benefactors of this law, however, becomes the important issue. Are the only true benefactors the lawyers and experts, who are unquestionably profiting handsomely in prosecuting and defending these cases? Alternatively, does Chapter 40 truly help the homeowner? Does it allow them to efficiently and effectively resolve disputes with contractors? Some attorneys, such as Brian McMahon, a knowledgeable workhorse in the construction defect arena, believe the Nevada Legislature must make some significant changes to the present law. "There are some aspects of Chapter 40 that are simply draconian," quotes McMahon. George Swainston, a grizzled old trial warrior, explains that "construction defect litigation has gotten way out of hand," and that "better case management can only occur if Chapter 40 is modified." Matteoni agrees, also explaining, "this type of litigation is oftentimes wasteful and unproductive." This article will review Chapter 40, and detail whether its procedures are a boom or bust -- and for whom. While Chapter 40 constitutes "a golden goose" for lawyers and experts, the greater question remains whether the homeowner, who may have purchased a house with defects, obtains proper satisfaction and resolution through Chapter 40 procedures. The answer to that question appears unfavorable for the homeowner, leading to the conclusion that Chapter 40 must be modified. Chapter 40 History and Procedure -- Why the parties get off to a bad start With the rise in population in Nevada, many new contractors have surfaced to satisfy the seemingly unending demand for additional housing. The housing market has consequently grown at a fast pace. This increase in population and the concomitant housing boom has not arrived without growing pains, however. Contractors with little experience or knowledge build some homes. Combine this with money constraints and an inferior product may result. Some construction may even include potential life-safety hazards for the homeowner. Unquestionably, this situation entitles homeowners to a streamlined remedy. Unhappy with the procedures available to homeowners, the Nevada Legislature created Chapter 40, which targets resolution of construction defects between homeowners and contractors. Chapter 40 proceeds fundamentally as follows. First, the homeowner provides the contractor with a written list of defects. See NRS 40.645. Through this list, the homeowner details the alleged problem areas of construction, often including a wide range of alleged defects -- from trivial items to potentially defective conditions that may require a repair. Next, Chapter 40 entitles the contractor to inspect the alleged defects and provide a response..1 Id. After this step, Chapter 40 mandates that mediation transpire before the plaintiff homeowner initiate a formal lawsuit. NRS 40.680. Notably, this mediation almost never succeeds because -- in a very short time -- Chapter 40 has polarized the parties. This division of the parties appears as a steady theme throughout Chapter 40. It begins with the very first letter from the homeowner to the contractor identifying defects. The letter may come as a complete surprise to the contractor, but even it does not, the list of defects usually far surpasses anything that had originally been contemplated between the homeowner and contractor -- even if they had been involved in discussions. In other words, after failing to resolve issues on his or her own, the homeowner retains an attorney, who in turn hires an expert. This expert dutifully inspects the home creating a prodigious list of defects -- many of which were not known to the homeowner, or even considered a problem by the homeowner -- nor do they present any danger to the homeowner. This long list then makes its way to the contractor via a transmittal letter from the homeowner attorney. This letter contains the usual verbiage about requiring immediate repair of all these tremendous defects, and if not, the contractor will be saddled with significant repair costs, loss in value of the home costs, payment of attorneys fees, payment of court costs, and of course payment of all expert fees. Normally, this letter catches the contractor completely off guard. Although potentially imprudent, the contractor often reacts emotionally and defensively (i.e. quite human), and dismisses this written onslaught by the homeowner as offensive. Chapter 40 thus commences. The consequences of this initial unpleasant encounter are dire. Through this initial procedure, any potentially real defects have been washed away by the created defects. The huge list forces the parties to "square off" and retreat into their respective corners. Any ability to negotiate over the true issues in the case terminates; Chapter 40 procedures have effectively polarized the parties. While the goal of Chapter 40 remains admirable, its methodology fails from inception by instantly separating the parties into fighting adversaries. Chapter 40 Continued -- Provisions that Guarantee Litigation Although the early procedures in Chapter 40 cause the parties to separate, making litigation likely, additional provisions in Chapter 40 virtually guarantee litigation. These provisions are contained in NRS 40.655, where the homeowner's obtainable damages in a construction defect suit are addressed. Under this section, if a construction defect can be proven, the