MWB Attorney Peter Kanipe contributed the article below to the North Carolina Bar Association Blog. The article is instructive for real property attorneys involved with real estate closings. Real estate investors can likewise get guidance from the article on the increasingly common property transaction.
The real estate market has not only completed its comeback, but it has also seen property sales hitting record highs in many markets. And with this uptick in sales comes a more aggressive and potentially risky type of transaction known as “flipping.”
A flip transaction is when a real estate investor buys a piece of property with the intention of quickly reselling to turn a profit. There is nothing illegal on its face about flipping properties if there is no fraud involved. But there is one type of flip transaction, which I call the “instant flip,” that comes with a wide variety of ethical pitfalls for closing attorneys.
Let’s say a piece of property is owned by Abel who is going to sell the property to Brian for $100,000. Brian, while under contract with Abel, then signs another contract with Charlie to sell that same property for $150,000. Brian brings both contracts to a lawyer and asks him to represent all sides and handle both closings. Brian further informs the lawyer that Charlie will bring the $150,000 to fund both transactions.
There are many problems with this fact scenario, and there are ongoing reports of these transactions currently happening in the state. Here is a list of reasons why a lawyer should politely but sternly decline representation in the instant flip transaction.
First and foremost, a lawyer would most likely be misappropriating Charlie’s funds by using them for Brian’s purchase from Abel. Brian is not entitled to any of Charlie’s funds until the deed from Brian to Charlie is recorded. Of course, Brian cannot convey the property to Charlie until he receives the property from Abel, and under this fact scenario, he has not presented any of his own funds to the lawyer.
At the end of the day, Brian, as the intermediary in the flip who looks to make the quick profit, can neither start nor complete the instant flip without a lawyer using money entrusted to him by a different client. Just reading this paragraph should make any attorney’s stomach turn as we all know misappropriation of a client’s funds leads to major discipline even if the misappropriation is ultimately returned to the proper client.
Second, even if Brian brings his own funds, the lawyer is still facing a concurrent conflict of interest in representing two or even all three of the parties. Charlie is likely owed full disclosure that an instant flip is going on. Meanwhile, fully disclosing everything to Charlie for his benefit may run counter to Brian’s best interests, who would probably rather keep everything quiet until closing day.
Third, even if all three parties decided to get their own counsel and both Brian and Charlie brought their own funds to the instant flip, the parties involved in the transaction may still not be out of the legal woods. It is possible that Brian may be acting as a real estate broker between Abel and Charlie, and if Brian does not have a broker’s license, he could be committing a criminal offense. Moreover, it is not likely a lender would give a loan in these types of instant flip transactions. The lawyer’s closing of a transaction where a party gave false information to a lender could subject the lawyer to an unwanted criminal investigation.
The North Carolina State Bar continues to investigate these types of transactions, and the Ethics Committee is currently considering a new Formal Ethics Opinion to give more guidance to real estate attorneys. If you are presented with such a transaction, please consider whether a single closing is worth the trouble it can cause.