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Protecting Payment Series

Mind the Gaps Redux

Some time ago I posted about minding the gaps that can happen where the world of common law contracts meets Article 2 of the Uniform Commercial Code (“UCC”).  I see the same issues repeating in my work recently so it is time to revisit this topic. The interface between common law contracts and Article 2 “Sale of Goods” contracts under the UCC continues to surprise the unsuspecting. Sometimes at great expense.  This is particularly important in the construction industry where hundreds of UCC transactions happen every day as contractors and subcontractors buy the materials and equipment they need. Building construction requires thousands of physical parts and pieces and each component is “movable” when the contractor buys it. Because they are moveable these parts and pieces are legally defined as “goods,” which puts them in the ambit of Article 2 of the UCC. Article 2 of the UCC is a set of contract rules designed to expedite the sale of goods. Article 2, UCC contracts can be formed in any manner sufficient to show agreement on a few essential terms which often means minimal or no formal documentation.  This minimally documented contract formation is in contrast to the common law “mirror image” rules, where forming a contract requires a “mirror image” agreement on all the material terms. When a contractor and a supplier communicate over the sale of a product, they often have conflicting terms in mind but fail to express them either in writing, verbally, or in email. The parties still want to buy and sell the product and have usually done enough to show they intended to make a deal. The UCC treats that “deal” as an enforceable contract even though it is in many respects “incomplete.” This incomplete language in a contract can lead to trouble. What happens if there is a dispute about the goods later? Occasionally, the express terms of a “deal” do not line up with expectations.  These “gaps” are points along a fault line where, for example, the “deal” does not include terms from the general contract on important issues such as time of delivery or a product warranty.   Even though there is a “gap” between the two sets of expectations, the UCC recognizes the skeletal deal as the enforceable contract.  This can obviously happen a hundred times a day over purchases large and small. To deal with the missing pieces, the UCC provides a set of standardized default terms called “gap fillers” which provide an answer for many of the inconsistencies in the buy/sell contract for goods. However, the gap filler provided by the UCC may not be what either side originally thought they had agreed to and may force a seller or buyer to assume some major and costly risks. Similarly, the UCC permits disclaimers of warranty and limitations of remedy that differ from most common law contracts. My original post identified three gap examples: time for delivery; who bears the risk of loss or damage in transit; and limitations and disclaimers of warranty.  There are more but sometimes a real-world example is the best way to make the point about the potential impact of the UCC. Consider the 2003 Texas case of Wade and Sons, Inc v American Standard d/b/a The Trane Company, 127 S.W.3d 814 (Tex. App. 2003). In that case, the project ran six months late.  The general contractor fired the mechanical subcontractor.  The mechanical subcontractor sued The Trane Company claiming damages for breach of contract and late delivery of air conditioning equipment plus the subcontractor’s cost to fabricate and install certain piping which was supposed to come on the units. The subcontractor became frustrated with Trane’s efforts to address the problem as the subcontractor perceived it.  The subcontractor resorted to self-help and took it upon itself to fabricate and install the piping packages on more than 150 units already in finished space.  It then back charged Trane $74,000 claiming that Trane had breached its contract. The facts raised a number of UCC issues which point out the importance of being aware of how common law and UCC contracts differ.  One “gap” issue was the time of delivery.  Was the delivery late? Trane had submitted its proposal form for the equipment in March.  The subcontractor submitted its purchase order at the end of Aprilexpecting delivery in June.  However, the Trane terms of sale on the proposal said that the order would not be accepted until Trane approved the subcontractor’s credit.  Credit was not approved until the end ofJuly. The Trane units were manufactured and ready to ship in August, but without the piping packages. Trane tried to expedite by shipping the units without the piping packages and hiring a third party to fabricate and install the packages in the field.  The subcontractor decided this was not fast enough and prepared the piping on its own.  The subcontractor then withheld payment to Trane and Trane filed a mechanic lien. When the subcontractor asserted its back charge, Trane responded that it had included its standard terms of sale with its March proposal according to its standard practice.  The terms of sale required approved credit before the order was accepted. When the subcontractor placed its purchase order, it said it was ordering units “as specifically detailed in the proposal dated 3/10/98 and in accordance with the plans, specifications and all other related documents. . .”  By using the magic words “plans and specifications” the subcontractor may have felt it was binding Trane to the subcontractor’s terms.  The Court disagreed.  By incorporating the proposal into the purchase order the subcontractor had instead bound itself to the terms in the first form; the Trane proposal.  This is where the requirement for approved credit came from.  Credit approval took until July and cost the subcontractor critical months of production and delivery time. Trane’s terms of sale made full use of the opportunities provided by the UCC.  The Court did not find the delivery to be late.  The units were delivered within a reasonable time under the circumstances since Trane had not actually accepted the order until July.  Further, the Court focused on the disclaimer language in Trane’s terms disclaiming any warranty until the units were paid for. In any event, the court found Trane had disclaimed any liability for consequential damages for the cost of installing the piping. The disclaimer term was another UCC provision in operation to the surprise of the subcontractor. In the end, the attempt at self-help by back charging Trane backfired.  Instead of sticking Trane with the subcontractor’s costs of $74,000, the subcontractor back charge was not allowed and ended up paying Trane the lien balance of $58,000 for the units plus additional damages of $10,000, plus $30,000 for Trane’s attorney fees. What you don’t know about the UCC can bite you.  Resorting to self-help in the form of back charges to suppliers can be legally unsound and expensive.  Pay careful attention to those UCC Article 2 contracts for construction materials.  The smooth operation of most sale of goods transactions proves that Article 2 is highly functional, nevertheless, it may not align with a contractor’s expectations, so it pays to mind the gaps.

January 26, 2022

Protecting Payment Series

Mechanic Lien Rights: How Low Do They Go? Part ll

Part One on this topic of “How low?” discussed the issue of lien claims by remote claimants.  These can be a surprise to an owner or contractor.  Remote claims might come from suppliers and subcontractors perhaps several tiers deep on a construction project.  The limitation on the rights of remote claimants turns on the definition of who qualifies as a “subcontractor” by providing a “definite” and “substantial” portion of the work under the owner’s contract.  This could be providing specially manufactured materials that a “subcontractor” must have for the job.  The supplier to that lower tier “subcontractor” becomes the most remote party to claim a lien. “Surprise” liens are understandably unwelcome on any project.  In Minnesota and many other states, however, there is no requirement that subcontractors and suppliers of substantial commercial construction serve a notice to make them “visible” to the owner or the general contractor.  This can obviously result in the unexpected lien claims that trigger the “How Low Do They Go” disputes. A lien from the remote supplier discussed in Part One is not the only source for a surprise lien or bond claim on commercial and public construction work.  If one of the project subcontractors has failed to pay the required contributions to union fringe benefit funds, a lien or payment bond claim by fringe benefit trustees can appear—often late in the project and potentially in significant amounts.  Can they do that?  The answer is generally yes, they can. The typical problem may flow from the financial failure of a unionized subcontractor at some point during the project.  The general contractor probably already took a hit covering the work of that failed contractor.  Now they face another obligation to pay that subcontractor’s delinquent fringe benefit payments to honor their indemnity obligations to an owner or their bond surety.  The trustees and the fringe benefit funds did not, themselves, do work on site.  There was likely no advanced notice of this potential claim.  Yet, here it is in the form of a mechanic lien or bond claim. Isn’t this what the Employee Retirement Income Security Act is for, or the Labor Management Relations Act?  Although those federal statutes preempt certain state laws, the majority of state courts have held that neither statute preempts the ability of Fringe Benefit Trustees to file a mechanic lien or public bond claim to recover unpaid fringe benefit contributions. The Minnesota example of this in action is Twin City Pipe Trades v. Peak Mechanical, Inc, et.al., 689 N.W. 2d 549 (Minn App, 2004).In that case, the Minnesota Court of Appeals affirmed a lower court judgment in favor of the lien of Twin City Pipe Trades Service Association, Inc. (“TCPT”) acting on behalf of two fringe benefit trusts for union employees.  The applicable bargaining agreement and the trust documents effectively transferred the lien rights of the individual employees to TCPT.   The Court decided that the remedial purposes of the Minnesota lien statute were best served by permitting TCP T to act on behalf of the employees. The takeaway for the general contractor, and potentially the owner is the need to review contracts and procedures to minimize unexpected exposure.  They should consider revisions that require subcontractors to indemnify and defend against claims for unpaid wages and benefits. An alternative would be to require subcontractors to obtain payment bonds which would enable the general contractor to gain coverage.  Another alternative could be establishing firm deadlines for subcontractors to provide payroll records upon request or even as a condition precedent to payment; and creating systems and protocols to confirm timely payment of wages to subcontractors’ workers. Thankfully such problems do not appear every day—but they have and do appear.  There are no perfect answers but the solutions start with active awareness of the risk.

