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Construction Defect Litigation and Pre-Litigation Mediation and Case Management - A New Legislative Mandate

Construction defect litigation is complex litigation. Streamlined case management procedures and effective use of mediators / special masters are critical to resolution. The primary method developed to streamline construction defect litigation is the "Case Management Order" ("CMO"). Typically, a CMO is a party-drafted court order that sets up an orderly process to efficiently develop sufficient defect and the repair cost information to allow for early mediation.

A new law, effective July 1, 2001, amending Civil Code section 1375 and adding Civil Code section 1375.05, mandates pre-litigation information gathering and mediation similar to the relatively standard CMO already in use.

The intent of the new law is to improve upon the process commonly known as the Calderon Process, currently codified in Civil Code section 1375. Calderon creates a pre-litigation meet and confer process between the plaintiff homeowners association ("Association") and the Developer. The existing version of Calderon does not work because it does not involve the subcontractors, design professionals, material suppliers, and insurance companies. The newly revised Calderon process is much improved and likely to resolve construction defect disputes without litigation.

Following is an overview of the new law, which will be referred to as the pre-litigation alternative dispute resolution ("ADR") process. Citations to Civil Code sections 1375 and 1375.05 are to the statutes as amended or added by the new law.

Limited application. As before, the process is limited to construction defect cases brought by the governing association in a 20 unit or larger common interest development ("CID") (i.e., a condominium association). [Section 1375 (p) (3).] See, Civil Code section 1351 (definition of a CID). Thus, the process does not apply to construction defect lawsuits brought by the owners of single family homes or commercial structures.

Pre-litigation notice and defect list. Before filing a construction defect lawsuit, the association must serve a "Notice of Commencement of Legal Proceeding" upon the builder, developer, and / or general contractor ("Developer"). The Notice initiates the pre-litigation ADR process. The Notice shall include an initial, general list of the defects and "results of the defects", and summaries of homeowner surveys and testing results. (Section 1375 (b) & (c).] The pre-litigation Notice should give the Developer information about the general nature of the alleged construction problems, so that the Developer can identify the potentially responsible parties and bring them to the mediation process. The requirement that the Association state the "results of the defects" probably means that the Association should identify the consequential damage caused by the alleged defects. This requirement can help trigger the insurance defense and indemnity obligations. Specifying the property damage caused by the defects will tend to separate the defects into two categories - those falling within the realm of tort law, and those falling within the realm of contract / warranty law. See Aas v. Superior Court, 24 Cal. 4th 627 (2000) (defect is not tortious unless it causes personal injury or appreciable, nonspeculative, present injury to property). See also Hicks v. Kaufman & Broad Home Corp., 89 Cal.App.4th 908 (2001).

Service of the Notice will toll all "statutes of limitation and repose, whether contractual or statutory", against all parties potentially responsible, whether or not named in the initial Notice. [Sections 1375 (a) and (b).] The all-encompassing tolling provision is critical in light of harsh and conflicting case law regarding the tolling of the ten-year statute of repose (Code Civ. Proc. section 337.15), and the harsh consequences of not having all potentially responsible parties enter into a tolling agreement. See, e.g., Cascade Gardens Homeowners Association v. McKellar and Associates, 194 Cal.App 3rd 1252 (1987); FNB Mortgage Corp. v. Pacific General Group, 76 Cal.App.4th 1116 (1999); Roger E. Smith, Inc. v. SHN Consulting Engineers and Geologists, Inc., 89 Cal.App. 4th 638 (2001), and Lantzy v Centex Homes, 89 Cal.App.4th 1059, review granted 111 Cal.Rptr.2d 336 (2001).

The new law is designed to keep the dispute resolution process rapidly moving, and the process is loaded with milestones. The first and most important milestone commences upon service of the Notice, which starts a 180 day period, extendable for 180 days, for the parties resolve the construction issues. [Section 1375 (c).] Thus, the process should take no longer than one year. As discussed below, the one year limit is balanced against a priority trial date if the dispute does not settle through the pre-litigation ADR process.

The new law strongly encourages the open flow of information, and allows the parties to inspect relevant, unprivileged documents, including plans, specifications, job files, reserve studies, maintenance records, survey responses, and testing results. [Section 1375 (e).] Privileged documents may not be inspected, and one can anticipate disputes over which of the enumerated documents are privileged.

On a practical level, it can take the Developer months to find the construction documents. Given the new law's tight time deadlines, Developer counsel are well advised to obtain the entire job file immediately after the Association's initial Notice is received.

Developer's Notice. Within 60 days of receipt of the Association's initial Notice, the Developer must notify all potentially responsible parties, including insurance companies, of the Association's claim. [Section 1375(e).] This is a critical departure from existing law. Current law sets up a dispute resolution process only between the Association and the Developer. The absence of subcontractors and their insurers deprives the process of nearly all responsible parties and their funding sources, and guarantees failure of attempts to settle. Section 1375 as amended brings all responsible parties, including their insurance companies, to the pre-litigation ADR process. [See Section 1375 (h) (8) and (n) (7).] This should greatly increase the chances of pre-litigation settlement.

