Contract documents

March 1, 2024

What duties do architects and contractors owe to subsequent purchasers of their projects? Can an architect or contractor be sued for design errors or construction defects from a subsequent purchaser they were never hired by and have no contract with?  In December of 2023, an Indiana appeals court issued a decision addressing these questions and clarifying the economic loss doctrine and acceptance rules in the state of Indiana.[1] This decision may leave architects and contractors scratching their heads about how to manage risk on projects that are sold by their clients.

In this case, Daewoong, LLC hired Building Associates, Inc. (BAI) in 2016 to build a mixed-use residential and commercial building in Bloomington, Indiana. Three years after the project was complete, Daewoong sold the property to BMI Properties, LLC. In the purchase agreement, BMI was allowed to inspect the property to identify major defects prior to closing on the sale. If the inspection disclosed any material defects in the building, BMI was allowed to pull out of the deal. BMI commissioned a survey, environmental assessment, and physical inspection of the property and, finding no issues to warrant abandoning the deal, the parties closed the sale of the property on July 31, 2019.

Less than a month later, a tenant’s bed post fell through a floorboard and bricks fell off the exterior of the building, damaging a tenant’s vehicle. After these events, BMI had the building more thoroughly inspected, which revealed moisture damage in the building and defects in the exterior brick veneer. These inspections also revealed multiple areas inside the building with unacceptable levels of airborne mold spores and visible black mold.

BMI initially sued Daewoong, but later amended its complaint to name three parties who were part of the original design and construction of the project – the general contractor (BAI), the brick trade contractor (Edwards Masonry, Inc) and the architect (Tabor/Bruce Architecture and Design, Inc). BMI alleged breach of contract against Daewoong, but having no contract with the other parties, alleged negligence and breach of the warranty of habitability against them.

BAI, Edwards Masonry, and Tabor/Bruce filed motions for summary judgment, each contending that BMI was precluded from recovery against them due to Indiana’s “acceptance rule” and the economic loss doctrine. After a trial court granted the defendant’s motions for summary judgement, the Indiana appeals court took the case up for review.

The appeals court examined the legal standard for prevailing on a negligence claim, which requires the plaintiff to prove: (1) a duty owed by the defendant to the plaintiff; (2) a breach of that duty by the defendant; and (3) an injury to the plaintiff proximately caused by the breach.[2] The appeals court then explained the “acceptance rule” as it operates in the State of Indiana, noting that it generally shields contractors from third party liability once its work is completed and accepted by the owner.[3] In other words, once an owner has accepted a contractor’s work, the contractor no longer owes a duty of care to third parties. However, the court emphasized that the acceptance rule has a notable exception that a contractor can be liable for injury or damage to a third person due to defective work, even after the owner’s acceptance, where it was reasonably foreseeable that a third party would be injured by such work due to the contractor’s negligence.[4] The court also clarified that this “foreseeability doctrine” applies when a third party seeks recovery for property damage if personal injury – though not sustained – is a foreseeable consequence of a contractor’s allegedly negligent work.”[5]

Applying these legal principles, the appeals court held that the foreseeability doctrine could have applied to the original architect and contractors as the bedpost incident, mold spores, and failing brick veneer could have posed foreseeable risks of personal injury. In overturning the trial court’s ruling, the appeals court concluded that whether personal injury was a foreseeable consequence of the original design and construction team’s work was a genuine issue of material fact that should not have been dismissed on a motion for summary judgment.

The appeals court then examined the trial court’s ruling that the economic loss doctrine precluded BMI from recovery. The longstanding rule under Indiana law, and many other jurisdictions, is that a defendant is not liable in tort (i.e. under theories of negligence rather than breach of contract) when a plaintiff alleges only economic losses.[6] The economic loss doctrine has evolved in many jurisdictions due to the reality that economic losses are essentially disappointed commercial expectations, and contract law, not tort law, is the appropriate law for resolving liability.[7]

In the construction industry, the economic loss rule prevents a party from recovering in tort against an architect or contractor for commercial losses that it could have protected itself against via contract.[8] The appeals court concluded, however, that the economic loss rules should not apply in this case, as there was no contractual relationship between BMI and the original architect and contractors and thus, there was no ability for the parties to address commercial risk and liabilities by way of contracts.

This case, and others like it, highlight an issue that construction companies and architecture firms have become familiar with in recent years. While they may be able to mitigate risks on their projects through contractual mechanisms like waivers of subrogation, waivers of consequential damages, and limitations of liability, these contractual safeguards mean very little once the project has been sold. One option many in the construction industry have taken is to not accept projects, like condominiums, that are more likely to end up in the hands of downstream buyers.

AIA Contract Documents has authored several resources for architects who design mixed-use and condominium projects, including B109-2020, Standard Form of Agreement Between Owner and Architect for a Multi-Family Residential or Mixed Use Residential Project  and a Guide for Supplementary Conditions to B109-2020 for use on Condominium Projects.

AIA Contract Documents has provided this article for general informational purposes only. The information provided is not legal opinion or legal advice and does not create an attorney-client relationship of any kind. This article is also not intended to provide guidance as to how project parties should interpret their specific contracts or resolve contract disputes, as those decisions will need to be made in consultation with legal counsel, insurance counsel, and other professionals, and based upon a multitude of factors.

[1] BMI Properties, LLC v. Daewoong, LLC, No. 23A-PL-988, 2023 WL 8635070 (Ind. Ct. App. Dec. 14, 2023)

[2] Peters v. Forster, 804 N.E.2d 736, 738 (Ind. 2004)

[3] U.S. Automatic Sprinkler Corp. v. Erie Ins. Exchange, 204 N.E.3d 215 (Ind. 2023)

[4] Peters, 804 N.E.2d at 742

[5] Citizen’s Gas & Coke Util. v. Amer. Econ. Ins., 486 N.E.2d 998, 1000 (Ind. 1985)

[6] Residences at Ivy Quad Unit Owners Ass’n, Inc. v. Ivy Quad Dev., LLC, 179 N.E.3d 977, 983 (Ind. 2022)

[7] Ivy Quad, 179 N.E.3d at 983

[8] Id.