June 4, 2021

Protecting Payment Series

Mechanic Lien Rights: How Low Do They Go?

The extent of lien rights down the chain of subcontractors and suppliers is a perennial question. It can mean big dollars at risk for the potential lien claimant as well as for the owner and general contractor.   Which raises the question, who is simply too remote at the margins to have the right to claim a lien?  And what happens to the rights of a fabricator when the apparent “subcontractor” ordering that spec material is basically a pass-through? Mechanic lien rights are purely a creation of statute, but the given state statute may not clearly answer the question.  It is a timely question considering the proliferation of pre-fabricated and modular building components. The Minnesota statute says: “Whoever . . .. contributes to the improvement of real estate by performing labor, or furnishing skill, material or machinery for any of the purposes hereinafter stated, whether under contract with the owner of such real estate or at the instance of any agent, trustee, contractor or subcontractorof such owner, shall have a lien upon the improvement . . ., Minn. Stat 514.01 [emphasis added]..” The statute leaves open the question of just who might qualify as the “Whoever.” Clearly, there must be a limitation, or the list of potential claimants would go on indefinitely.   Owners and contractors would lose the ability to anticipate and protect themselves against lien claims.  This is especially true where early Notice to Owner or to the general contractor is not required.   Since the statute does not fully answer the question, we need to look to the case law. There is a longstanding proposition that a supplier to a supplier of standard materials is too remote.  Minnesota has an early example in Ryan Drug C v Rowe, 69 N.W. 468, (Minn. 1896)).   But that still leaves a substantial gap in the definition of who might have rights.  Not all suppliers of material and equipment are created equal.  Not all “subcontractors” have or make the materials they need, and not all perform their work on the project site.  In today’s construction environment very substantial sums of money can hang in the balance. Our examination of the lower limits of lien rights would seem to turn on the definition of a “subcontractor.”  The statute gives rights to the one who furnishes materialsto a “subcontractor.”  That supplier would then be at the bottom of the list with lien rights, but only if its customer is actually judged tobe a “subcontractor.” To define who might qualify as a “subcontractor’ there are two main lines of authority in the cases.  The minority rule would require that the subcontractor do work on site.  The majority position does not require the work or furnishing to be provided on-site.  Minnesota has followed the majority position although there are not many reported cases.  An early example isEmery v Hertig 61 N. W. 83,(Minn. 1895)) involving granite columns polished off-site. The Minnesota statute does not say one way or the other anything about the contribution being on-site so the court would still require something more to distinguish between subcontractors and material suppliers at the margins of the supplier to supplier limitation.  For the states which do not require on-site labor, the common focus is whether the potential lien claimant performed some definite and substantial portion of the work or materials called for by the owner’s contract. A recent decision from the Indiana Court of Appeals gives an example of this issue in application.  Service Steel Warehouse Co v United States Steel Corp, Court of Appeals No. 20A-CC-1643, May 3, 2021. General contractor Carbonyx needed a quantity of custom fabricated structural steel trusses and columns for an industrial building.  Carbonyx ordered the fabricated steel from Troll.  The work required cutting, bending, welding, and riveting of large structures.  Troll contracted to provide the fabricated steel but lacked the capacity to fabricate such large structures itself.   Troll ordered the necessary steel from supplier Service Steel with direction to ship the steel to Texas Steel for the actual fabrication.  Texas Steel then shipped the products back to Carbonyx for installation. Troll failed to pay Service Steel.  Service Steel filed a large lien on the project.  Service Steel was clearly a “supplier,” but what is Troll if it outsourced the work?   If Troll is just a material supplier to Carbonyx because it outsourced the material and fabrication, then Service Steel is a supplier to a supplier and has no lien.  If Troll is a subcontractor because its contract required both material and special fabrication, then Service Steel is a supplier to a subcontractor and does have a lien right. The Indiana Court of Appeals adopted the majority position and decided in favor of Service Steel’s right to a lien. The Indiana court acknowledged that off-site work is a growing part of the construction industry.  That off-site work might involve multiple players as in Steel Service Warehouse.  The central inquiry becomes whether the “subcontractor”, of whatever tier, performs a “definite” and “substantial” portion of the work required under the owner’s contract citing the New Mexico case of Vulcraft v Midtown Bus. Park, Ltd, 800 P2d 195, (N.M. 1990): “To qualify as a subcontractor, the party must perform some portion of the work for which the owner originally contracted. It is not necessary that the work be done at the construction site, but work must be performed to the contractor’s plans and specifications.  The work can be performed on material supplied to another subcontractor of the contractor, but the material cannot be generic, stock off-the-shelf items or items generally available without modification—it must be fabricated uniquely or specially by the contractor for the requirements of the particular project.”  Vulcraft v Midtown Bus. Park, Ltd, at 200-01. This analysis is consistent with our Minnesota cases in Illinois Steel Warehouse Co v Hennepin Lumber Co, 182 N.W. 994 (Minn 1921), and Weyerhauser v Twin City Millwork  191 N.W. 2d 401 (Minn 1971) in the context of public work. As the chain of intermediate “subcontractors” becomes attenuated, the cases become heavily fact-dependent but the “definite and substantial portion” guidance coupled with the remedial purposes of the lien should lead to reasonably predictable results.

May 17, 2021

Construction

Liens on Wind Farms?