Creation of a "Dispute Resolution Facilitator" Section 1375 (e) creates a "Dispute Resolution Facilitator" (mediator). The Dispute Resolution Facilitator shall preside over the mandatory dispute resolution process, shall be knowledgeable in the subject matter and have sufficient time to devote to the case, and is empowered to enforce all provisions of the new pre-litigation process. [Section 1375 (f).] While one would expect the parties to a construction defect action to select a mediator knowledgeable in the area, Section 1375 (f) (1) mandates that the mediator be knowledgeable in the subject matter. Mandating an unspecified level or scope of knowledge is not a good idea; the vagueness of the "knowledge" requirement is difficult to enforce and can only create problems. Most likely, courts will be reluctant to interfere with a mediator selected by the parties.

Serious penalties for the failure to participate in the process or to settle the dispute. Another critical departure from existing law is the mandate that any party that does not participate in the pre-litigation ADR process, or participates without settlement authority, may be bound by any settlement reached. [Section 1375 (e).] This is important because the infliction of real penalties upon non-participating parties will strongly encourage the parties to give the pre-litigation ADR process the good faith efforts and respect it is due. Notwithstanding any privilege, parties may introduce evidence to establish whether or not a party attended the pre-litigation ADR process, and whether or not a party attended without settlement authority. This provision may encounter problems recently raised by the California Supreme Court in Foxgate Homeowners' Assoc., Inc. v. Bramalea California, Inc., 26 Cal.4th 1 (2001).

The new law contains other provisions that strongly encourage the parties to treat the pre-litigation ADR process as if it were an actual lawsuit. For example, if the matter does not settle and the Association files a construction defect lawsuit, with limited exceptions a defendant or cross-defendant may not conduct further inspections or testing. [Sections 1375 (e) and 1375.05 (c) and (d).] If the matter does not settle, the Association's construction defect complaint is deemed to be filed as of the date the Association served the initial 1375 Notice, and the case shall be given the "earliest possible trial date". [Sections 1375.05 (a) and (b).] These serious penalties should Thus, the parties cannot count on using the ADR process to buy time, and the new law strongly encourages the parties to conduct a full case workup during the pre-litigation ADR process.

Case management statement and exchange of information. Within 100 days of service of the Association's Notice, the Dispute Resolution Facilitator shall conduct a Case Management Meeting to develop a case management statement. Among other things, the statement must address the following, any of which may be waived: (1) publication of revised defect lists and settlement demands; (2) visual inspections and invasive testing; and (3) "facilitated dispute resolution" managed by the Dispute Resolution Facilitator. [Sections 1375 (f) and (h).] The Dispute Resolution Facilitator may also order: (1) exchange of expert photographs; (2) expert presentations; (3) expert meetings; (4) any other mechanism the parties deem appropriate. [Section 1375 (i).] Essentially, the pre-litigation ADR process will follow the same general processes that are typically set forth in relatively standard case management orders in construction defect cases. The process is designed to create a flow of information among the parties and the insurance companies to allow them to efficiently evaluate and settle construction defect matters without the need for expensive, mind-numbing, court clogging, and often senseless discovery in what is ordinarily expert driven litigation. To this end, if the matter does not settle the new law allows expert depositions prior to percipient witnesses. [Section 1375.05 (f).]

Developer settlement offer. The Developer may submit a written settlement offer and make one request to meet with the Association's board of directors to discuss a settlement offer. [Sections 1375 (k) and (h).] If the board rejects the offer, it must hold an open meeting with the members. The foregoing provisions are not likely to assist in the settlement process. They may be reflective of an unsubstantiated belief that construction defect cases could be easily settled if only the developer could meet face to face with the Association's members and explain why the problems are not as bad or as expensive to repair as they may seem.

Pre-litigation judicial involvement. The pre-litigation ADR process has ambiguities and gaps that could stop the process in its tracks when disputes arise. To address this issue and keep the process moving, the new law establishes a process whereby a party may petition the Superior Court to resolve disputes (or to appoint a referee to do the same) that may arise during the pre-litigation ADR process. This also includes the power to order parties or their insurance carriers to the process. [Sections 1375 (n) and (o).]

Conclusion. The new law represents a substantial improvement in the current Calderon process. It requires the parties to establish and mediate the defects and the cost to repair before filing a lawsuit, and provides significant incentives to settle during the pre-litigation process.

Alexander S. Polsky, Esq., is a full time neutral with JAMS, with extensive experience in arbitration and mediation of complex civil / commercial litigation, including construction defect cases. Ronald A. Hartmann, Esq., represents building owners, including homeowner associations, homeowners, and apartment building owners in construction defect lawsuits.