homeowner shall recover attorney's fees, reduction in market value of their house, loss of use of their house during repairs, costs of repair, and expert fees. Notably, these expert fees include the fees generated by experts who originally examine the house. See NRS 40.655. This means that the homeowner may recover fees of an expert during the "investigation" process, or where consideration is given to whether a case exists at all. Id. No other body of law permits this type of expert cost recovery. For instance, in personal injury law, the prosecuting attorney does not recover the costs of an investigator, who may inspect the scene of the car accident to determine if liability exists. This also holds true in the medical malpractice field. The monies spent to pay an expert to review documents are not chargeable against the defense. This remains a cost to be borne by the plaintiff. This serves, as it should, as a deterrent. If the case has no merit, the plaintiff attorney will decide not to prosecute -- and no additional funds will be spent on a losing proposition. Construction defect cases do not pose this same risk, however. Even if the expert can only dig up one or two petty defects, this is enough to catapult the case into full-fledged litigation. The plaintiff attorney has no risk of losing this money because Chapter 40 will pay him back for all expert costs generated to initiate the investigation. So even a tiny defect, that presents no true concerns for the homeowner, empowers the homeowner and attorney to proceed with a costly lawsuit. This area of law stands alone. Chapter 40 unabashedly creates a system that nearly guarantees litigation -- because the plaintiff has almost nothing to lose. All investigative and other expert costs will be repaid, as will all attorneys fees. Omitted from the equation is an adequate downside for the plaintiffs' attorneys or the plaintiffs. Litigation thus commences frequently.2 Construction Litigation -- Time Consuming and Expensive, and Ultimately Detrimental to the Homeowner To contend Chapter 40 creates an efficient system for handling construction defect claims has little support. The Courts in Las Vegas, and now Reno, are choking on construction defect cases. Trials are being set for weeks and even months at a time. They are consuming huge resources, and they are pushing to the side other types of cases (because of preferential trial settings), depriving other well deserving litigants of their day in court. The actual day in and day out litigation of these cases reaches mammoth proportions. To adequately represent a client, experts are imperative. These experts must review extensive documents, conduct sight inspections, sometimes engage in destructive testing (where holes are knocked into walls, roofs torn apart, or bathrooms ripped up, etc.), all of which costs thousands upon thousands for each party in each case. The time spent by lawyers reviewing paperwork, attending sight inspections, attending depositions, working with experts, following and complying with case management orders, attending court hearings, meeting with the special masters, and otherwise defending or prosecuting the case flies in the face of any efficiency notion purportedly contained in Chapter 40. Thousands of dollars may be spent on a single deposition alone, simply because 20 attorneys may need to attend. The cost of these cases numbs the mind. While attorneys and experts are being rewarded financially, this process is burdening insurance companies. In defense of their policyholders, they are paying for the attorneys' fees and expert costs. When settlements are reached, they must pay the plaintiffs' attorneys fees, expert costs, and other costs as outlined above. Because of this, many insurance companies have stopped writing insurance coverage for contractors, and have withdrawn from the field altogether. Others have increased their premiums to the extent that rates are prohibitive for contractors.3 Still other insurance companies are taking strong positions on coverage, and are seeking to avoid indemnity payments. The contractors that are able to pay the increased premiums must attempt to pass this additional cost on to the homeowner. This occurs on a daily basis. The cost of housing thus rises. What is the end result? Unfortunately, the end result hits entry level housing the hardest. High-end homeowners will likely bear the increased price, but mainstream America, the middle class, cannot. The price will be too high -- compliments, in part, of Chapter 40. Times Are A Changing -- Courts are taking action Some Courts, including the Nevada and California Supreme Court, perceive this problem and are beginning to take rectifying steps. In Calloway v. City of Reno, 116 Nev. Ad. Op. 24, 993 P.2d 1259 (2000), the Nevada Supreme Court held that a plaintiff may not sue in tort (i.e. a negligence cause of action) for his purely economic losses where there is no personal injury or property damage other than to the structure itself. In other words, the Court held that a negligence cause of action cannot be maintained in a construction defect setting if the plaintiff is only seeking purely economic losses, such as lost income. This rule does not apply if there is damage to something other than the structure, or if personal injuries are alleged. This decision could indicate the Court's awareness