Windfarms proliferate in response to the growing need for renewable energy.  At the same time, their birth and death can create collateral issues.  For example, disposing of damaged turbine blades is a challenge.  The blades are more than 100 feet long and could need to be cut to even fit on a semi-trailer for disposal. The birth of a wind farm can create other issues not only for the landowners but also for the multitude of contractors and subcontractors needed to build them.  A modern windfarm may include dozens of individual towers and turbines spread over several miles, and connected by underground cables. The developer probably does not actually own the land where each tower is located.  The developer may have no more than a lease or an easement on an area big enough to construct the base and tower itself which likely stands in the middle of a field belonging to a third party. Developers are also leveraging the large sums of credit each construction tier is extending to build the bases and towers.  If anything goes wrong from manufacturing mistakes to weather delays, there will be a ripple effect in the flow of payments to the contractors and subcontractors prompting calls to lawyers about mechanic lien protections. The lawyers’ response may not be what the caller expected. If a payment problem develops for a party on one or more towers, it may be expensive to attempt to specifically identify the tower location for any effort to file a mechanic lien, let alone find dozens of such parcels.  Each individual tower sits on its base, but that is likely to be a relatively small area in a larger parcel well-spaced from the next tower connected only by its miles of cable.  The developer’s rights in the location of that tower base and cables are defined in its agreements with landowners and may include language to the effect that the base and tower could eventually be removed.  While actual removal would be problematic at best, such provisions further undercut the ability to make a traditional mechanic lien claim.  At least one court in Illinois was faced with similar facts and decided that the base and tower are removable trade fixtures and not lienable at all. Minnesota, at least, may have an answer in Minnesota Statutes Section 514.04.  The statute provides: 514.04 LINES OF RAILWAY, TELEGRAPH, OR SIMILAR PROJECTS. If such contribution be thus made for the construction, alteration, or repair of any line of railway, or any structure or appurtenance of such railway, or of any telegraph, telephone, or electric light line, or of any line of pipe, conduit, or subway, or any appliance or fixture pertaining to either, the person performing such labor, or furnishing such skill, material, or machinery, shall have a like lien upon the lines so improved, and upon all the rights, franchises, and privileges of the owner appertaining thereto. This particular statute has been part of Minnesota’s mechanics lien laws for well over 100 years.  As with the whole of Minnesota’s lien statutes, it is an expression of public policy to protect the rights of those providing labor and materials and to address what were then newly developing types of improvements.  This section was conceived to provide a means to secure payment to contractors and suppliers for projects like railroads, telephone and electric lighting which did not fit the “standard” mechanics lien model of private improvements to particular real estate. These works are the parts of systems or networks that cross many parcels including county lines. This section creates a different kind of lien right for projects that may include a mixture of real and personal property rights. This variation of lien right applies to labor and materials claims which may cover an extended distance and cross county or state boundaries.  Such works may or may not relate to specific real estate but they represent a bundle of “rights, franchises, and privileges” which have substantial value.  The statute creates a recordable claim comparable to a Uniform Commercial Code (UCC) security interest a bank would take in contract rights or other intangible property rights.  To perfect the lien, the lien statement is recorded in the office of the Secretary of State in much the same way as a UCC financing statement.  This lien would be enforced with a suit in state court in much the same way as the more traditional mechanic lien claim would be enforced. Absent a new statute to specifically address windfarms this concept of a lien on the bundle of “rights, franchises, and privileges” would seem to be well suited not only to windfarms but to similar connected networks like fiberoptic internet cables.  It is also an important means to support and protect the tiers of credit that the whole construction industry relies upon to function smoothly.

April 19, 2021

Protecting Payment Series

Another Warning on Lien Waivers

I have lost count of the number of times I have warned construction industry clients to be careful with lien waivers.  They may seem to be just routine—until they are not.  A recent case from the Wisconsin Court of Appeals; Great Lakes Excavating, Inc. v Dollar Tree et al (March 30, 2021) underlines the importance of paying attention to what you sign.  Great Lakes’ lesson cost $188,000 when the waiver it intended as partial, actually turned out to be a full waiver. Wisconsin’s lien waiver statute is different than Minnesota’s but this same problem could arise in either state or elsewhere.  Soil conditions caused the Great Lakes’ charges to balloon.  In this case, the general contractor disbursed only the original contract amount.  Great Lakes then altered the heading of the general contractor’s lien waiver from “Waiver of Lien to Date” to “Waiver of Lien Partial”.  The general contractor failed to pay the rest of the amount due.  Great Lakes foreclosed but the Circuit Court granted a summary judgment invalidating the lien.  Great Lakes had failed to modify the printed language of the waiver form which still expressly stated that the signer waived and released “any and all lien . . .on account of labor, services [or] materials. . .furnished to this date.”   Simply crossing off “to Date” in the heading and writing in “Partial” did not make a full waiver partial. Waiver forms need to be read with particular care.  Some final waiver forms contain additional language such as an affidavit affirming that all labor and materials have been paid, or releasing all claims which could waive pending change orders or claims for delays or extra work.  In most places, lien waiver forms are not statutory and not “standard.”  Each one can raise a new challenge quite apart from the ongoing battle to get a waiver before releasing payment. Lien waivers serve as a paid receipt.  In most, but not all, cases lien waivers require consideration to be enforceable.  That shouldmean that the party giving a waiver has actually been paid.  Wisconsin is one of the exceptions to that rule and a signed waiver can be “live” and valid even without any payment. There are two main types of lien waivers; full final payment and partial payment.  Each has two subtypes; unconditional and conditional.  About 12 states now actually dictate their lien waiver forms. California, for instance, mandates the required forms.   In most states, the lien waiver form is a choice, even where the form of a conditional waiver is not formally recognized in the statutes A full final unconditional lien waiver is appropriate where the contractor or supplier is actually paid in full.  A conditional final lien waiver addresses the situation where the owner, lender or contractor is insisting that it collect allthe final lien waivers before it will release the final funds.  A conditional waiver normally reflects that the signer is not paid yet.  Often the signer holds a check in exchange for the conditional waiver, but the waiver itself states it is only effective when the check clears the bank on which it has been written.  If the check does not clear, then the lien wavier is not effective.  The language of the waiver is a clear indication to the party receiving it that final payment has not been made and some follow-up will be required. Partial lien waivers, both unconditional and conditional, work the same way, but in the world of partial lien waivers, there are additional cautions.  First, a partial unconditional lien waiver is not appropriate where the signer does not have a check-in hand.  Unconditional waivers should not be released for any amount that is not presently paid.   If the money is not presently paid, the appropriate form is a conditional waiver.   There is also an important distinction between waiving lien rights through a date versus waiving only through an amount.  It is all too easy to waive rights through a date only to discover that there was more work or material which had not been billed yet and is now without lien protections.   Lien waivers only to the extent of payment actually received is safest. Sound lien waiver practice is good for both the owner and the lien claimant.  To avoid unnecessary surprises and expensive lessons all industry participants should use the right type of lien waiver form and read it with care before signing it.

April 12, 2021

Construction

Clouds Gathering on the Payment Horizon

There are clouds gathering now on the payment horizon for the construction industry.  The clouds converging now and on into the fall call for even greater attention to protecting construction industry receivables. This applies to the industry from top to bottom. Construction was an “essential business” allowed to continue operating in Minnesota.  That designation allowed work to continue but is no guaranty that any given project reaches completion without impact.  Even “small” impacts from slower permitting and funding approvals have ripples that can impact the ability to get paid. No construction business can survive long without timely cashflow from its receivables. Some of the converging clouds like Covid-19 health impacts and the wholesale disruption of the economy could not have been foreseen earlier when we were doing our blog series on protecting the rights to payment in construction.  Add the growing risk of business bankruptcies, the ending of stimulus money and the disruption of supply chains.  Industry surveys by the Minneapolis Federal Reserve Bank reveal a continued nervousness about construction industry conditions by fall.  Now add the ingredient of recent civil unrest, and the clouds get even darker which endangers ongoing construction and the flow of vital cash. Understanding and protecting the ability to claim a lien for labor and materials in construction needs to be a central focus to protect that flow of cash.  It is important to keep in mind that the ability to claim a lien provides a kind of collateral for the vast sums of credit that suppliers, subcontractors and contractors contribute to funding construction from one day to the next.  Imagine what would happen to construction if that pool of credit was not available and a project owner had to pay cash for labor and materials daily. Screeching halt. The ability to look to lien rights–done right– is a way to say yes to that next project without taking on existential risk to your company from late payment or even non-payment.  Protecting lien rights is a process and not an event.  That process starts at the very beginning of a jobwith good project information about the project, the players, project financing and the property involved.  Contractors need to take full advantage of contract language giving the right to project funding information.  Early attention to preliminary Notice to Owner requirements is also a must for smaller commercial construction and tenant work.  The time for Notice begins to run from first work for subcontractors and suppliers. As cash gets tight contractors also need to keep the Minnesota construction trust fund law in view.  Misdirection of trust funds can bring on a whole new level of misery. Liens must be recorded and served within 120 days of a documentable last day of work and foreclosed within one year of that date.  In most states, a Bankruptcy filing on the project does not prevent the recording of a valid lien but would halt foreclosure pending a lifting of the Automatic Stay. Actually, having to record a lien is certainly not the goal of any contractor or supplier.  Paying attention to the steps necessary to preserve the ability to record that lien isan important goal and it is time now to recognize a clouded environment in which payment risk is increasing. Take steps now to crank up attention to those lien fundamentals. The future of the company may depend on it.

