For legal implications, this occurred in Texas (Dallas to be specific). I know laws vary by location.

About 4 months ago, we had a bad rainstorm and water seeped into the bathroom through foundation due to poor drainage near the outside wall. The tenants informed us and we told our contractor to call her and set up a time to go see it. We checked up a few times and he said the tenants had never returned his calls. After a few weeks we kind of forgot about it and let it slip until about a month and a half ago when we had another bad rainstorm and water seeped into the bathroom and bedroom. We got our contractor out there and he has fixed the drainage issue (hopefully - it's always hard to tell until it rains again).

After the second incident, the tenants basically used this as an excuse to break the lease (through Facebook we found out that they had a job transfer, but whatever). In any case, we agreed to break the lease in exchange for forfeiting the security deposit. They moved out a week ago, and we moved new renters in two days later.

Now for the drama...

I just received an email stating that the tenants' young son was hospitalized due to a sinus infection they claim was caused by mold. They sent pictures of a home mold test they did as well as pictures of mold growing on his mattress (his mattress was not on a frame, it sat directly on the floor which got wet during the water intrusion). They want us to now send them the full security deposit back or they will require us to pay for his hospital bills (I assume the implied threat there is they will sue). They claim we were in breach of contract when the water problem wasn't fixed the first time, and technically per Texas law we should also owe them rent for the two months where it wasn't fixed.

So all that said, a few questions:

1. Were we actually in breach of contract? We could probably go back to the lease and say we did not receive written notice of the request for repair (they sent a text message saying there was water leaking, but never asked for it to be repaired even in the text).

2. What would you do in this situation? Even if I'm in the "right", I just want this resolved with the least hassle and cost possible.

3. Regardless of who would win in court, if we decided to return their security deposit, I don't trust that they wouldn't come back and sue at a later date for hospital bills and rent they believe is owed to them. If we had them sign some sort of release of liability, would that ensure we would be done with this for good?

4. I think the mold was probably contained in their mattress, but as it was in direct contact with the floor, would you recommend I do a mold test in the room now that new tenants have moved in?