Author Topic: How to think about an uncertain future liability  (Read 4394 times)

Maybe Later

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How to think about an uncertain future liability
« on: July 10, 2015, 10:56:46 AM »
Hi all,

I'm interested in different opinions on how to plan for an uncertain, but potentially costly, future liability.  I apologize in advance for the vagueness, but it concerns a legal issue.  I read the forums a lot and respect the community but have chosen not to post often.  I'm electing to post this because I'm looking for different lenses or angles to look at a financial situation I have little experience with.

Suppose that an individual entered into a transaction to sell a property in good faith.  The new owners had a problem due to the environment and it did or will cost them some money.  The new owners initiate a lawsuit (Canadian legal system).  The original owners had no knowledge or expectation that the issue would occur and their lawyers tell them not to worry about it - but be prepared for a protracted period of uncertainty.

So, I'm looking at a potential, but unlikely future liability (low six figures) in the near term (say, less than two years).  Plus associated costs.

My net worth is positive, but I'm not financially independent at our current spending levels.  A loss would be painful, and would certainly influence our long-term financial plans, but definitely not crippling.

I have never kept large emergency funds because my job is rock-solid, my spouse's is less secure for the very long term (on contract, several years at a time), but very secure in the short term and we could live on my income alone if need be.

We have a large mortgage at a low variable rate on a new house - we started building a house before we knew of the lawsuit, but finalized our mortgage after it began.  It is at a low variable rate (2.05%).  When we finalized, much was still unknown and we elected to retain a large cash buffer and take a larger mortgage. 

So now I have a large amount of cash earning from 1-2.25% across various taxable and tax deferred (TFSA) accounts.  We have significant equity in the new house and could establish a HELOC against it.  For additional flexibility we took our a 30 year amortization even though we pay at a 15 year amortization rate (remember, Canadian system) and we can cut our mortgage payments almost in half tomorrow by reverting to the longer repayment period.

How would you think through our situation?  I'm going to refrain from suggesting any options we've considered to see what the community comes up with.  Likewise, I've left out a lot of specific numbers because I'm more interested in how you would think it through (so we can do so for ourselves based on our own risk tolerance and values) and I'd rather not have it clouded by interpretations based on assumptions of how we should live (i.e.  if my net worth were 10K, 100K, 1M or the house were worth $200K or $1M - none of which are true).  I'm really looking for your process of thinking it through rather than specific advice.  "Sell your house, get rid of all debt, rent, cut the budget and retire" - this may or may not be a viable financial option, but it's not on the table right now.

Thank you in advance.


nobody123

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Re: How to think about an uncertain future liability
« Reply #1 on: July 10, 2015, 11:28:47 AM »
Living in the US, I would have my lawyer look through all of the contracts to see if there is a viable defense for what they're suing you for.  I know in my neck of the woods, it's buyer beware unless you can prove fraud on the part of the sellers.  You bought the property, you bought the problems with it, whether they were easily detectible or not.  Sellers only have to disclose things that they are aware of, so if it's something like a termite infestation and you hired an exterminator to treat termites 3 years ago, you need to put it on the disclosure form.  If the sellers didn't know about the termites and the new homeowner found them after they moved in, tough luck.

If you're holding onto a bunch of cash just in case, I would see if you could use it to fund things that are generally protected from legal judgments (retirement accounts in the USA, for example).

I'd see if you can add an umbrella policy to your homeowner's insurance.  I'm guessing that an active lawsuit would be excluded from any coverage you could purchase, though.

I would also consider if the amount they are suing for makes sense.  If there is a problem and they are suing for the amount required to fix it, that's one thing.  Them suing you for $100K for a $5K problem and $95K of inconvenience seems like they are just hunting for a settlement.  Depending on my projected legal fees to defend against the lawsuit and an appeal if you lost round one, I would consider offering a settlement in exchange for a release against this and any future issues that they may uncover.  It's not fair, but locking in a small loss might be worth for your peace of mind.