June 11, 2020

Construction

Construction Material Suppliers in the COVID-19 World: Uniform Commercial Code 2-615

This is the third part in this series. Part Two of this series discussed purchase order contracts for materials which may have a force majeure clause of some description (including possibly in online terms).  Where there is noexplicit force majeure clause, suppliers should look to the Uniform Commercial Code (UCC) which provides an integrated body of rules for the sale of “goods” including moveable construction materials and equipment.  The UCC is a matter of state law.  The pertinent section is Article 2 section 2-615.  The Minnesota version of the statute provides: 336.2-615 EXCUSE BY FAILURE OF PRESUPPOSED CONDITIONS. Except so far as a seller may have assumed a greater obligation and subject to the preceding section on substituted performance: (a) Delay in delivery or non-delivery in whole or in part by a seller who complies with paragraphs (b) and (c)is not a breach of duty under a contract for sale if performance as agreed has been made impracticable by the occurrence of a contingency the nonoccurrence of which was a basic assumption on which the contract was made or by compliance in good faith with any applicable foreign or domestic governmental regulation or order whether or not it later proves to be invalid. (b) Where the causes mentioned in paragraph (a) affect only a partof the seller’s capacity to perform, the seller must allocate production and deliveries among the seller’s customers but may include regular customers not then under contract as well as the seller’s own requirements for further manufacture. The seller may so allocate in any manner which is fair and reasonable. (c) The seller must notify the buyer seasonably that there will be delay or non-delivery and, when allocation is required under paragraph (b), of the estimated quota thus made available for the buyer. [emphasis added] The supplier’s performance may be excused or modified where something happened that neither party could foresee.  What it would take to prove that performance has become commercially unreasonable/impracticable is an open fact question except that the cause could not be foreseen. Simple increased cost or loss of a preferred source of supply might not be enough.  A further analysis needs to examine how the event affects the supplier’s performance.  First, the supplier must give notice that the event will affect performance.  Secondly, does the event affect the supplier’s whole performance or just part? The statute a requires the seller to make commercially reasonable assessment of whether some part of the performance is still possible and allocate whatever product can be produced among the supplier’s customers if possible. The following statute section 2-616 addresses how a buyermight respond to notice that its  supplier is declaring commercial impracticability.  Where the circumstances justify it the buyer may terminate the contract and try to find the goods elsewhere.  Otherwise the circumstances may suggest supplier’s modified performance including some reasonable allocation. These statutes together also offer an opportunity and encouragement to the parties to work out an acceptable resolution between themselves where that is possible. Both 2-615 and 2-616 fill in missing pieces of the purchase order contract, but under 2-615 the seller is not home free.  The statute does not bar a buyer from suing the seller for damages which would test the supplier’s claim of impracticability. In fact, the supplier might be on the receiving end of a notice from its own supply chain and the analysis starts again. Read additional posts in the series Construction Material Suppliers in the COVID-19 World here.

April 24, 2020

Construction

Warranty? What warranty?

Sometimes construction material or equipment the contractor buys turns out to be defective.  It leaks. A part is missing.  Something simply does not function straight from the box.  Jumping on the defect claim may not seem to have highest priority in the middle of a construction project.  “Back charge” may the automatic response, but it may also be the wrong one. Typically, the contractor warrants that all materials and equipment will be new and of good quality and it warrants that its workmanship will be free from defects.  The contractor usually also warrants that it will come back for one year (or more) to repair or replace work which is found to be defective (at least in the eyes of the owner). If an issue arises on the job, any differences between the contractor’s warranties and the warranties on that material or equipment become important.  Contrary to a contractor’s usual expectations, those warranties often do not correspond.  The contractor may discover it made broader warranties to an owner than the warranty available from the particular vendor and finds itself liable to the owner to fix a “defect” in the vendor’s product or system (“defect” in the eyes of the owner) or for a measure of damages not covered by the vendor’s warranty.  This hazard is particularly important in this time of pervasive design-build. When construction material or equipment arrives, the contractor has the responsibility to inspect them before they are legally accepted or rejected. (UCC 2-513).  Once the goods are accepted, the focus shifts to the vendor’s warranties.  In order to protect the right to a warranty claim against the vendor or manufacturer, UCC requires timely notice of the defect claim.  Failing to give notice can result in being barred from having any remedy. That could include effectively invalidating that back charge that jumped to mind.  Attempting to rely on an unsupportable back charge could end up exposing the contractor to a lien or bond claim by the unpaid vendor as well as the “defect” and the cost to fix it because of the upstream warranty obligations to the general contractor or the owner. The important notice requirement is UCC Section 2-607 (3)(a):  where a tender has been accepted (contractor took delivery of the goods, used them or did not send them back promptly) the buyer must, within a reasonable time after buyer discovers or should have discovered any breach of contract (defect),  notify the seller of the breach or be barred from any remedy. In addition, in recognition that vendors of goods often have little flexibility in price for most products, those vendors need to be able to control their risks because risk translates to cost.  The UCC allows vendors to disclaim most warranties and provide only a limited warranty instead.  The limited warranty is often expressed as repair or replace only.  Repair or replace generally does not include the cost to remove and reinstall. There is no universal rule for limiting this risk exposure to contractors. The UCC presents buyers and sellers of construction materials and with both opportunities and challenges.  Reading the forms you use or sign is the first step.  What warranty and what limitations does the vendor actually make? Just because someone says “per plans and specifications” may not overcome a limited repair/replace warranty or extend a short warranty into a longer one.  Even where a vendor’s warranty terms may not be very negotiable, the contractor must at least recognize and understand the risks it takes on board and manage the work accordingly. The reflexive resort to a back charge might leave that contractor high and dry.

February 14, 2020

Construction

What Happens If You Don’t Have A Lien?

