Who Owns the Risk of Zoning Compliance in Construction Design?
by Trent Cotney, Cotney Construction Law
(Editor’s Note: Trent Cotney, CEO of Cotney Construction Law, is dedicated to representing the roofing and construction industries. Cotney Construction Law is General Counsel for the Western States Roofing Contractors Association and several other industry associations. For more information, contact the author at (866) 303-5868 or go to www.cotneycl.com.)
In the design, construction, and development industries, zoning and land-use approvals can be dreadfully complex and opaque subjects. Provided that the intended project complies with state and local building standards, project planners must also ensure their design complies with local planning ordinances which vary by city and county, have multiple restriction overlays, and are amended at a dizzying pace. At the end of the day, one or more professionals must sign the dotted line, staking their reputation and liability policy on the assumption that their assessment of applicable zoning restrictions is accurate.
When it comes to apportioning the risk of noncompliance, the Golden Rule holds true: whoever has the gold makes the rules. Construction lenders and financiers who control the purse strings frequently require borrowers to obtain title insurance coverage. This coverage typically comes in the form of an American Land Title Association (ALTA) form title policy, issued by a national title insurance company. ALTA has different forms for commercial transactions, but the most widely used is the 2006 form, commonly referred to as the extended coverage title policy.
While obtaining insurance would seem like an easy and straightforward solution to zoning risks, ALTA’s 2006 form expressly excludes coverage for losses due to violations of zoning laws, building codes, and environmental laws. Fortunately, title insurers may provide coverage for these areas through the use of endorsement forms, i.e. additions to the policy such as zoning endorsements. One commonly used zoning endorsement for land under development is ALTA Endorsement 3.2-06. Still, endorsements such as this are not always available, and requirements will vary by jurisdiction and title company. Many title companies will require that borrowers obtain a local attorney’s written zoning law opinion, and jump through other hoops as a prerequisite to extending zoning coverage. Finally, this zoning coverage will typically only apply to the named borrower and/or lender. If the insurer is required to extend coverage for a zoning claim, it may exercise subrogation rights against the responsible parties.
In addition to seeking zoning insurance, lenders may turn to construction and design professionals, such as the project’s lead architect, for guarantees regarding zoning compliance. Notably, the lender may require an Architect’s Certificate for Initial Advance (CFIA) as a condition precedent to funding the first advance under a construction loan. CFIAs may include representations and warranties by the architect that the zoning designation of the land permits the contemplated use. These design professional guarantees can be a substantial source of liability due to potential damages that can result from the construction of a nonconforming structure. Additionally, the practice is risky because the architect’s opinion is typically issued, at best, in reliance upon a zoning advisor hired by the borrower.
Due to the substantial risks involved with providing zoning representations, which constitute legal opinions regarding local zoning laws, design and construction professionals should seek to negotiate, qualify, or eliminate form-type representations to reflect the specific facts of the transaction. AIA Form B101 should not be modified without the assistance of counsel. Design professionals should ensure that the borrower has obtained zoning insurance coverage for both the borrower and the lender under an ALTA 3-type endorsement. Those who ultimately agree to make zoning representations should also ensure that the property owner’s zoning consultant is a licensed attorney, is extremely familiar with local zoning regulations, and has conducted thorough due diligence. Finally, the design professional may be well served to retain its own zoning consultant to conduct due diligence which is backed by guarantees of accuracy made in favor of the design professional.