Defects in real estate property – when old is replaced by new

Should deductions for standard rescission be performed before assessing whether the matter constitutes a material defect under the Alienation Act? According to a recent Supreme Court ruling, the answer is no.

Section 3-9, second sentence of the Alienation Act governs defect assessments in connection with properties sold “as is” and there is no information failure on the part of the seller. In these cases, a defect can only be deemed to exist if the property is in materially worse condition than the buyer had grounds to expect on the basis of the purchase sum and other conditions.

The materiality assessment is often based on the size of the rectification costs compared to the purchase cost. As a main rule, rectification costs must amount to at least 5-6% of the purchase sum for a material deviation to exist.

It is probably right that a deduction must be made for so-called standard rescission in cases where an older building element is replaced by a new one. The justification for this is that the new building element will often be of better quality and have a longer service life than the old element. But should the deduction be made before or after calculating the rectification costs’ share of the purchase sum? This was the question in a ruling issued by the Supreme Court on 31 May 2017 (HR-2017-1073-A).

Shortly after takeover, the buyers discovered damp damage caused by a leak from a 12-year old bathroom. This was a hidden defect that the buyer had not been aware of. The parties agreed that the rectification justified a standard rescission deduction of 40% of the rectification costs. If this deduction was made before the percentage calculation, the rectification costs would amount to 3.6% of the purchase sum. If the percentage calculation was made without such a deduction, the rectification costs’ share of the purchase sum would amount to 5.5%.

A unanimous Supreme Court concluded that no deduction for standard rescission should be made before the percentage calculation had been made. The Supreme Court could not find that there were grounds to make such a deduction when the rectification costs are intended to act as an expression of the severity and deviation between the anticipated condition and the actual condition. Here, the subject of the assessment must be how much it would cost to put the property back into the condition that the buyer could expect.

The Supreme Court ruled that the size of the rectification costs relative to the purchase sum is only one of several factors that must be included in an overall assessment and that a share of 5-6% is only an indicative threshold. After conducting an overall assessment of the case concerned, the Supreme Court found that there was a defect and that the buyers were entitled to a price reduction. A deduction for the standard rescission should be made in the calculation of the price reduction size.

In a previous ruling (Rt. 2002, page 1425, Bukkebo), the Supreme Court used the rectification costs with deductions for standard rescission before the defect assessment as the basis. In this specific case, the buyers had received information that there were defects that had to be rectified prior to the conclusion of the agreement. In the judgement of 31 May 2017, the Supreme Court stated that, in such a case, it was reasonable to use the rectification costs less deductions for standard rescission as the basis.

Our understanding from the Supreme Court is therefore that there may be cases where the standard rescission deduction must be made before the defect assessment but that this requires special conditions to apply, such as the buyer having received clear information about specific rectification requirements.

We would be happy to help if you have bought or sold real estate property with defects.
In such a case, please do not hesitate to get in touch with one of our real estate lawyers.