Flagstaff Affordable Housing Ltd. P’ship v. Design Alliance, Inc (2/2/2010)

February 17, 2010

Arizona Supreme Court Holds That Economic Loss Doctrine Prohibits a Plaintiff From Recovering in Tort for Purely Economic Loss under a Construction Contract, Unless the Contract Otherwise Provides.

In 1995, Flagstaff Affordable Housing Limited Partnership contracted with Design Alliance, Inc. for the design of eight apartment buildings and a community center.  In 2004, the U.S. Department of Housing and Urban Development filed a complaint against Flagstaff Affordable Housing, alleging that the apartments violated the federal Fair Housing Act’s accessibility guidelines.  After settling the matter with the Department of Housing, Flagstaff Affordable Housing sued Design Alliance alleging that it had breached its contract and acted negligently.  Design Alliance moved to dismiss the complaint, arguing that the contract claim was barred by A.R.S. § 12-552 and that the negligence claim was barred by the economic loss doctrine.  Flagstaff Affordable Housing voluntarily dismissed the contract claim, but argued that the economic loss doctrine did not apply to its professional negligence claim.  The superior court disagreed and granted Design Alliance’s motion to dismiss.  The Court of Appeals reversed, holding that the economic loss doctrine does not bar negligence claims against design professionals.  Design Alliance appealed. 

The Arizona Supreme Court vacated the Court of Appeal’s opinion.  The Court first held that the economic loss doctrine applies to construction defect cases involving a contract.  The economic loss doctrine refers to “a common-law rule limiting a contracting party to contractual remedies for the recovery of economic losses unaccompanied by physical injury to persons or other parties.”  In Arizona, application of the doctrine varies depending on context-specific policy considerations.  In cases involving construction defects, such as this, the Court concluded that “the policies of the law generally will best be served by leaving the parties to their commercial remedies when a contracting party has incurred only economic loss, in the form of repair costs, diminished value, or lost profits.”  Because however, the concerns upon which the economic loss doctrine is based are not implicated if the plaintiff cannot pursue contractual remedies, the Court noted that the doctrine should not apply when the plaintiff lacks privity.  The focus in those cases should remain whether the applicable substantive law allows liability in the particular case. 

The Court then addressed the Court of Appeals’ holding that the economic loss doctrine does not apply to claims for professional negligence, regardless of the type of case, because claims for professional negligence are based upon a common-law duty of care that exists independent of any contract.  The Supreme Court rejected this “formalistic” approach, concluding that “the fact that an architect, as a professional, has legally imposed duties of care does not displace the general policy concerns that parties to construction-related contracts should structure their relationships by prospectively allocating the risks of loss and identifying remedies.”  The Court also rejected Flagstaff Affordable Housing’s contentions that applying the economic loss doctrine to professional negligence claims against architects would be contrary to public policy. 

In this case, the superior court did not apply the version of the economic loss doctrine set forth in the Court’s opinion.  Therefore, the Court reversed the judgment for Design Alliance and remanded the case to the superior court for further proceedings. 

Justice Bales authored the Court’s unanimous opinion.