Claim Alerts

Construction Progress Inspection Reports: Claims Involving ADUs and Remodels

After several years with no activity in this area, recently we have seen a resurgence of claims against appraisers arising from their preparation of construction progress inspection reports. In years past, most of these claims arose from the construction of new single-family residences. This new round of claims involved the construction of ADU’s and remodel/renovation jobs. The appraiser in each instance was retained to prepare “subject to completion” appraisals and then asked to report on the progress of construction once the borrower’s loan was approved.

In prior years the appraisers typically were given forms prepared by their lender/client that had a long list of construction categories such as:

• Foundation
• Roof
• Framing
• Rough Plumbing
• Finish Plumbing
• Rough Electrical
• Finish Electrical
• Etc.

The appraisers had to complete a chart by estimating a percentage of completion for these categories.

In the more recent influx of claims, appraisers are being asked to prepare CERTIFICATION OF COMPLETION forms. One portion of the form reads as follows:

“HAVE THE IMPROVEMENTS BEEN COMPLETED IN ACCORDANCE WITH THE REQUIREMENTS AND CONDITIONS STATED IN THE ORIGINAL APPRAISAL REPORT?”

The appraiser is asked to check the YES box and then describe what progress was observed at each inspection. Some examples might include:

“Foundation complete; Framing complete; Rough plumbing 50%; Rough plumbing complete; Electrical complete; etc.”

This form is prepared at the request of the lender/client and the standard, printed language on the form reads:

“INTENDED USER: the intended user of this certification of completion is the lender/client.”

Unfortunately, if there is a problem with the new construction, the borrower does not pay much attention to the standard printed language on the form. Many will claim it is the responsibility of the appraiser to discover the poor workmanship of the builder.

Of course, we can argue that the appraiser owes no duty to the borrower and depending upon the state where the claim is made, there might even be case law that supports that argument. As with everything else, our arguments will be that much stronger if the appraiser takes the time to add some disclaimer language to the CERTIFICATE OF COMPLETION forms. Just a few carefully worded paragraphs could make a big difference when the appraiser is forced to defend against a borrower claim.

A Case of Construction Defects

One insured was retained in connection with a remodel project. The contractor was adding a hallway, large walk-in closet, main bedroom and main bathroom to the subject property. The appraiser performed a total of four inspections for the lender. Attached to each report were numerous photos. He also attached a SUPPLEMENTAL ADDENDUM page at the end of each report. On that page he included the following language:

“This report is prepared for the benefit of the lender to assist in making loan proceed disbursements. It is not prepared for the benefit of the borrower.

The purpose of the appraiser’s inspection is to determine an approximate degree of completion based on the appraiser’s limited knowledge of basic construction. The appraiser can only observe what is apparent at the time of each inspection. The appraiser is not on site during the entire period of construction and cannot observe every task as it is being performed.

The appraiser is not a contractor and does not have the expertise to evaluate the quality of construction, workmanship or materials. The appraiser is not an expert in building codes or building code compliance and cannot offer any opinions on that subject.

The appraiser has attached several photographs to each inspection report to assist the lender with evaluating the progress of the construction and to confirm the visual observations of the appraiser.”

A few months after the project was completed, the homeowners noticed some loose floor tiles in their new bathroom. They then discovered loose tiles in the shower as well as some leaks from the shower fixtures. Calls to the contractor were not returned, so they called a plumber.

When the plumber took apart the shower fixtures, he told the homeowners that he found what appeared to be several pieces of “used” hardware. It looked to him like their contractor installed a mixture of new and used hardware in their shower. If he did that in other areas of the plumbing installation, they could expect to see other leaks.

As an aside, the plumber told them that he was not an expert in the installation of tile, but when he was working in their shower, he saw that several tiles had come off the shower wall and it looked to him like there was no waterproofing material/barrier behind the tile. It appeared that the tile was put directly on drywall. If that was true, that could be a costly fix because all the tiles might have to be removed and reinstalled.

The homeowners had another contractor inspect the work and he confirmed some of the things said by the plumber. They then retained an attorney who sent a demand letter to the original contractor…as well as the lender and the appraiser. Obviously, the letter claimed the contractor was responsible for his shoddy work, but it went on to say that the appraiser was negligent for failing to discover the faulty workmanship of the contractor and that the lender was responsible for the negligence of the appraiser.