In each state, statutes govern the right to a construction lien.  It is almost inevitable that someone, someday, will not meet a required step.  The lien is lost, and with it, whatever leverage or payment security it represented. There is still a balance to collect—unless the creditor has improvidently signed something that also waives the right to payment of the claim.  This could be a Pay-If-Paid clause in the contract, or some quirk in local law extinguishes the debt as in a recent Georgia Court of Appeals decision.  ALA Construction Services v Controlled Access, Inc.(Ga Ct App, 5th Div 9-18-2019). The first thing to do is gather the facts and assess what collection rights are available.  In almost all cases there is still a basic contract claim against the other contract party.  That might be the project owner.  It might be a contractor or subcontractor.  The contract law principle of privity says that you have a contract claim against your contract counterpart. You do not have a right against a third party except in unusual circumstances.  If you sold construction widgets to a contractor, but the contractor has no money, it is unlikely you have an enforceable claim against the project owner (or the shareholders of the contractor).  Although, never say never.  There are some equitable claims which might apply to reach a third party with the right set of facts. If you think one of these unusual situations apply you should discuss this promptly with your lawyer. If you are going to have to take collection action against your contract counterpart where are you going to do that?  This is the concept of “venue.” If you had the construction lien you would (by statute) have to bring your action in the place/venue where the property was regardless of where your counterpart is located.  The project might be in Minnesota, but your counterpart is in Milwaukee, Wisconsin.  Your contract might specifically say that your counterpart has agreed to be subject to court jurisdiction in your home state of Minnesota.  In that case the venue is probably in a Minnesota court.  Without that language, however, the most likely venue for the action would be in Milwaukee, Wisconsin. Next, take a good look at your file.  Do you have the documents which form the contract?  Do you have all the invoices and were they sent to the right address of your counterpart?  Do the invoices actually add up to the balance on your books after allowing any payments or appropriate credits? Has your counterpart disputed the charges?  Did you clearly document your response to the dispute?  If any of this is missing, now would be the time to find it rather than a scramble later when your lawyer asks for it. Did you get a personal guaranty from someone?  Is it too old and likely “stale?”  Has the guarantor been notified that there is a claim on the guaranty and has there been a written demand for payment?  Courts are often solicitous of guarantors where the guaranty is old or the fact circumstances look “unfair” in some way.  If your guarantor is the owner of the construction company which has no money, then in many cases the owner will have put his or her money into the company to keep it going and may also have no money.  This is just a cautionary note to avoid unrealistic expectations.  It may also serve as a prompt to revisit the guaranty agreements you thought you had. If you must sue to collect your money the objective is a money judgment.  Each state then has its own collection procedures like garnishments, judgment liens and levies of execution which enable a sheriff to seize money or property.  These remedies almost always need a lawyer’s help to navigate successfully because states also have laws which declare some kinds of property exempt from judgment creditors. A person’s homestead is almost always at least partially exempt. Finally, if it happens that your judgment is against the Minnesota homeowner that hired you directly to do work on their home you might still end up with a “lien” even though your Minnesota mechanic’s lien was lost.  This is the result of a clause in the Minnesota State Constitution which says that the homestead exemption would not apply in this instance.  The result is that your judgment can become an enforceable lien against that homestead property. All these additional considerations for collection are second choice where a lien could have been filed.  The process of collecting your construction industry receivables starts when you first hear of the job and not when the horse has left the barn at the end. Hopefully, this series of posts has readers thinking about how they can protect their ability to collect and, at the same time, how the project owner can understand the perspective of the lower tiers of contractors and suppliers to better manage the flow of funds on the project to everyone’s benefit.

January 14, 2020

Construction

Can a “Pay If Paid” Clause Bar Lien and Bond Claims in Minnesota?

This continues our blog post series on protecting payment in the construction industry. In this post, we ask the question, “Can a Pay If Paid clause bar a Minnesota lien or bond claim?” Despite the contract language, the answer might be: no. Contingent payment language is common in contracts between prime contractors and subcontractors. The answer to our question, therefore, primarily affects the potential defenses of a prime contractor against a subcontractor asserting its lien or bond claim. On private construction the answer is also important to owners. If the contractor’s Pay If Paid clause does not bar the lien, then the owner’s project is at risk and in Minnesota that could mean paying twice for the subcontractor’s work. Keep in mind, however, that the owner is already no-pay or slow-pay with that contractor to activate the Pay If Paid issue. There are two main types of contingent payment clauses in construction contracts. The most common is called Pay When Paid. This clause affects the time for a subcontractor to be paid. It shifts the risk of owner slow payment to the subcontractor. Once the prime gets paid it will owe payment to the subcontractor. Even if the contractor has not been paid it will still owe payment to the subcontractor within a “reasonable time.” Since the clause affects the timing of payment but not the right to payment, it does not bar a timely lien claim. The other contingent payment clause is called Pay If Paid. This clause is intended to affect the right to payment and shift the whole risk of owner non-payment to subcontractors. This is essentially a gambling clause for the subcontractor. It is much less common than the Pay When Paid but its impact on a subcontractor can be existential. If the subcontractor has no right to payment, it would seem to undermine the right to a lien or bond claim. Practice Pointer: Any subcontractor must read its contract carefully for contingent payment language and strike a Pay If Paid clause or offer a Pay When Paid alternative. Minnesota case law supports the reasonable enforcement of Pay When Paid clauses. The reported cases have not yet shown just how the Minnesota courts would respond to a serious attempt to enforce a Pay If Paid clause. The Minnesota Court of Appeals has said that conditions precedent, such as contingent payment, are generally disfavored. Any Pay If Paid clause would have to make owner payment an explicit and unambiguous condition precedent to the obligation to pay the subcontractor. See Mrozik Const v Lovering Assoc. 461 N.W. 2d 49 (Minn. App. 1990). The obvious unfairness of Pay If Paid from the perspective of the subcontractor is compounded by the fact that the prime contractor deals directly with the owner and is in the best position to assess the owner’s credit and financing before it takes the project and hires the subcontractor. The popular AIA A201 2017 General Conditions, for example, expressly provide that the prime contractor can request evidence that the owner has financing for the project and does not have to start work until the owner furnishes that information. A number of states have responded by outlawing the Pay If Paid clause by statute. Wisconsin is one, South Carolina and Delaware are two more. California, New York and Nevada courts handled the issue in a different way. Each barred the enforcement of Pay If Paid on the basis of public policy and that the clause amounts to a waiver in advance of the right to a lien claim. Each of those states had statutes which protected subcontractors against being compelled to waive lien rights in advance. Interestingly, Minnesota has a similar statute barring waiver in advance of lien rights which would seem to open the door to making the same argument against enforcing a Pay If Paid clause in the state. Practice Pointer: The subcontractor faced with the Pay If Paid defense to its lien claim should look to the cases in California, New York and Nevada and Minn. Stat 337.10 to push back against the clause. A Pay If Paid clause in a subcontract on public work in Minnesota is less likely to be a concern. The owner is a public entity. On bonded private construction, however, the Pay if Paid issue may threaten the ability to make a bond claim. The traditional legal obligation of a surety is co-extensive with its principal. If the bonded contractor could assert a Pay If Paid defense, the surety can assert that same defense arguing that if the contractor did not have to pay then the surety does not have to pay either. In private construction the payment bond is, essentially, intended to be in lieu of mechanic liens. In a state like Wisconsin where the Pay If Paid clause is outlawed by statute, the surety cannot rely on it as a defense. In Minnesota, the answer is less clear because a payment bond surety can be sued on the bond directly. If the bonded prime contractor is not an indispensable party to the bond claim query, what effect does that have on the surety’s ability to base its defense on a clause it plucks from its principal’s contract? Conditions precedent are generally disfavored by the courts. The first challenge would be language of the clause presenting an explicit condition precedent. Then, if the court could accept the analogy to the statutory bar against waiver of lien in advance, the surety may similarly be barred from relying upon the Pay If Paid clause. No one wants to be the test case that decides whether Minnesota’s statute barring lien waiver in advance can be used to prevent the enforcement of a Pay if Paid clause. Where the question presents an existential risk to some subcontractors, the battle will be joined and the subcontractor may find that it has some ammunition of its own to protect its right to payment.

December 4, 2019

Construction

What Surprises Lurk In That Certificate of Insurance?