Once I did that stuff, I'd let the process play out and deal with the fallout.  Let your lawyer do what you're paying them to do.  I can see being stressed with it hanging over your head, but if you have a clean conscience about the transaction there's really nothing else within your control.

toincoss

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Re: How to think about an uncertain future liability
« Reply #2 on: July 10, 2015, 11:42:13 AM »
This would be a very sleazy way to get out of this. If you're married, you could file for divorce and minimize assets. Then declare bankruptcy and get the liability is discharged.

drawn

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Re: How to think about an uncertain future liability
« Reply #3 on: July 10, 2015, 11:59:21 AM »
I personally would think about saving additional funds for legal fees and any related expenses that come with this situation. Starting now. Legal fees are expensive. Do you think the new homeowners will win the case? If so, I would try to cut spending for a short time-frame just in case the lawsuit does not turn in your favor and/or try to settle the lawsuit for the lowest amount possible.

Not sure what exactly the new homeowners are suing you for but as nobody123 stated above, there usually are contingencies in the purchase contract of a real estate transaction (at least in the US) that protect both the buyer and the seller of certain mishaps.

Maybe Later

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Re: How to think about an uncertain future liability
« Reply #4 on: July 10, 2015, 09:11:49 PM »
Thanks For the comments. To clarify:

The legal matters are 100 percent in the hands of the lawyers. That's what we continue to pay them for.  I'm looking for a framework of how to think about a possible, but uncertain, future liability in financial terms. 

The good: we're confident in our legal position and we did nothing wrong.

The bad:  even if we win, we are unlikely to recover 100% of our legal costs.  If it goes to trial we are ballpark $20k out of pocket yes, if we win.  Gotta love that legal system.  We've got this more than covered.

The ugly:  it is not out of the realm of possibility that this is a hail Mary on their part (i.e. they're in financial trouble) and even if we win we will not see a dime in reimbursement of costs (double that 20k).  If they intend to run up a legal bill and then declare bankruptcy if they lose, we may be SOL.  This is the wait and see game.

Our current approach is a cash cushion and possibly to get a HELOC in place should the sh!t hit the fan.  Opportunity cost is currently losing out to the ability to sleep at night.  Still, I welcome alternate points of view.

Thanks again.


Bbqmustache

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Re: How to think about an uncertain future liability
« Reply #5 on: July 11, 2015, 05:05:50 AM »
Talk to several insurance brokers to determine whether a large liability umbrella policy would fill your uncertain needs.  Sad that your legal situation is already ongoing, depending on what province you call home, we could have helped.

SnackDog

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Re: How to think about an uncertain future liability
« Reply #6 on: July 11, 2015, 06:21:07 AM »
I would ask my lawyer about worst case scenarios and the time frames for funding them.  Then I would ensure I had enough assets to fund those obligations according to the required time frames.  E.g. if lawyer says you need $40K overnight when the time comes, you need it in cash in your bank account.  If he says it would be due within 30 days, you could keep it invested elsewhere (conservatively).  I suspect you could potentially drag out payments a long time in the case of a judgement (less so in the case of legal bills).  I would ask my lawyer the consequences of late payment or not payment on the judgement and about the potential for appeals.

I would think about shielding any significant assets I had if there was a worst case scenario which had a large impact on net worth.  This requires legal advice as changes to assets to shield them once legal proceedings have commenced may be disallowed in your jurisdiction or a judge may unwind those shields.

I would ask my attorney if it would be worth finding a cheaper way to settle the issue before legal costs mount and bring potential legal liabilities to both parties.  I would consider her opinion biased then potentially contact the plaintiff directly.  There may be nothing to lose and plenty to gain from a cup of coffee with the buyer, if both parties can have a reasonable dialog which does not inflame the situation.   I would consider alternatives like buying the house back and renting it out if that was cheaper than defending a law suit.

Cheer up - you'll be fine.  Even in worst case, you are still healthy, working and can get through it.  My boss was devastated by a similar suit about ten years ago.  It delayed his retirement date drastically but he just smiled through it all.

Rosbif

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Re: How to think about an uncertain future liability
« Reply #7 on: July 12, 2015, 02:19:15 AM »
I'm interested in different opinions on how to plan for an uncertain, but potentially costly, future liability.  I apologize in advance for the vagueness, but it concerns a legal issue.  I read the forums a lot and respect the community but have chosen not to post often.  I'm electing to post this because I'm looking for different lenses or angles to look at a financial situation I have little experience with.

