Federal Trade Commission
Washington , D.C.   20580

For Release after 2:00 P.M. (EST)
Sunday, January 21, 1979

HOMEBUYER WARRANTIES:
CONSTRUCTION A GOOD FOUNDATION FOR BUILDER/CONSUMER RELATIONS

AN ADDRESS BY
ELIZABETH HANDFOR DOLE, COMMISSIONER
FEDERAL TRADE COMMISSION
Before
The National Association of Home Buyers
Annual Convention
Las Vegas , Nevada
  January 21, 1979

It is a real pleasure to be with you today at this Annual Convention, for I welcome the chance to congratulate you on the significant effort this industry is making to resolve some very important consumer problems. At a time when the American consuming public is heaping an avalanche of criticism on the business community, it is gratifying to hear that the housing industry has taken more than self-serving steps toward making industry self-regulation serves the consumer's interest. It is encouraging that your industry is attempting to beat government to the punch by recognizing the problems, anticipating the concerns of the new home buyer, and beginning to take effective steps to cure them. Only in this way, can you change the consumer's perception of your industry.

Research in the early 1960's confirmed what most of you have known all along -- the purchase of a home is one of the most difficult, emotionally-charged decisions the average family makes in a lifetime. The purchase of an automobile carries far less emotional impact than the buying of a home. Everything about the transaction is magnified. A home is the largest purchase the consumer will ever make. The mortgage contract will create the heaviest, longest-term debt the consumer will ever assume. In fact by today's social standards, the mortgage may be viewed as more binding than a marriage Contract -- harder to get into and harder to get out of.

Viewed from the consumer's standpoint, the purchase of a home has always been a difficult decision, but today it is even tougher due to inflation-ridden pricing. In this emotionally-charged context, when something goes wrong, the consumer's anxiety and disappointment are intensified, perhaps more so than with any other product. Indeed, the things that can go wrong can be serious, and in view of the prevalence of the complaints, they cannot be dismissed. Let's look for a moment, at some recent press accounts.

September 28, 1978 . The Wall Street Journal report that Carrollton , Texas , home buyer spent $1,800 to prop up a settling foundation that had sent cracks up the corners of the house and had pulled the brick chimney loose.

One hundred-twenty home owners in Northbrook , Illinois had to go to their village board to force a builder to fix defects - inadequate insulation, backed up toilets, and exposed wiring in electrical controls boxes.

October 9, 1978 . The Washington Post reports that a large builder was cited for more than 2,500 building code violation in Bowie , Maryland .

December 11, 1978 . U.S. News & World Report, tells of a Los Angeles woman who is suing the builder of her $55,000 home for defects allegedly including water pouring down the walls and through electrical outlets and cracking and buckling walls.

In the Kaufman and Broad investigation, FTC staff has them selves alleged, on the basis of professional inspections, a gamut of poor construction practices;

In some houses,

• Fire walls were improperly anchored.
• Foundation walls were not covered with membrane waterproofing to prevent water seepage into habitable space.
• Siding was not properly anchored.
• Roof sheeting did not meet with edges.
• Piping and bathroom fixtures were not properly installed.
• Walls were not properly supported by foundations.
• Floor girders were not properly supported to prevent sagging floors.
• Foundations containing cracks due to structural failures.

To settle these allegations, Kaufman & Broad has offered the FTC a consent order which would, among other provisions, require it to provide a warranty with each new home it sells. In the future, and repair major construction detects in homes purchased from it dating back to 1972. In addition, the order would prohibit Kaufman & Broad from selling or delivering housing that is not built in accordance with adequate standards of workmanship. In the near future, the Commission will be considering the public comments on the adequacy of this order.

I recognize, as do you, that most of the homes built in this country are of sound, lasting quality. Yet, for too many Americans, the dream home has turned into a nightmare. You know as well as I do that as families move into their own little Garden of Eden, more and more are finding the apple full of worms. In fact, new home defects now rank among the top consumer problems in this country. The council of Better Business Bureaus reports almost five thousand complaints about new home defects in 1977, up 40% from the year before. A frustrated attorney in the Massachusetts Attorney Generals office stated recently, only partly in exaggeration, "you get more protection buying a toaster than in buying a home!" As a result, some home buyers believe they are being bilked for thousands of dollars, and they are expressing not only anguish but outrage.

In other words a consumer revolt is brewing and unless all builders zero in on the problems and pull out all the stops to cure them, consumers are going to rise up in wrath and deliver a mighty blow to your industry.

In my judgment, there are three possible ways to tackle the problem.

One alternative is for the states to step in more effectively as watchdogs over the home building industry. Several states, recognizing that home purchasers often do not discover defects until they actually live in their homes, have recently amended the common law to impose a warranty of habitability upon sellers of now homes. But in truth, this implied warranty is not enough. It merely confers upon the home buyer the right to file a law suit. For the purchaser who is already hard pressed to meet his mortgage payments, the right to engage in long, costly litigation is hardly very appealing. For the purchaser facing an insolvent builder, the right to sue is totally useless. And the insolvency of builders may be more common than most of us imagine: in 1974 alone, according to Dun & Bradstreet, 1,840 construction firms went bankrupt with lia bilities totaling $526.6 million. That was a recession year, of course, and all of these firms may not have been home builders, but still, it is clear that the home buyer should not be left totally vulnerable to the ups and downs of the business cycle. What the home buyer needs is a quick, straightforward remedy: a fair means of resolving disputes, preferably without going to court, and some form of insurance, escrow account, or performance bonds to assure the availability of money to pay just claims.

