In commercial real estate sales contracts, particularly for income producing properties like apartment complexes and office buildings, the buyer will frequently rely on the seller’s disclosures regarding historic operations, such as income, expenses and occupancy. Sometimes, though, the seller fills the building with less than desirable tenants or fudges the income numbers to justify a higher sales price. Relying on a seller’s information can cause problems for all sides of the transaction. That’s because the sales contract may have a merger clause, an As-Is clause and/or a disclaimer of reliance provision. Each of these provisions could limit or exclude a buyer’s right to rely on the accuracy of the seller’s information and seek damages for those misrepresentations. In particular, these provisions could have the effect of cutting off a fraudulent inducement claim.
A fraud claim is particularly important in a real estate sales context because the seller is usually a single purpose entity that distributes the sales proceeds after the close of the sale and has no other assets, making collection on a judgment that much more difficult.
A. The Evolution of Fraudulent Inducement and As-Is, Merger and Disclaimer of Reliance Clauses
Until the end of the 1990’s, there was no more absolute rule under Texas jurisprudence than fraud vitiates whatever it touches. Stonecipher v. Butts, 591 S.W.2d 806, 809 (Tex. 1979); Gulf, Colorado & Santa Fe Ry. v. Jones, 17 S.W. 534, 536 (Tex. 1891) (“Fraud, of course, would vitiate any transaction, however solemnly it may have been executed.”) The Texas Supreme Court made the point in Dallas Farm Machinery Co. v. Reeves, 307 S.W.2d 233, 239 (Tex. 1957), that as a matter of principle it is necessary to weigh the advantages of certainty in contractual relations against the harm and injustice that result from fraud. The Court went on to hold “The same public policy that in general sanctions the avoidance of a promise obtained by deceit strikes down all attempts to circumvent that policy by means of contractual devices.” Dallas Farm Machinery Co., 307 S.W.2d at 239.
As recently as 1995, in Prudential Ins. V. Jefferson Assoc., Ltd. 896 S.W.2d 156 (Tex.1995), Justice Hecht wrote for the court that an as-is clause in a contract negotiated at arms-length by sophisticated parties can establish the absence of reliance unless the seller made fraudulent representations or concealed information.
That changed with Schlumberger Tech. Corp. v. Swanson, 959 S.W.2d 171, 177 (Tex. 1997), which for the first time held that a merger clause in a post-dispute settlement agreement sufficiently negated reliance so as to preclude a claim that the settlement was induced by fraud, where it specified that no party was relying on any statement or representation of any other party.
Thirteen years later, again in the settlement agreement context, in Forest Oil Corp. v. McAllen, 268 S.W.3d 51 (Tex.2008), the Court expanded the scope of earlier decisions, abrogated the Dallas Farm Machinery ruling and held the following facts were most relevant in determining whether a disclaimer of reliance provision was enforceable at all: (1) the terms of the contract were negotiated, rather than boilerplate, and during negotiations the parties specifically discussed the issue which has become the topic of the subsequent dispute; (2) the complaining party was represented by counsel; (3) the parties dealt with each other in an arm’s length transaction; (4) the parties were knowledgeable in business matters; and (5) the release language was clear.
The court held out some hope for plaintiffs by noting that a disclaimer of reliance “will not always bar a fraudulent inducement claim,” because situations exist where the disclaimer provision lacks “the requisite clear and unequivocal expression of intent necessary to disclaim reliance” on the “specific representations at issue.” Id. at 60.
Left open by the Texas Supreme Court was the application of Forest Oil and Schlumberger to pre-dispute agreements containing merger, As-Is or disclaimer of reliance clauses. Although several appellate courts had applied these cases to pre-dispute agreements, in 2011, the Texas Supreme Court visited the issue again in Italian Cowboy Partners, Ltd. v. Prudential Ins. Co. of America, 341 S.W.3d 323 (Tex. 2011). The Court held that a lease provision did not cut off a fraudulent inducement claim because the language was boiler-plate and the language was not “clear and unequivocal”—the standard set in Schlumberger. Italian Cowboy Partners, Ltd., 341 S.W.3d at 336. Italian Cowboy is significant, because it did not hold that disclaimer of reliance is only effective in settlement agreements, where the parties wish to finally resolve their disputes and end their dealings.