of the chaotic nature of construction defect litigation, and a belief that intervention may be necessary to control this arena. The Calloway decision, then, leaves the plaintiff in a construction defect case with causes of action limited to contract and warranty.4 In California, the Supreme Court recently decided Aas v. Superior Court, 24 Cal. 4th 627 (2000). In that case the California Court held that defects that did not cause any property damage should be dismissed. Attorneys should hail this decision for developers and contractors as lifting them from the burden of defending trivial issues. As noted above, so often these cases involve hundreds of alleged defects, many of which are insignificant and do not cause any harm or damage to the homeowners. The California Court has now given some guidance in this field; those defects that are not causing property damage must be eliminated. This decision appears to indicate that California is attempting to reduce the size and proportion of construction defect litigation. Conclusion -- Chapter 40 Needs Revision Chapter 40 was created for laudatory goals. New homeowners should not have to live in inferior homes with construction defects. On the other hand, Chapter 40 needs significant revision if it is going to truly benefit the homeowners -- and not the lawyers and experts. Although some Courts are beginning to issue reformative decisions, as it now stands, Chapter 40 does not adequately and efficiently assist the homeowner; in fact, it serves only to polarize the parties and guarantee litigation, with the outcome being increased home prices. As a proposal, the author believes a panel, not unlike that employed in the medical malpractice field, could further the goals of Chapter 40. New cases would be presented to this panel, which would consist of contractors and lawyers, and decision thereafter rendered. The "non issues" or trivial issues would be eliminated immediately, leaving only the "real" issues. At this point, the contractor should be given an opportunity to correct these defects, working with the subcontractors if necessary. If this does not conclude the dispute, then the homeowner may commence formal litigation. The author is a partner in the law firm of Erickson, Thorpe & Swainston, Ltd. His practice focuses on cons-truction defect litigation, medical malpractice, and personal injury accident law. ENDNOTES 1. Oftentimes this step never occurs, or never occurs beyond a shouting match, because the list generated by the homeowner, or more appropriately his lawyer, is so long and so full of non-issues -- only created to make the list longer -- that the contractor often forgoes a substantive response. 2. Proponents of the present Chapter 40 will likely argue that Chapter 40 does provide the contractor with some recourse. If the homeowner loses his case, and if an offer was previously made by the contractor and rejected by the homeowner, the contractor can recover attorneys' fees and costs. See NRS 40.650. The problem with this position is that almost none of these cases actually go to trial. On the flip side, however, in the event of settlement, the Chapter 40 "burden" as it is referred to, is always included. Discussions are always included regarding the extent of the plaintiffs' attorney's fees and expert costs. Consequently, the contractor must pay its' defense attorney, the attorney for the plaintiffs, and all expert costs for both sides. This is normal procedure in these cases when considering settlement. There is no other area of litigation where so much weight is placed on these additional expenses. 3. While many people probably have little sympathy for insurance companies taking a loss, these companies do not possess limitless resources. Many are fast becoming strapped financially, and some have recently filed bankruptcy. Reality tells us that construction defect litigation is ransacking these companies' financial resources. In the final analysis, it is the public who suffers, either in the higher costs of buying accommodations, in the higher insurance premiums, or the absence of a source for payment in the case of a bankrupt defendant. 4. While, hopefully, this decision is indicative that this Court will be active in this arena, plaintiffs have been avoiding Calloway by simply amending complaints, or filing complaints, that allege property damage or personal injury from "mold" exposure. The "mold" claim is quickly becoming the next hot area of litigation, and plaintiff attorneys are using it to circumvent the Calloway decision. Admittedly, not all "mold" claims are invalid; clearly there are some legitimate claims. However, from experience, the "mold" claims are alleged to circumvent Calloway. Additionally, and quite troublesome, is the negative impact Calloway has on insurance coverage for contractors. Most insurance policies now contain exclusions for breach of contract and warranty claims. If the plaintiffs are pursuing a claim based only on breach of contract, as dictated by Calloway, then the insurance company for the contractor may have a valid exclusion, and may not be required to defend or indemnify the contractor. This issue of Calloway is troubling for contractors, leaving them in the position, for insurance coverage reasons, to hope the plaintiffs will assert a "mold" claim, so the insurance company will at least provide a defense.