What, Me Worry? “AS-IS,” Whyfor?

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When you come across a contract provision that shouts out “AS-IS,” do you have a complete understanding about what is involved or just a general one? For the most part, when you take something “AS-IS,” you are taking it without any warranty. That means the landlord or seller doesn’t have to “make it right” – the risk of something being wrong falls on YOU. Unless you find a sympathetic judge, it means you are taking the “whatever” with all faults – those you can see AND (even, maybe) those you couldn’t have seen.

Basically, “AS-IS” has to do with your expectations. If you buy a boxed radio from an electronics chain store at something close to a “real” selling price, you expect (and have the right to expect) that it will function as a radio should function. If you fish the same kind of radio from the bottom of the barrel at a flea market and pay “two bucks,” you get it “AS-IS” even if there was no sign to that effect on the barrel.

Unfortunately, that explanation (by way of examples) doesn’t describe the “law.” It only gives you a prediction tool when guessing what a judicial outcome might look like. We’ll return to the “practical” after a slight detour to look at the law.

Hundreds of thousands of commercial transactions take place daily (and we’re not including real estate transactions in that “off the cuff” guess as to how many there are). Chaos would prevail if there were no ground rules for those transactions. Fortunately, there exists a set of rules and, despite polarization in many other areas of “legal-public” policy among the states, these rules, with insignificant differences, are the same everywhere in the United States. That’s the miracle of the Uniform Commercial Code (and we’re referring to its Article 2 – Sales). We’ll call that law – the “UCC.” Now, so as not to mislead any readers, Article 2 of the UCC does not apply to the sale of services or to real property transactions. It applies only to transactions in goods, but not to security interests in goods (that means not to how goods are used as collateral for obligations, such as to secure loans).

So, you ask, if the UCC applies only to the sale of “goods” and not to services or real property transactions, why is Ruminations about to discuss it? Regular readers might guess that it is to fill up space, but that’s not today’s answer. It is because courts like to analogize real property contract issues to what the UCC would say when it comes to goods. Basically, there is a very large body of law coming out of the sale of goods and courts have been pretty good at expounding the legal principles behind the UCC. While the UCC might not apply to real property transactions, those legal principles very often do.

At the outset today, we wrote that accepting something in “AS-IS” condition negates any warranty that a seller or landlord might otherwise be thought to have given. Keep that in mind as you read this excerpt from the UCC’s Article 2, Section 2-316:

Exclusion or Modification of Warranties.

(1) Words or con row duct relevant to the creation of an express warranty and words or conduct tending to negate or limit warranty shall be construed wherever reasonable as consistent with each other; but subject to the provisions of this Article on parol or extrinsic evidence (Section 2-202) negation or limitation is inoperative to the extent that such construction is unreasonable.

(2) Subject to subsection (3), to exclude or modify the implied warranty of merchantability or any part of it the language must mention merchantability and in case of a writing must be conspicuous, and to exclude or modify any implied warranty of fitness the exclusion must be by a writing and conspicuous. Language to exclude all implied warranties of fitness is sufficient if it states, for example, that “There are no warranties which extend beyond the description on the face hereof.”

(3) Notwithstanding subsection (2):

(a) unless the circumstances indicate otherwise, all implied warranties are excluded by expressions like “as is”, “with all faultsor other language which in common understanding calls the buyer’s attention to the exclusion of warranties and makes plain that there is no implied warranty; and

(b) when the buyer before entering into the contract has examined the goods or the sample or model as fully as he desired or has refused to examine the goods there is no implied warranty with regard to defects which an examination ought in the circumstances to have revealed to him; and

(c) an implied warranty can also be excluded or modified by course of dealing or course of performance or usage of trade.

Careful readers will have noticed some underlining. That isn’t in the UCC; we put the underlining there. In no particular order, here’s why.

First, take note that “AS-IS” and “with all faults” mean the same thing. Also note that these aren’t the exclusive words that can be used to achieve the same result. Any words that would commonly give a buyer or a tenant fair warning that the seller or landlord isn’t going to “stand behind” the goodys or property or premises will cut the mustard. [See: Buck Owens.]