Defense counsel for the appraiser responded by pointing out that the appraiser was hired by the lender, not by the borrowers. He added that the appraiser owed no duty to the borrowers and that he did not have the expertise to discover the type of issues that the borrowers were complaining about which was clearly stated in the inspection reports that the appraiser submitted to his client, the lender. After getting permission from the lender and the lender’s counsel, a portion of one of those reports was included with that response.

Language from the Supplemental Addendum page was included with the response to the demand letter. Counsel for the lender denied responsibility as well and supported the arguments made on behalf of the appraiser. He quoted language from the finance agreement signed by the borrowers where it was stated that progress inspections would be performed and that those inspections would be done for the sole benefit of the lender. If the borrowers wanted reports regarding the progress of construction, they were free to retain their own construction manager.

After these responses were sent, neither the appraiser, nor the lender heard anything further from counsel for the borrowers, and the borrowers remain current on their loan payments.

Liability in a Complex ADU Construction Dispute

Another recent litigation matter we are dealing with appears to be more serious. Favorable case law and disclaimer language did not prevent a lawsuit from being filed but we hope it will provide defense counsel with what they need to support a successful motion for summary judgment at some point in the not-too-distant future.

This case involves the construction of an ADU. The appraiser only did 2 progress inspections. His first report noted:

“…Foundation construction commenced see photos. Builder states unable to complete due to heavy rain. See site photos attached”

Photos attached to the reports showed several inches of water in the “foundation”.

The second inspection report indicated:

… “Framing and rough plumbing has commenced. Builder states foundation is complete. No building dept inspection yet due to backlog in scheduling. Foundation still showing water accumulation/ponding. Additional work may be compromised until water is cleared from foundation. Further inspection may be warranted. Sump pump at site may be warranted. Appraiser is not an expert see photos for determination.”

The appraiser was concerned about what he was seeing. He felt it was necessary to contact the lender to discuss his observations. The appraiser acknowledged that he was no expert but he wasn’t sure construction should proceed until the foundation was dry and he didn’t understand why there was so much water when it had not rained in such a long time.

Upon receipt of this report, the lender contacted the borrowers and said they wanted to stop construction, temporarily, until they could get further feedback. The borrowers were furious. They demanded that the contractor be paid and that the work proceed, and that the bank would be hearing from their lawyer.

No additional inspections were performed by the appraiser. He was told the lender was trying to get someone from the building department out to the site. A few months later, the appraiser was served with a lawsuit that also named the lender and the contractor.

The local building department was very backed up with their inspections. When a building department inspector came out to inspect, he too was concerned. After further investigation, the problem was discovered. It turned out that the builder started to build the ADU on top of the existing septic system for the single-family residence.

This explained why the ADU foundation was full of water. The rain was just a coincidence. The builder had damaged the septic to the point that it was beyond repair. The ADU must be relocated and a new septic system will have to be installed.

We maintain that none of this is the fault of the appraiser. He owes no duty to the borrower. He did notice water accumulation issues at the site and pointed that out to the lender. The lender stands behind and supports the appraiser.

The appraiser also had included some language in his inspection reports to further clarify his duties and responsibilities. Luckily, it appeared he had read some of our old articles because he had the following paragraphs in a Supplemental Addendum:

This report is prepared for the benefit of the lender to assist in making loan proceed disbursements. It is not prepared for the benefit of the borrower.

The purpose of the appraiser’s inspection is to determine an approximate degree of completion based on the appraiser’s limited knowledge of basic construction.

The appraiser is not a contractor and does not have the expertise to evaluate the quality of construction, workmanship or materials. The appraiser is not an expert in building codes or building code compliance and cannot offer any opinions on that subject.

When defense counsel argues case law and the facts of this case, plus the above language, we hope it will be enough to convince a judge to grant our motion.

The builder is also viable. He has insurance and assets that can pay damages caused by his negligent work.

Final Thoughts

Claims and lawsuits against appraisers involving the performance of construction progress inspections can be troublesome. By following some simple loss prevention suggestions, you may be able to help your counsel get you out of a bad situation so that the borrower’s “dream” renovation project does not become your costly “nightmare”. ◆