In 2012, the San Antonio court of Appeals applied the Schlumberger, Forest Oil and Italian Cowboy cases to affirm summary judgment against five tenants alleging a landlord had mislead them to get them to sign leases in a commercial development. In that case, the court held that a properly worded merger clause barred the fraudulent inducement claims arising out of a pre-dispute agreement. Dragon Fish LLC v. Santikos Legacy Ltd., 383 S.W.3d 175, (Tex. App. --San Antonio 2012, no pet. h.). The Court found the following clause in the lease negated reliance and barred the claim:
Landlord and Tenant hereby acknowledge that they are not relying upon any brochure, rendering, information, representation or promise of the other, or an agent or broker, if any, except as may be expressly set forth in this lease.Dragon Fish LLC, 383 S.W.3d at 179.
Months earlier, in Allen v. Devon Energy Holdings, LLC, 367 S.W.3d 355 (Tex. App. –Houston [1st Dist.] 2012, pet. granted, judgm't vacated w.r.m.), one owner sold his interest in a company to the other owner, who later sold the whole company for 20 times the amount purchased from his former partner. The Houston Court of Appeals reversed the summary judgment and remanded the case because, the release language in the contract did not (1) "clearly express[es] the parties' intent to waive fraudulent inducement claims" or (2) "disclaims reliance on representations about specific matters in dispute." Indeed, the defendant relied on a general release, which is typically insufficient to bar fraud claims. Allen, 367 S.W.3d at 368.
B. Additional Arguments When Faced with Merger, As-Is and Disclaimer Provisions
1. “As-Is” Provisions Limited to Physical Condition of the Property
As-Is contractual provisions typically apply only to the physical condition of the property. Gym N-I Playground v. Snider, 158 S. W. 3d 78, 85 (Tex. App. –Austin 2005, pet. filed)(As-is clause relates to claims associated with the physical condition of the property); Wellwood v. Cypress Creek, 205 S. W. 3d 722, 726 (Tex. App. –Dallas 2006, no pet.).
The court in Coldwell Banker Whiteside Assoc. v. Ryan Equity Partners, Ltd., 181 S. W. 3d 879, 886-86 (Tex. App. –Dallas 2005, no pet.) helpfully interpreted the legal import of the term “defect” in a real estate sales contract and limited that definition to “some irregularity in “a surface or a structure” of the Property that mars its appearance or causes some aspect of the Property to weaken or fail. “
2. Fraudulent Representations Contained In Contract
In IKON Office Solutions, Inc. v. Eifert, 125 S.W.3d 113, 128 (Tex. App. – Houston [14th Dist.] 2003, pet. denied), the court distinguished between fraud claims based on extra contractual statements, which it held were barred by the merger doctrine (related to As-Is and disclaimer of reliance provisions) and claims based on representations that were ultimately included in the contract.
3. Interpretation of Agreement Would Render Contractual Representations Meaningless
Similar to situations where the misrepresentation is in the agreement itself, sometimes, the As-Is or disclaimer of reliance language would render earlier and more specific contract language meaningless, making a narrow interpretation of these provisions more consistent with the parties’ intent when they signed the contract. In that instance, the plaintiff may want to argue that the As-Is or disclaimer language should be limited, depending on the structure of the agreement.
In construing parties’ obligations under a contract, the court’s primary concern is to ascertain and give effect to the intentions of the parties as expressed in their agreement. Kelley-Coppedge, Inc. v. Highlands Ins. Co., 980 S.W.2d 462, 464 (Tex.1998). To ascertain the parties' true intentions, courts must examine the entire agreement in an effort to harmonize and give effect to all of the provisions of the contract so that none will be rendered meaningless. MCI Telecomms. Corp. v. Tex. Utils. Elec. Co., 995 S.W.2d 647, 652 (Tex.1999).
In the commercial real estate sales context, as-is, merger and disclaimer of reliance provisions could be as important as having good title. If you are relying on the seller’s disclosures and they turn out to be wrong, your options may be limited.