Also, paragraph (1) signals that (to the extent you can get prior oral or written statements in front of a judge) such contradictory prior statements or representations “amend” the “AS-IS” provision and a court might toss the “AS-IS” provision out of the window. Later (oral or written) statements might override the earlier “AS-IS” agreement.

Also, if an agreement, such as a lease, has language that contradicts an “AS-IS” provision, a court will try to give effect to the “AS-IS” provision, but if “such construction” (i.e., applying the “AS-IS” provision) “is unreasonable,” expect to say goodbye to the “AS-IS” agreement. That shouldn’t be a surprise to regular Ruminations readers. Countless times, we’ve written that courts interpret agreements (as a “whole”); courts don’t interpret words or phrases out of context.

Lastly, the enforceability of an “AS-IS” provision presumes that the buyer or tenant was given free opportunity to inspect the goods, property or premises. That’s how the law protects people who agree to an “AS-IS” provision in a lease, purchase contract or other agreement. But, how does one protect herself or himself?

The easiest way is to reject such an “AS-IS” provision outright. Remember, purchase and leasing transactions take place in a marketplace and different marketplaces have different expectations and ground rules. Certainly, in a sale-leaseback transaction where the seller-tenant developed and built the property, it isn’t unreasonable and is actually pretty universal that the tenant, upon its sale of the property to its (new) landlord, should take the property in (absolutely) “AS-IS” condition. If you divided 100 points between the seller-tenant and the buyer-landlord as to who should take the risk of the property’s condition, put 100 points on the seller-tenant’s side and the rest on the buyer-landlord’s side.

In contrast, if you rent a hotel room for one night, Ruminations guesses that you’d give all 100 points to the hotelier-landlord.

Every other situation is someplace in between.

Ruminations has just covered the effect of marketplace and the effect of bargaining power. What about some practical pointers? OK.

When it comes to real property transactions, the “AS-IS” burden can fall on a buyer or on a tenant. Basically, buyers are expected to take greater risks than would be a tenant. For one, buyers are taking the entire property, not just one space in a larger complex. Buyers are expected to spend more money on due diligence than are tenants. Buyers need to be careful because, after the typical transaction, their sellers “disappear,” i.e., tend to go out of business – be liquidated. Lastly, buyers are expected to take the property in whatever condition it might be and property deficiencies lead to discounts (before closing). In the case of a tenancy, landlords are expected to maintain the property, not give a rent credit to a tenant if something isn’t working.

So, no matter what a purchase contract says, every buyer should act as if the property is being sold “AS-IS.” The seller will have no continuing obligation and there almost certainly will be no one to (effectively) chase if the property turns out to have been “broken.”

Tenants are in a “whole other place” when it comes to accepting the premises or the property in “AS-IS” condition. For one, tenants expect that things will work. In the case of the premises itself, a tenant might expect that it will have the obligation to keep things working, not fix them at the outset. On the other hand, as to things outside of the premises, the building(s) or the common area(s), the landlord will have the obligation to make those things work. So, in each case, a tenant should make sure that whatever “AS-IS” means, it shouldn’t mean that its landlord’s obligation to maintain, repair, and replace things is negated. At most, a tenant agreeing to accept the premises or the property or parts of either in “AS-IS” condition should only be agreeing not to claim damages for things that weren’t working at the outset of the lease. The repair provisions of the lease should assign responsibilities “notwithstanding” any “AS-IS” provision in a lease.

Further, just as the UCC (as quoted above) suggests: “before entering into the [lease, tenant] has examined the [premises] as fully as he desired or has refused to examine the [premises], if a tenant isn’t given that opportunity, it shouldn’t accept an “AS-IS” provision. The two go together: “AS-IS” and full opportunity to examine.

When a lease says: “Tenant accepts the Premises in “AS-IS” condition,” exactly what is the tenant accepting? Is it accepting imminent condemnation of the premises? Is it accepting that the taxes have not been paid and the taxing authority is selling the premises at a tax sale? No, what it should cover is the physical condition of the interior of the premises. So, that’s what the lease should say: “Tenant accepts the physical condition of the interior of the premises in its “AS-IS” condition.”