Some states are now showing a good deal of interest in finding better solutions than the implied warranty. Last year, for example, New Jersey passed a "New Home Warranty and Builders Registration Act." The law is administered by the New Jersey Department of Community Affairs which, among other things, will set construction standards and standards for dispute resolution procedures. Builders who offer a warranty conforming to prescribed standards will be exempt from the operation of the state-run warranty system, including the requirements to deposit funds with the

state as security against home owners' claims. So far, the new law has been applauded by consumes, and local builders, alike. As one who agrees with Justice Brandeis that states should be the experimental laboratories of our federal system, I along with others will be watching the New Jersey experience with keen interest in the months ahead.

 

There is, of course, a second alternative to the problem and that is for the Federal government to step forcefully into the picture, bringing with it all of the regulatory and enforcement powers entrusted to it by law. Protecting home buyers against unfair trade practices in new home construction is already A responsibility that falls upon many shoulders in Washington. One of them is the Federal Trade Commission, on which I serve. As many of you know, the FTC has for many years addressed the vulnerability of consumers to marketplace abuses involving many sophisticated goods and services, ranging from insurance policies and vocational school contracts to products such as automobiles.

There is little the FTC can do about spiraling costs of housing, since that is left to the Department of Housing and Urban Development and such agencies as the Federal Reserve Board as well as the State and Local Governments, but we can do something about the excessive costs borne by many purchasers of defective homes. With this objective in mind, the commission has authorized its staff to investigate the incidence and severity of defects in new homes and the response of home builders to these problems, and to propose options to us in the near future. We may decide to bring increasing resources to bear against individuals and companies engaging in especially disreputable home building practices, or these options may include increased support of state attorneys general in prosecuting violators under the state "little FTC Acts."

Although that investigation is still underway, I would like to give you a brief profile of the issue as we see it at this state. As you know, about a million and a half, households purchased newly constructed single-family homes last year. New homes are expensive, of course, now ranging more than $60,000 for a median priced house and lot. This is a market, then, in which there are literally tens of billions of consumer dollars involved, not counting mortgage interest payments which are increasingly steep. Moreover, many of the families now buying homes appear to be accepting unusually large debt burdens in order to obtain their homes; understandably, they are looking for a hedge against inflation, but the net result is that we're creating a large group of people in this country who are "house poor." With some families having scraped together every penny and having shouldered an enormous load of debt, who can blame them for their outrage when they see their new dream house begin to crumble before their eyes?

It is clear, therefore, that in the absence of better alternatives, the federal government is certain to become more and more heavily involved in resolving these disputes and assuring the consumer a square deal in the marketplace.

Of course, a third alternative is for the home building industry to regulate itself. The conscientious builder recognizes that a few extra dollars in construction can mean considerable savings later on. In the event that defects do appear, that same conscientious builder also takes it upon himself to make necessary repairs without first turning the customer into a frustrated adversary.

But you know, and I know, that individual self-regulation by a few members of an industry is not sufficient standing alone. There must be industry-wide self-regulation. That is why I come before you today to urge you to continue your efforts to establish a nation wide Home Owners Warranty Program, offering consumers inexpensive warranty coverage.

Many Builders -- some ten thousand in all -- have joined the HOW program of the NAHB, and in the year ending June 30, 1978, HOW covered one hundred sixty-five thousand, or about 11%, of the single family homes built in that period. Under the HOW program, the builder agrees to cover faulty workmanship and defective materials due to the noncomp lia nce with HOW's approved standards during the first year. In addition, in the first two years major construction defects and plumbing, heating, electrical, and cooling systems are covered. And in the third through tenth years, the home is protected against major construction defects.

Your job at NAHB has been easy. HOW representatives have made a determined effort qualify under government requirements, ranging from those of the state insurance commissioners to our own Magnuson-Moss Warranty Act. And I assure you that your efforts have not gone unnoticed in Washington. 

Not long ago, FTC staff met with leaders of NAHB and HOW. Your message to us was clear: the NAHB does not approve of shoddy construction practices. On other hand, the NAHB opposes FTC regulation of the entire home building industry - something that, in your view, would burden the conscientious builder with unnecessary requirements. We are sensitive to your concerns. The building industry is unusually beset with government regulation, especially in the form of local restrictions and fees. We are also sensitive to the fact that much of the problem is not of your making: fluctuations in the credit cycle mean that builders must let workers go in times of tight money, then rushed to rehire and retrain when mortgage funds are available -- only to lay off again when the money market dries up. this stop-and-start way of life virtually guarantees that you cannot keep a group of trained employees on hand. Moreover, many of you face problems because of negligence of subcontractors. But the fact remains that many builders cope with this adverse environment, providing quality homes and turning a good profit.