In terms of conceptual planning and financial planning for potential liabilities, you are, I'm afraid, in what I would consider the worst-case scenario. Companies with a bunch of suits against them can ride the averages, and usually have a discounted / fixed-fee billing set up negotiated with their usual counsel.

You have one single relatively high-value claim against you with a small chance of success. You may even be paying an hourly rate...

I'd say you should build a buffer for fees, and mentally prepare yourself for losing out on recovery of your costs from the other side. It's pretty common to sink costs chasing an impecunious defendant if you get costs in your favour. Your lawyer can advise you on this if it happens, but the advice tends to be "give me money so I can try to get your money back". See if your lawyer will accept a percentage of what they eventually recover. If their view changes, ask why they're happy to tell you to take the risk of expensive recovery proceedings, but won't take it themselves.

As for the long shot loss, if HELOC will cover it, then you're probably set. In my jurisdiction people usually get about a month to pay if it's a significant sum. I'm not qualified in your jurisdiction, by the way!


Mr FrugalNL

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Re: How to think about an uncertain future liability
« Reply #8 on: July 12, 2015, 02:58:11 AM »
The ugly:  it is not out of the realm of possibility that this is a hail Mary on their part (i.e. they're in financial trouble) and even if we win we will not see a dime in reimbursement of costs (double that 20k).  If they intend to run up a legal bill and then declare bankruptcy if they lose, we may be SOL.  This is the wait and see game.

Does the law in your neck of the woods allow you to secure pre-judgment attachment of part of your counterparty's assets? The effect of this would be to cordon off some of their wealth to ensure it is still there for you by the time the court rules in your favour and awards you compensation. It's not necessarily a good idea in every case, but it might be in yours, assuming it is legally possible in your jurisdiction in the first place.

Maybe Later

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Re: How to think about an uncertain future liability
« Reply #9 on: July 13, 2015, 08:08:46 PM »
Thank you both. I *think* we have set aside more than enough to cover our own fees and we're paid up on all costs incurred so far.  I'll have some questions, specifically about the pre-judgement attachment or similar approaches, for our lawyers. The new owners have since  listed the property for sale.  Discovery will be in the near future and I'll have the opportunity to raise these Q's then.

Thanks again

Maybe Later

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Re: How to think about an uncertain future liability
« Reply #10 on: August 26, 2015, 05:06:37 PM »
Revisiting this because ... holy shit those are some big numbers!

Further along in the process (still being intentionally vague) and the plaintiff has offered to settle for ... Wait for it ....  A multiple-six figure sum that approaches half of the purchase price of the house!?! 

This is a snowball's-chance-in-hell number, but for the sake of argument it establishes a range for an upper limit to the costs. However it now puts us in a situation where a HELOC (still not established) plus our savings would be pushed to the limit, perhaps beyond, in a worst case scenario.

Looking for additional thoughts/lenses to view this through.

Additionally, our current mortgage terms make it difficult/impossible with out current lender to establish a readvanceable LOC that gets larger as the mortgage gets paid down. We could: (a) use some of our cash to decrease the mortgage balance to get a larger HELOC if the shit hits the fan, (b) look into refinancing into a readvanceable product at a penalty today, (c) continue our accelerated payments, stash cash on the side, apply for a HELOC later (if it makes it to court), (d) something brilliant you come up with here.

This is killing me, sitting on all this cash, but it still seems the most prudent thing to do in face of uncertainty. I would love to contribute even the small amount of room currently available in our tax advantaged accounts as the stock market is on sale, but it would reduce our liquidity by an equal amount.

All opinions welcomed. Whether we agree or not the thinking process is a useful one for me and I appreciate your thoughts.

vagon

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Re: How to think about an uncertain future liability
« Reply #11 on: August 26, 2015, 07:29:35 PM »
The best way to view this is using Bayesian inference.
What is the probability:
  • you will have to settle?
  • you will have to pay for refinancing?
  • you can establish an adjustable LOC?
  • the stockmarket will move substantially upward in the timeframe?
  • and so on

Once you know the various probabilities, the mutual exclusivity of the paths you could take and the relative costs between each you can figure out the value of each path. You can then make a (somewhat) rational decision about how much to keep in available cash.