This is a relevant concern not only for any project owner or developer that requires a certificate of insurance from the prime contractor. Certificates of insurance are used so commonly as proof of insurance that they may tend to be a “check the box” item that just goes into the project file without a careful reading. A certificate of insurance is generally a form document issued by an agent for a contractor’s insurance company to confirm that the company has issued a certain type of policy for certain policy limits. For example the certificate confirms that your contractor has a Commercial General Liability (CGL ) policy with the 3 million dollar limits your contract requires.  The certificate is supposed to be a summary.  It does not contain the terms of the policy.  It does, however, contain a disclaimer that the certificate is issued as a matter of information only and that the certificate confers no rights to the certificate holder.  It is not intended to amend, extend or alter the coverages set out in the policies themselves. Assume you received the contractor’s certificate of insurance for your project. You checked that box.  So what could possibly go wrong? First of all remember that the insurance identified in the certificate provides certain coverage to the named insured. That “insured” is not you, however, unless you are named as an additional insured.  Additional insured coverage means that as the certificate holder you may have the right to invoke coverage for defense or indemnity under that contractor’s insurance policy rather than your own. Additional insured coverage is not provided in the CGL policy.  It must be added, if at all, by an endorsement.  It shows up as a notation near the bottom of the Certificate. Your certificate identifies you as an additional insured, but that may not be the end of the story. Not all additional insured endorsements are created equal.  Many have important limitations in just what coverage the additional insured gets. When an injury or property damage happens you may discover that the additional insured coverage is not what it appeared. The coverage is usually no more and often less than the coverage the named insured has under the policy. It also matters when that damage occurred.  The usual CGL policy covers the named insured for bodily injury or property damage caused by the named insured during the course of the work.  That coverage ends once the work is completed.  If your occurrence comes after completion, the additional insured endorsement excludes coverage unless there is also an endorsement for completed operations. A notation of that endorsement should also show up on the certificate.   There may be other limitations on defense costs for the additional insured, or limits on liability to confirm to the underlying contract. The author recalls a subcontractor CGL policy which had an exclusion for claims involving condominiums. Accordingly, the additional insured also had no coverage for condominiums. But maybe that certificate does provide coverage despite the disclaimer. State court cases are appearing in which courts hold on particular facts that the insurance company is bound by the terms of its certificate of insurance even if that conflicts with the policy.  See T-Mobile USA v. Selective Ins. Co. of America, No. 96500, 2019 WL 5076647 (Wash. Oct. 10, 2019). Brown & Brown v Omni Metal, Inc. 317 S.W.3d 361 (Tex App-Houston[1st Dist] 2010) Practice pointer to the certificate holder: if you are intending to rely on the coverage you asked for, you need to read the policy and endorsements to see just what you are getting and don’t overlook completed operations coverage. Practice pointer to the insurance agent writing the certificate: make sure that the certificate is worded correctly when identifying additional insureds or referring to “all risk” coverage where the actual policy has limitations and exclusions.

November 27, 2019

Construction

Slow Paying Customers Can Bring a Contractor Down

This is the eighth in our series of posts on protecting the right to payment in the construction industry. I have recently seen a couple of blog posts highlighting a survey from late summer (Rabbet Partners and Procore; 2019 Construction Payments Report).  The survey reported that the direct and indirect costs of slow payment to the construction industry for 2019 were estimated to exceed 60 billion dollars. That really brings the scale of payment issues into focus for the industry from top to bottom.  Important players such as lenders and investors may be many layers removed from the nitty gritty of their projects and may not fully appreciate these impacts and what it can mean for their project investments.  The survey results also fall right in line with the theme of this series of posts around protecting the rights to payment. The survey pointed out that a company whose customers pay at 90 days typically would need up to 6 times as much cash to carry a project as the company with customers paying at 30 days. Consider that an average turnaround for a contractor’s invoice or payment application was from 50 to 75 days—but this was after up to several weeks involved in preparing and presenting the contractor’s monthly payment application.  Meanwhile, the contractor’s cash needs don’t stop.  Running out of cash for payroll and must-pay invoices is a major contributor to the subcontractor failures that can ripple through an entire project.  For small contractors the issue can be existential. The slow pay owner (or contractor) may not fully appreciate the risks that slow pay can present for the project as a whole.  Apart from triggering subcontractor failure, the effects can be slowed deliveries of critical materials that the vendor will not release without payment.  Delayed payrolls lead to layoffs of workers already in limited supply.  Work can slow down or even stop in some critical corner of the job.  In the longer term, slow payers probably will not be getting the best bids (or even any bids) going forward as subcontractors and suppliers price the costs of slow pay into their estimates. If we couple this information about slow payers with the rising concerns about tariffs on construction materials, early signs of a coming recession, and the financial bubbles which have developed both in the US and abroad, it makes for a call to action. The construction industry, at all levels, needs to step back and look realistically at both the present and the probable future of construction and direct  new attention and urgency to protecting  payment rights and cash flow. Sixty billion dollars is simply too much “lost” value to ignore not counting the more day-to-day concerns of individual construction businesses.   The state lien and bond laws exist for just this purpose—to protect the right to payment.  But those laws are not self-executing.  Most companies “know” what they need to do.  They just need to focus more effectively on doing those things.  Starting from awareness, they need to develop effective project information-gathering, including confirming the project financing.  They need to be aware of the requirements of the lien and bond laws in the states where they are operating. They need to carefully observe the preliminary notice requirements for those states keeping in mind that some of those notices might be due within days of starting work.  They also need to watch for the challenges of contingent payment language in contracts and they need to be sure to follow through to file lien or bond claims in those instances where it becomes necessary to protect payment. Risk is inherent in construction but the risks to the right to payment can be managed with the right attention. The process of collecting payment starts at the beginning and not at the end of the project.

November 20, 2019

Construction

The Importance of Lien Waivers

Lien waivers do not get the respect they deserve in the realm of protecting the rights to payment in construction. In a prior post in this series we shifted the focus to the owner’s perspective on the problems of liens and payment including the need for collecting lien waivers. Lien waivers are important to both owners and claimants because they are a customary tool for managing risks of liens on one hand and payment on the other. Lien waivers serve as a paid receipt. Provided they are used and understood properly, lien waivers should help to track the money on the project and continuously clear the lien rights of contractors and suppliers. In most cases, lien waivers require consideration to be enforceable.  That should mean that the party giving a waiver has actually been paid.  In many cases, however, contractors or owners demand lien waivers as a condition for payment, or a potential claimant fails to use the correct form.  Contractors and suppliers may fail to read the small print on what they sign and risk unintended loss of lien rights. Owners often fail to appreciate that they need the waivers of subcontractors and suppliers and not just their general contractor.   Any of these scenarios represents an avoidable breakdown of sound practices with consequences. It is also important to know that there are some states where lien waivers do not require consideration. In those states, the waiver is considered to be “live” when it leaves the signer’s hand.  So, an extra degree of caution is required in those states. There are two main types of lien waivers: full final payment and partial payment.  Each of those has two sub types: unconditional and conditional.  About 12 states now prescribe lien waiver forms.  In California, for instance, the correct form in each category is prescribed and required.   In most states the lien waiver form is a choice even where the form of a conditional waiver is not formally recognized in the statutes. A full final unconditional lien waiver is appropriate where the contractor or supplier is actually paid in full. A conditional final lien waiver addresses the situation where the owner, lender or contractor is insisting that it collect all the final lien waivers before it will release the final funds.  A conditional waiver normally reflects that the signer is not paid yet.  Often the signer holds a check in exchange for the conditional waiver, but the waiver itself states it is only effective when that check clears the bank on which it has been written.  If that should fail to occur, the lien waiver is not effective. The language of the waiver is a clear indication to the receiving party, in order to avoid any misunderstanding, that final payment has not been made and  that some follow up will be required. Final waiver forms need to be read with care. Some final waiver forms contain other language such as an affidavit affirming that all labor and materials have been paid, additional warranties or waivers of any lingering claims. Partial lien waivers, both unconditional and conditional, work the same way, but in the world of partial lien waivers there are additional cautions. First, an unconditional lien waiver is not appropriate where the signer does not have at least a check in hand.  Unconditional waivers should not be released for any amount that is not presently paid.   If the money is not presently paid, the appropriate form is a conditional waiver.  Further, however, lien waivers requested from the lower tiers of subcontractors and suppliers are often non-standard forms and may contain additional language or waivers of rights which may or may not be correct or intended.  There is also an important distinction between waiving lien rights through a date versus waiving only through an amount.  It is all too easy to waive rights through a date only to discover that there was more work or material which had not been billed and is now without lien protection.   Lien waivers only for payment actually received is the safest route to take. Sound lien waiver practice is good for both the owner and the lien claimant. To avoid unnecessary surprises all industry participants should use the right type of lien waiver form and read it before signing it.