Our economists tell us that effective private warranty programs can be efficient way to reduce housing cost. They start with the proposition that consumer pays for everything eventually, including both up-front costs as well as operating expenses. The question is how to lower the total, overall costs charged to consumers.

Given the cycles of boom and bust in the mortgage market, builders have an incentive to build quickly, possibly to the detriment of housing quality. Shoddy building practices can be concealed for many purchasers who can be expected to have the technical expertise to evaluate the structural soundness of a home or the fully of electrical, plumbing, or air-conditioning systems. This means the poor construction forms the good builder as well as the consumer, because the work quality construction can initially be sold for more prices. The purchaser will only find out about the true cost of the home it is too late, after moving in, when the defects begin to appear.

With a private for the program, however, the market may be able to correct itself. When builders qualify for a program such is HOW, the insurance companies and the builder have an incentive to keep cost down by requiring the construction meet minimum standards of quality.

Ideally, we will one day see competition introduced in the home warranty business with warranty premium varying according to the quality track record individual builder, thereby giving consumers the chance to shop for the builder with lower warranty premiums and the higher quality work that comes with them. Builders with poor construction track records will cost the insurance company more than it's worth to keep them in the program. The consumer and the builder would both be better off in such a competitive environment. And, I might add, some evidence that consumers would be willing to pay for private warranties and other means of reducing their long-term cost. Professional Builder Magazine, in its December 1978 survey, found that nearly 70 percent of consumers would be willing to spend an additional $1000 at construction time to cut down on futures maintenance costs, with some willing to pay even more.

The HOW program, then, has the potential to provide a lasting model for business consumer relations for American industry. The FTC staff and HOW together, are presently examining the dispute resolution mechanism to see how well it works in practice. There are some questions concerning whether the standards for how claims adequately serve the home buyer. For example, do the HOW's approved standards for the first year provide sufficient consumer protection? Should the two-year coverage of heating, plumbing, and electrical systems be limited to duct work, pipes and wiring for the ten-year coverage of major construction defects be limited solely to load-bearing portions of the home? I am also concerned, that the HOW program - voluntary as it is -- has not attracted greater participation by builders this means that large numbers of consumers may not currently been receiving adequate protection. Couldn't how the more aggressively marketed? What about a concentrated national media campaign now that the program at least touches so many market areas? Shouldn't non-NAHB members be permitted to join HOW without paying much steeper fees and NAHB members? And adding consumer representatives, and other interested parties to the HOW Board of Directors and the local HOW councils, would certainly help to assure that the program responsively serves as broad a market as possible, and response to a concern that a cross-section of interested parties is not involved in the policy making process.

Many of the questions about standards and dispute resolution procedures promised to resolve themselves once the program establishes a longer actual track record so the proper trade on attending the turning corny performance standards and global training charge the home we are committed to improving the effectiveness of procedures used, just as you are, and we shall continue to encourage you to offer the consumer and effective, efficient method for the resolution of his problems.

I would be less than candid with you if I did not leave this message: the patience of the American consumer is rapidly running out. You may think, as I do, that Americans are fed up with big government and want it to keep its cotton picking hands out of the private enterprise. That is true generally, but it is not true and every instance. There are many cases - and home building is certainly one of them - where consumers are demanding more protection from government, not less. The consumer movement is no longer made up of small bands of activists with no troops standing behind them; the consumer movement is now part of our culture. It embraces every one of us. And it will not be denied or over an issue so fundamental as decent housing. So I say to you today that as home builders, you have a choice: either you can each independently decide to make self regulation work or you can brace yourselves for full-scale, hard-hitting regulation from the government. It's that simple.

As home builders, you already have in your hands the instrument that you need. The how program, while imperfect, offers an excellent opportunity for home builders to be responsive to consumer concerns - and ultimately to bring great benefit to builders themselves. A year ago, a survey conducted by professional builder magazine indicated that 79 percent of purchasers considered a new or warranty "very important" in their decision to buy a new home. By contrast, only 22% of the builders recognized the warranties are important to their customers, perhaps explaining, in part, why how has fallen beneath its original membership goals. As the magazine commented, most builders "may be missing a sales bet."

I strongly urge you to carry this program across the land, to strive to improve it where needed, to make universal your own dedication to quality building. Only than will you truly fulfill your unique opportunity to lead the way for other industries less responsive and less responsible to the consumer; only then will you truly capitalize on your Unique chance to help alleviate the rigid confrontation climate between government and industry, the tension between consumer groups and business; only than will you truly utilize the powerful vehicle you have in your hands to eliminate the need for government regulation only then will you truly exploit that "sales bet" and fully profit in the process.

Years from now, we are all going to look back on our lives and careers and ask, "What did we do that was important, what did we do that counted, that made a difference?" I'd like it said that at a time when consumer sensitivity and skepticism about American business and industry were at a high point, the housing industry led the way in restoring the consumer's faith in the American free enterprise system, that the march toward that goal -- toward a greater industry commitment to the public, began right here in Las Vegas at this convention.

Thank you