• Interrelated Contracts Doctrine Can Apply to Entity Which Did Not Exist When the Contract Was Formed, and Commercial Entity Which is a Third-Party Beneficiary of Contract Which Interrelates to Contract for Building a Home Is Subject to Economic Loss Rule and May Not Sue in Tort
  • April 16, 2015 | Authors: Gillian Dale; Malcolm S. Mead; Lisa F. Mickley; Rachel E. Yeates
  • Law Firm: Hall & Evans, LLC - Denver Office
  • Developer Sun Mountain Enterprises, LLC ("Sun Mountain") hired soils engineers to perform soils analysis for the construction of a home. Sun Mountain secured financing for the home through a construction loan from Alpine Bank. Before the home reached the market, the loan came due. To avoid foreclosure, Alpine Bank and Sun Mountain entered into a deed-in-lieu of foreclosure whereby Alpine Bank received the deed to the home in exchange for a release of the loan (plus payments). Alpine Bank then placed title to the home in a newly-created entity, Mid Valley Real Estate Solutions ("Mid Valley").

    Before Mid Valley could sell the home, large cracks appeared in the walls due to problems in the soils beneath the home. Mid Valley sued the soils engineers for purely economic losses under negligence theories. The soils engineers moved for summary judgment under the economic loss rule, arguing that Mid Valley was a third-party beneficiary of the contract between Sun Mountain and the soils engineers by reason of the construction loan and deed-in-lieu of foreclosure contract which interrelated with the contract under which the home was built. The trial court denied the motion for summary judgment, and Mid Valley petitioned for interlocutory review. The Court of Appeals granted review and affirmed the trial court.

    The Colorado Supreme Court then granted certiorari to resolve two issues: (1) whether an entity that did not exist when the contract was formed can still be subject to the economic loss rule through the interrelated contract doctrine; and (2) whether a commercial entity which is a third-party beneficiary of a contract that interrelates to the contract under which the home was built is among the class of plaintiffs entitled to the protection of the independent tort duty to act without negligence owed by construction professionals to subsequent homeowners when constructing residential homes.

    To resolve these issues, the Court first reviewed the basic principles of the economic loss rule in Colorado. Absent an independent tort duty, a plaintiff is generally barred from suing in tort if (1) the plaintiff seeks redress for breach of a contractual duty that caused only economic losses, (2) the plaintiff is a party to a contract or a third-party beneficiary of a contract, and (3) that contract defines the duty of care that the defendant allegedly violated or is interrelated with another contract that does define the duty of care. The Court explained that if the defendant owes a duty of care to the plaintiff independent of the duty contained in the interrelated contracts, the plaintiff may sue in tort for violation of that independent duty. In Cosmopolitan Homes v. Weller, 663 P.2d 1041 (Colo. 1983), the Court held that the independent duty owed by home builders to use reasonable care in the construction of a home extends to subsequent purchasers of the home. And in A.C. Excavating v. Yacht Club, 114 P.3d 862 (Colo. 2005), the Court recognized that this duty to act without negligence in the construction of a home is also owed sub-contractors as well.

    The Court then concluded that (1) the economic loss rule can apply to an entity that did not exist when the contract containing the duty was formed if that entity is a third-party beneficiary of the contract (or an interrelated contract); and (2) the independent duty recognized in Cosmopolitan Homes does not apply in this situation because, as a third-party beneficiary of a commercially negotiated contract that interrelates to the contract under which the home was built, Mid Valley cannot properly be considered a "subsequent purchaser." The Colorado Supreme Court then reversed the Court of Appeals on the economic loss rule but remanded the case to the trial court for further proceedings on certain factual issues.
    Full text of opinion . . . SK Peightal Engineers v. Mid Valley Real Estate Solutions, 2015 CO 7 (Colo. 2015).