November 6, 2019

Construction

Using Payment Bonds to Protect Payment Rights in Construction

This is the sixth post in our Construction series, Protecting Payment. In the last post I suggested surety bonds as one way an owner could either avoid or “remove” liens.   Consistent with our focus on the theme of protecting the right to payment, this post will focus on payment bonds for private construction.  Payment bonds usually provide a shorter and straighter path to payment than construction liens, but bond claims are not fool proof.  Every potential bond claimant needs to remain aware of the limitations. Private project owners have the choice to require their prime contractor or contractors to provide surety bonds. The cost of the bond premium usually rolls into the contractor’s price, but provides important value to the owner.   Most construction surety bonds come in two parts.  One is a performance bond for completion of the contract work.  The other is a payment bond for labor and materials. The bonded contractor then also has the choice to require similar bonds for its protection from subcontractors. A surety is a guarantor standing behind the commitment of its bonded contractor to perform the contract and pay for labor and materials. A surety bond is not insurance, however.  The surety never plans to pay claims out of its own pocket like an insurance company.  The surety has a contract called a General Agreement of Indemnity (GAI) with its contractor.  The GAI spells out rights of the surety and responsibilities of the contractor including the obligation to ultimately hold the surety harmless from claims.   Both the contractor and the surety share the economic interest of vetting claims carefully and resisting them where there are disputes or defenses.  The bonds themselves have time limits to make and enforce claims and may limit who can make a claim at all.  Any party who expects to look to a payment bond to protect its rights to payment on a construction project should get a copy of the bond and read it to know what the terms are.  An owner that wants to invoke a contractor’s bond cannot, itself, be in default under the contract. Not every contractor can provide a bond. The process of obtaining bonds from a surety is similar to obtaining a line of credit from a bank.  It involves financial and other business analysis of the contractor to determine the degree of risk that the surety is willing to underwrite.  That is why the issuance of a bond is some assurance that the contractor met the surety’s requirements. In most cases a party makes a claim on a payment bond with a written notice to the owner, contractor and the surety. An owner can also make a claim on its prime contractor’s bond where, for instance, a lien has been filed.   The surety will investigate the claim by sending the claim to the bonded contractor for an explanation and attention.  If the claim is valid and not disputed the surety will look to its contractor to pay the claim. If the contractor disputes the claim the surety will generally deny the claim and look to the contractor to defend it.  If the dispute, itself, is “invalid” or if the contractor is not able to pay the claim, the surety may have to step in and pay or defend on its own. A surety‘s obligation is co-extensive with its bonded contractor. If the contractor does not owe a claim or has some defense to the claim, the surety is entitled to rely on the same defense,  plus a surety has some defenses of its own, based on the terms of the bond, such as the requirements for timely notice of claims. The GAI also entitles a surety to additional rights including the right to freeze contract balances in the owner’s hands or demand that the contractor produce collateral to protect the surety’s ability to be indemnified if the surety risks paying  out of its pocket. Using a payment bond to “bond off” a threatened or recorded lien is a creative way to use the surety’s guaranty. This can be accomplished with a statutory procedure or even with a written agreement which results in the lien being released from the property and the claim transferring to the bond.  This can free the property for a sale or a new mortgage.  The bond should provide that the surety simply pays the claim (if the owner has not done so) either when it is reduced to judgment or by agreement.  This can bypass many of the headaches of a lien foreclosure such as priority battles and sheriff sales which can run up costs and delay payment of the claim. When owners, contractors and potential claimants understand surety bonds and use them creatively, payment bonds can be the right tool to protect the right to payment and to protect an owner from claims.

October 22, 2019

Construction

Protecting Payment–The Owners Perspective

This is the fifth in our series of blog posts regarding the protection of the right to payment in construction with a focus on mechanics and construction liens. This time the focus is reversed. There are obviously two sides to the payment and lien equation. An owner’s perspective on lien claims is that there should never be a lien on a project. It is a fact that state lien laws create involuntary rights to liens.  Lien claims are avoidable.  But how to get there? The owner’s first line of defense should be to see that everyone gets paid. Owners need to adopt  rigorous payment  processes  with documentation, timely payment and lien waivers (including subcontractors and suppliers).  Joint payment checks may be a useful tool for this process.   Owners must also require similar processes at the contractor level.  This should be spelled out in the contract and enforced through the contract provisions requiring the contractor to keep the project clear of liens and indemnify the owner (assuming it is not the owner that is in default). If the owner is just the lessor of the property and the work is contracted by a tenant, there are often statutes providing a notice of non-responsibility for work not authorized by the owner. This can effectively limit lien rights to the leasehold interest of the tenant and protect the owner’s  fee title. On projects of any size, owners should consider requiring performance and payment bonds from the prime contractor or contractors.  Adding the cost of bond premiums to a project also adds value.  It can buy the owner protection against both contractor default and lien claims.  It has the incidental benefit of assuring an owner that a bonded contractor has been vetted by its surety company. No-lien-contracts are not a good way to avoid liens in most states. Such provisions are barred by statute in many states and may be prohibited indirectly by laws against requiring lien waivers in advance.  California and New York, for example, have reached this result in case law. If a lien does appear, the owner should gather the facts. There are several reasons for the owner to actively investigate.  One is to facilitate the owner’s tender of lien defense to the contractor with an indemnity obligation.  Another is to determine if a payment problem somewhere in the project is a symptom of some larger concern.   If a key subcontractor is in trouble, the whole project might be in trouble.  The lien was the canary in the coal mine.   A lien claim may also trigger a judicious withholding of funds to cover the lien with care to not strangle the contractor and precipitate even more liens.  The owner might also choose to pay good claims directly and claim a suitable credit against the contract price. From the facts, the owner can make an independent risk assessment of the lien. The owner should review the lien basics for any identifiable defect. Was the lien timely? Does it identify the correct property? Did the claimant serve the proper early notices?  Is the amount (although probably disputed) within a “reasonable” range? If the lien is truly defective or wildly overstated it might give rise to a claim of slander of title or an action to determine adverse claims.   Allegations of lien defect mostly form the basis for negotiations and foreclosure defenses.  Overstatement can, in some instances, actually get a lien voided.   Slander of title claims are another common threat, but rarely pursued, because the standard for proof of the required “malice” element is high. If the lien is a particular problem because of a pending sale or financing, most states have a procedure to bond off the lien. This substitutes a payment surety bond in place of the lien. The bond premium is a cost to the owner but the benefit is that the lien is taken off the title so that the transaction can go forward—presumably to the owner’s greater benefit. Altogether there is quite a bit that an owner can do to avoid and manage lien claims. Owners need the credit that all the contract tiers extend in order to build the project. That credit rests in large part on the fact that the lien laws exist. It is for the owner to recognize and balance the risks of lien claims through good contracts, documentation and project management to handle lien issues.

October 15, 2019

Construction

What is a Lienable Contribution?