Here’s a good place for us to differentiate between “latent” and “patent,” words often misunderstood by people who think they know what those words mean. In the context of today’s blog posting, a “patent defect” is one that is obvious. It can easily be discovered and when seen, it would be recognized as such – i.e., that it is a defect. A “latent defect,” on the other hand, is a “hidden” one, one that cannot not easily be discovered or understood to be a defect even upon a careful examination. So, why would a tenant agree to accept the premises in its “AS-IS” condition as to latent defects? Would you accept, in its “AS-IS” condition, a three karat diamond that you couldn’t examine before accepting delivery? Are you qualified to examine such a diamond? A three karat diamond could cost between $6,000 and $84,000. So, if you buy a three karat diamond, sight unseen but in “AS-IS” condition, for $84,000, you could lose $78,000 if it turns out to be worth only $6,000. How much could a defect in the premises cost?

So, if accepting the premises in its “AS-IS” condition, carve out “latent defects.”

Critically, if a tenant accepts the physical condition of the interior of the premises in its “AS-IS” condition, it doesn’t matter if it does an examination or not. It will be “charged” with having made an examination. The bottom line: do an examination and make it a thorough one. For most tenants, that means: “Hire an expert; don’t cheap-out.” Find out how much huff is left in the HVAC.

Even as to some physical conditions, a tenant shouldn’t want to accept them in “AS-IS” condition. Why accept anything for which the landlord is responsible to maintain, repair or replace? Why get involved in a debate over whether the condition of an item at the time of delivery forms the “baseline” for how well it should work throughout the term? For that reason, when accepting the premises in “AS-IS” condition, make sure the lease clearly states that such acceptance does not diminish whatever items, under the lease, were otherwise the landlord’s duty to maintain (in good condition and working order), repair, and replace.

Lastly, there are some conditions that shouldn’t be the subject of an argument as to whether they are part of the “physical condition” of the premises, environmental conditions being at the top of the list. Even a careful inspection by a careful environmental consultant can only find hazardous materials where the consultant looks. There could be “bad stuff” inches away from where a sample was taken. There are inaccessible areas. Pre-existing environmental problems should always remain with the property’s owner (i.e., the landlord).

The wrap-up is simple. If a tenant has to accept something in “AS-IS” condition, it should only be what can be seen and touched inside of the premises. It shouldn’t negate or reduce the landlord’s ongoing obligations. And, there are some issues, such as structural problems and pre-existing environmental problems that should not be accepted “AS-IS.”

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Comments

  1. In its simplest and most common application, delivery of the premises by the landlord and acceptance by the tenant might seem pretty straightforward. However, in many, many, many, many instances, that delivery process leads to the very first, significant disagreement between the landlord and the tenant following execution of the lease. Why? Because all too often, tenants fail to (i) ensure that the premises have been inspected by knowledgeable professionals prior to lease execution; and, (ii) insist upon having a detailed description in the lease of exactly what the delivery condition of the space will be, with the landlord’s work and the tenant’s work clearly spelled out in detail.

  2. Ira: I recently negotiated a lease for a large national chain tenant in a new retail project being developed from the ground up. Despite that, the “Delivery of Possession” section stated that Tenant was taking the Premises “as-is” with all faults. The only carve out was Landlord’s Work (ya think?) which itself was sketchily (sp?) described. I thought that attitude had abated in the industry as lawyers got older and mellowed (like me). Wrong, they just passed on the harsh attitude to the next generation of Young Turks and we start all over again. After detailing the Landlord’s Work, the following carve-outs were added to the “As Is” declaration: (i) Latent defects that could not be readily discovered by an inspection, (ii) building violations whether applicable to the Premises or the project and which prevented Tenant from commencing Tenant’s Work (iii) discovery of hazardous materials (unlikely here), (iv) items of disrepair that would be Landlord’s responsibility under the repairs clause. (v) subordination to the damage and destruction clause (vi) odd structural elements (not “defects”) which were not visible on first inspection nor disclosed in the Landlord’s plans and which could adversely affect the Tenant’s store design as reflected in the Tenant’s plans approved by Landlord. And I had to argue for each one. Got any more?

  3. Pamela Weiss says:

    Anyone ever have a landlord claim “as is” clause in lease obligates tenant/assignee to close work permit opened (but never closed) before landlord bought, and before assignor-tenant entered “as is” lease in question ?

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