Keep in mind subjectivity is inevitable when evaluating the initial probabilities, but this isn't a reason to not go through the exercise. The value comes from the end result of the interplay between the probabilities.

Fuzz

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Re: How to think about an uncertain future liability
« Reply #12 on: August 27, 2015, 10:30:08 AM »
I would ask my attorney if it would be worth finding a cheaper way to settle the issue before legal costs mount and bring potential legal liabilities to both parties.  I would consider her opinion biased then potentially contact the plaintiff directly.  There may be nothing to lose and plenty to gain from a cup of coffee with the buyer, if both parties can have a reasonable dialog which does not inflame the situation.   I would consider alternatives like buying the house back and renting it out if that was cheaper than defending a law suit.

I would advise against contacting the buyer without informing your lawyer. If my client did that, I would fire the client. If your lawyer fires you, you will have a hard time getting a good new lawyer. Additionally, it is often against legal ethics/rules for a lawyer to have indirect contact with an opposing party, so if it looks like you went to the opposing party and told them something on behalf of your lawyer (even if your lawyer didn't know), you just bought your lawyer a nasty bar complaint.

disclaimer: i'm not giving you legal advice. i'm a random dude on the internet.

On to OP's question: I try to calculate the expected value of potential liabilities and then prepare if I can. Don't lose too much sleep over it. Easier said than done. But there are lots of unexpected things that could happen (medical, car accident, etc.) that affect FI plans. Sometimes you just can't control things. So use your expected value to manage the risk.

choppingwood

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Re: How to think about an uncertain future liability
« Reply #13 on: August 27, 2015, 11:27:35 AM »
When I was in a similar situation, I decided not to allow myself to be bullied. (My lawyer was helpful in the specifics about why my case was strong.) I made a very modest proposal to settle the matter to show some good faith and refused to budge beyond that. I refused to participate in mediation, because it would have ended up costing me much more. Budget-wise, I figured out how long it would take to resolve the issue through a third party (the courts) and set aside funds through that period to cover some of the potential payout. If it was going to cost most than that I planned to make payment arrangements at the time a judgement came down. I also planned to countersue for related damages, since I had encountered damages as well in the same issue. I did not let them know that I planned to do that, since it would have escalated things.

The other party faded out on the issue. They could not stay on the same page, a serious family problem took their attention away from me, and they seem to have been able to remedy their situation through a sale. I left my payment plans in place for two years, which was the legal limit on them proceeding with the issue.

Good luck!

AlwaysLearningToSave

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Re: How to think about an uncertain future liability
« Reply #14 on: August 27, 2015, 01:00:31 PM »
My goal would be to try to take a potentially large but uncertain liability and reduce it to the lowest, certain liability you can as quickly as I could.  In other words, look to settle.  Of course this is easier said than done when parties are posturing to make their case look good in court and egos are involved.

As you point out, taking the dispute through trial could be quite costly even if you did nothing wrong.  Maybe the settlement payment would end up being bigger than you would like to pay, but settling gives certainty to the liability, eliminates the risk of huge liability, and allows you to move on. 

Remember that resolving a dispute is a business decision.  It is not about being right or vindicated or proven innocent.  Put your ego aside, assess the monetary risks as dispassionately as possible, and pull the trigger on a reasonable settlement agreement.

Maybe Later

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Re: How to think about an uncertain future liability
« Reply #15 on: September 05, 2015, 08:03:54 AM »
Thanks again to those who replied.   My current thinking is:

-try to be thoughtful, not reactive. (hence this thread). We still have not changed our financial plan for this.  Maintain (and build) a large cash reserve.

- limit the downside.  Thinking about things like fixing a maximum liability cost (settlement) as well as recouping future costs (application to the courts to secure costs) should it continue

- make reasonable preparations for worst-case scenarios. Move forward with establishing a home equity line of credit, even at a (small) cost to us, now just in case we need it in the future

Other thoughts?