California Court Discusses Duty to Disclose Eminent Domain Taking During Lease Negotiations | Practical Law

California Court Discusses Duty to Disclose Eminent Domain Taking During Lease Negotiations | Practical Law

A California appellate court recently discussed whether a commercial landlord and its broker owe a duty to a prospective tenant to disclose a pending eminent domain taking during lease negotiations. The court held that although a landlord and broker generally do have a duty to disclose, in this instance the size and location of the taking did not materially affect the value or desirability of the leased premises and the tenant failed to show causation between the taking and the closure of the tenant's business.

California Court Discusses Duty to Disclose Eminent Domain Taking During Lease Negotiations

by Practical Law Real Estate
Published on 09 Feb 2017 • California
A California appellate court recently discussed whether a commercial landlord and its broker owe a duty to a prospective tenant to disclose a pending eminent domain taking during lease negotiations. The court held that although a landlord and broker generally do have a duty to disclose, in this instance the size and location of the taking did not materially affect the value or desirability of the leased premises and the tenant failed to show causation between the taking and the closure of the tenant's business.
On January 10, 2017, in an unpublished decision, a California appellate court held that although a commercial landlord and its broker generally have a duty to disclose a pending eminent domain taking on the property during lease negotiations, in this particular situation the landlord and broker were not liable for damages to the tenant because:
  • The size and location of the land subject to the taking did not materially affect the value or desirability of the leased premises.
  • Even if there was a duty to disclose the taking, the tenant failed to show causation between the taking and the closure of its business.
(DNI Food Service Inc. v. Kim, .)
California law generally imposes a duty on landlords to disclose facts to prospective tenants that materially affect the value or desirability of a lease if those facts are unknown to, or cannot be discovered by, a diligent tenant.

Background

A landlord owned a small multitenant retail building. The State of California Department of Transportation (Caltrans) notified the landlord in June 2011 that its property would be affected by a highway expansion project.
A portion of the property would be taken by eminent domain and another portion would subject to a temporary construction easement for 33 months. The strip of land ran along the southern end of the property and was between 2 feet and 4 feet wide.
After being notified of the taking, the landlord hired a broker to lease a unit located at the opposite end of the property farthest away from the land that would be subject to the taking. The broker was aware of the pending taking, but created an advertisement highlighting the unit's reduced rates and excellent location near the freeway.
The tenant responded to the advertisement and engaged in negotiations with the broker to open a restaurant. Neither the broker nor the owner disclosed the pending taking to the tenant. The tenant wanted a two year lease, but the brokers demanded a five year lease with a personal guaranty. The tenant negotiated for a six month free rent period followed by five months of significantly reduced base rent.
The restaurant opened in March 2012. The tenant received a notice from Caltrans about the taking in June 2012. In August 2012, the tenant closed the restaurant before any construction related to the taking began.
The tenant sued the owner and broker for fraud, alleging that they had a duty to disclose the taking. The tenant claimed it never would have signed the lease if it had known about the taking.
The landlord and broker argued that there was no duty to disclose because the taking did not materially affect the leased premises.

Outcome

California law places a duty on the owner to disclose material facts affecting the value or desirability of a property if it is known that such facts are not known to or within the reach of the diligent attention and observation of a tenant. A broker for an owner has the same duty when it is aware of those facts. The duty applies to:
  • Residential sales.
  • Commercial transactions.
  • Leases of more than one year.
(See State Q&A, Real Estate Brokerage Laws and Customs: California: Question 15.)
The trial court found that neither the landlord nor the broker were liable for their failure to disclose because the taking had only a minimal impact on the value of the lease and was not material.
The appellate court agreed and found that the taking was minimal and was unlikely to have a negative impact on the tenant's business because of the size and location of the land subject to the taking relative to the location of the leased premises.
The appellate court also found that the tenant's complaint failed to adequately plead causation and damages because the tenant closed the restaurant before any construction started on the property subject to the taking. Also, the tenant closed the restaurant before full rental payments were due. Even if there were a duty to disclose the taking, this pleading defect would have defeated the tenant's claim.

Practical Implications

In California, landlords and brokers are charged with a duty to disclose material facts to prospective tenants. Although the landlord and broker in this case were found not to have a duty to disclose the pending taking, the outcome could have been different if the facts were only slightly more in the tenant's favor.
This case highlights two important lessons for practitioners:
  • Deciding whether a taking is material to a real estate transaction is highly fact-specific.
  • Landlords and brokers are better off disclosing pertinent information to prospective tenants rather than risking liability.
For more information on eminent domain and regulatory takings, see:
For information on leasing and brokerage laws in California, see: