Litigating Fraud Claims Against a Sponsor of Real Estate Development Projects: Careful Drafting Is Still RequiredMarch 2, 2022 – New York Law Journal
Herrick partner Andrew B. Freedland and former partner Deborah Koplovitz wrote an article for the New York Law Journal discussing how at the end of 2021, the Appellate Division, First Department again was called upon to examine the legal standards for pleading a fraud in the inducement claim against a sponsor. Board of Managers of Latitude Riverdale Condominium v. 3585 Owner, LLC, 199 A.D.3d 441, 442 (1st Dep't 2021). In dismissing that claim as being duplicative of the breach of contract claim, the court reiterated that a fraud in the inducement claim is not preempted by the Martin Act where such a claim is "based upon allegations of affirmative misrepresentations, not omissions." Id.
Andrew and Deborah explained that because Latitude Riverdale's unit owners had the means to ascertain the truth of the condition when they inspected the apartments and buildings prior to their closings, the Board could not "establish as a matter of law that it reasonably relied upon the Offering Plan’s statements about the brand of toilet, type of roofing material, and existence of a lobby vestibule." Id. Accordingly, the fraud claim was properly dismissed. Id. (citing Von Ancken v. 7 E. 14 L.L.C.,171 A.D.3d 440, 441 (1st Dep't 2019).
They noted that given the continued dismissal of claims for fraud which fail to meet the clear-cut pleading requirements and the ongoing development of new construction residential properties (albeit at a slightly slower rate than pre-pandemic due to supply-chain and other issues), a historical analysis of the legal standards for certain sponsor defect claims is instructive.
Referring to the case Kerusa Co. LLC v. W10Z/515 Real Estate Limited Partnership, 12 N.Y.3d 236 (2009), which remains unchanged today, Deborah and Andrew note that the Court of Appeals concluded that a common law fraud claim against a sponsor of a condominium development was permitted, provided that: (1) a plaintiff asserts that a sponsor engaged in active concealment of a defect, rather than a mere omission of a fact from the offering plan's disclosures, and (2) the fraud claim cannot be identical to an alleged violation of the Martin Act. Kerusa Co. LLC, 12 N.Y.3d at 246. There, however, Kerusa relied "on purported omissions from disclosures required by the Martin Act and the Attorney General’s implementing regulations" and not, "for example, that drywall was painted over or taped over to cover up or prevent discovery of water damage…. [or] that walls or bricks were put up to hide or prevent it from finding leaking pipes or holes in the foundation." Id. Accordingly, that claim was not viable. Id.
Deborah and Andrew note that on the other hand, many fraud claims have survived pre-answer motions to dismiss. See Board of Managers of Marke Gardens Condominium v. 240/242 Franklin Avenue, LLC, 71 A.D.3d 935, 936 (2d Dep’t 2010) (common-law fraud claim was not precluded where "the alleged fraud and material misrepresentations contained not only in the offering plan, but in brochures, advertisements, and purchase agreements, as well as oral statements made by the defendant."); See also Bd. of Managers of the South Star v. WSA Equities, No. 159128/2012, 2014 WL 5390551, at *5 (N.Y. Sup. Ct. Oct. 20, 2014) aff’d Bd. of Managers of S. Star v. WSA Equities, LLC,140 A.D.3d 405 (1st Dep't 2016) (fraud claim was not found to be duplicative of the breach of contract claim because allegations about a letter from the sponsor’s engineer were sufficient for the court to find justifiable reliance and to "permit a reasonable inference that the Sponsor and individual defendants knew about the allegedly seriously defective condition of the exterior facade and lintels, yet misrepresented the condition in the Offering Plan").
In conclusion, our partners note that there is no doubt that the Kerusa standard places a high burden on plaintiffs, who, at the outset of a litigation may not always be in possession of the necessary documents to allege that a sponsor had actively concealed conditions from them prior to their purchases. It would seem that where the plaintiff lacks evidence of fraud, the preferred course of action may be to proceed with discovery based on other claims and make a motion to amend your complaint if and when facts come to light which would come within the standard outlined in Kerusa.
This is discussed in the full analysis that originally appeared in the March 2, 2022 publication of the New York Law Journal. Access may require a subscription.