This is the fourth in a series of posts addressing the protection of the right to payment in the construction industry using construction lien rights as a tool.   Prior posts reviewed the information and analysis needed to identify available lien protections and the early notices many states require. This post highlights the fact that things are not always what they seem.  Sometimes what looks like a lien claim is not and vice versa.  It pays to ask more questions and to remember that state laws vary on what is a lienable contribution. A lien claim generally requires a contribution to a “permanent” improvement to “real property”. Sometimes that project site is actually not lienable real property. The simplest example would be property which is publicly owned. This is where the public work surety bond laws would come into play. A building project can have a mix of public and private interests which create an uncertain result.  Where the work is a private structure on public land, or a public structure on private land the terms of the lease or other agreements involved are critical to decide which way that project falls.  Who owns that private structure on leased public land when the lease ends?  If the project is really net “public” should it have been bonded? The real property interest that the contracting party enjoys can determine what is lienable. Beyond the simple fee titles there are other more limited interests in real property that may be lienable. A tenant’s leasehold interest is generally lienable and usually (but not always) the underlying title is also lienable.   An easement is an agreement permitting someone to use or occupy property with a more limited bundle of rights. Some easements may be lienable and some may not.  The recent tide of wind and solar electric projects employs a wide variety of land use arrangements from outright land ownership to leases and easements that make the parsing out of any possible lien rights a very complicated challenge. Also be aware that the various American Indian Nations are sovereign entities. As such, their tribal lands are not subject to state construction lien laws and no lien rights are available. Sometimes a lienable contribution is not “visible” at the project site. In most states, professional architects and engineers have liens for their work.  Even when a project fails to come up out of the ground their design work may be treated as a “constructive contribution to a permanent improvement” giving rise to a lien claim– subject to a finding of sufficient consent or authorization of the design work by the property owner. Sometimes that seemingly “permanent structure” is just personal property and not lienable. Leases can, again, hold surprises.  An Illinois case involved a lien claim on a wind turbine tower.  The court looked to the wind developer’s lease on the tower site.  It found language obligating the developer to remove the tower from the surrounding farm land at the end of the lease.  The court concluded that meant that the tower was personal property or a trade fixture on the land and not a lienable permanent improvement.  Goodbye three million dollar lien. Sometimes the lien claim might come as a complete surprise from “left field.” Union fringe benefit fund trustees can have lien rights for unpaid fringes as an extension of workers’ wages.  Failure of a lower tier union subcontractor may result in a very surprising lien on a project. While the general outline of states’ lien laws is predictable, the possible fact variations are many. Once the lien claimant zeros in on the location, timing and notice requirements for a lien, it is still necessary to take a close look at the project property and what is included in that claim to assure that it can pass muster when it meets the likely challenges by project owners and other interested parties. The next post will address some of those challenges.

October 8, 2019

Construction

Early Notice May be Required to Qualify for Lien Protections

This is the third in a series of posts on protecting the right to payment in the construction industry. In the last post we reviewed the information and analysis needed to identify the  protections  available in a given situation.  Collecting and acting on good and focused information are the key. Next, however, comes the need to pay attention to whatever early notices a state may require in order to qualify for lien protections. These notice requirements are a matter of state laws.  They can vary quite a bit from no notice required to notice on all of your projects.  Missing a notice can mean no lien rights in as little as the first 20 days in some states.  The steps outlined in the last post will help you zero in on just what notice you may need for  the states where you do business. Potential lien claimants experience these notice requirements as a hurdle.  In most cases, however, the legislation’s real purpose  is to protect  the property of an owner.  Unlike a mortgage, construction liens arise by statute without any express agreement by the property owner to grant the lien.  Historically, a lien claim might be coming from a subcontractor or a supplier the owner did not know about.  Judging that surprise to be unfair, state legislatures created various forms of required early notices to owners.  Most warn the owner that liens may apply and encourage owners to be careful to get lien waivers from  contractors and suppliers.  The incidental benefit for subcontractors and suppliers is that the waiver reflects a bill was paid. There are too many variations in the notice requirements from state-to-state to cover them all in a blog post. We can pick several, however, as illustrations.  A simple example may be North Dakota where an early notice is optional giving an owner the ability to pay a potential claimant directly and take a credit against the main contract price. Michigan takes a different approach. The statutes direct Michigan owners to record and post a Notice of Commencement with important project information for the benefit of subcontractors and suppliers.   The subcontractor or supplier in turn must serve a Notice of Furnishing to the owner and general contractor  within 20 days of first furnishing labor or materials to inform them of participation in the project. Minnesota is an example of a more selective notice requirement aimed at informing the presumably “less sophisticated” owner of the risk of liens and the right to require lien waivers or pay directly. The notice is required within 45 days of first labor or materials for residential, agricultural and small commercial construction under 5000 square feet. California is an example of a much more stringent notice requirement. California requires a notice on all public and private construction projects within 20 days of providing first labor or materials. The notice provides important information.   The recipients include the owner, the general contractor and the project lenders. The notice is mandatory and California licensed contractors can face discipline if they fail to give the required notice.  Missing the notice is fatal to a California lien claim. Take a moment to think about what states you are or may soon be doing business in. Find out what the early notice requirements are for those states  and what form that notice should take.  The state statutes are generally available online and sometimes provide a sample of the preferred form with any  “magic words” that need to be included.  If those requirements seem opaque or DYI is not your thing a law firm can help you. In the next post we will discuss what improvements are lienable and for what amount. The answers are not always obvious and  the stakes are too high to put it off.

October 1, 2019

Construction

Construction Liens Must be Protected Early – Sometimes Within Weeks of Starting a Job

This is the second in our series on protecting the right to payment in the construction industry. In the first of our series we set the stage for using construction lien rights to enable the credit that runs the construction industry and as a form of security for payment. Those lien rights are not self-executing, however. There is important early work to be done to properly protect them. Many states have early notice requirements and the unprepared can lose the right to a lien within weeks of starting a job. Any successful strategy for protecting the right to payment begins with information and analysis. This sounds complicated but really should not be. A job information sheet can help prompt the right questions and organize the answers. Don’t overlook the fact that some of this information may already be in a sales or bidding file. Here are the simple steps to follow: Start by gathering the facts about the project. Where is the job site? This will tell us what state or federal law applies. Location information should also include the job site address where you will show up to work or deliver. Is what you do or sell part of a permanent or a long term “improvement” to real estate? The work may be either horizontal or vertical and might even be performed off-site, but in most cases it should involve some visible change to the property. Who is the owner of the project? Is it a private party such as a company or an individual? Get a name and address. If the owner is private, lien rights probably apply. Is the work it for a tenant? If the owner is residential, is it for one unit or many? There are often special rules for single unit residential. If the owner is public, however, there is probably a payment bond but no lien claim. Payment bond discussion comes later. Who are you going to do business with? Will it be the owner or a general contractor or a subcontractor? Get the names and addresses. This can help you determine who you may have to send notices to. How “big” is this job? For private work this is usually the number of living units or “floor” area. Again, this can help you determine who you may have to send notices to. If the owner is public, what is the best estimate of the overall contract price? This can help you determine whether the project meets a statutory threshold for a payment bond. When did you or will you first start work or deliveries? Time can be critical. In many cases you may be able to give any necessary notices “early” and not have to count out the prescribed number of days. Now review your answers against the notice and lien requirements in the state where your job is located and you are ready for the next in our series about the whatandwhy of the various kinds of preliminary notices.

September 4, 2019

Construction

What and Why are Construction Liens Anyway?

This post is the first of a series to highlight means and methods for businesses in the construction industry to protect their rights to payment for what they do. Follow along as we touch on issues of  contracts, collections, construction liens and the corresponding interests of the developers and property owners who build.  Although the author is writing from Minnesota the blog series focus will strive for a much broader application so that it can benefit  a reader anywhere in the country. What and Why are Construction liens anyway? Protecting the right to get paid is central to any business. The construction industry is our Exhibit A.  Building and development can be cyclical. Most construction bumps along to a successful conclusion, but sometimes projects fail.  Nonpayment can then present existential problems to those who have not been paying close attention to protecting their right to payment.  Sometimes that right involves a lien claim. Construction liens, also called mechanic liens, are a kind of security interest created under state laws to give labor and material suppliers an enforceable claim against real estate they improve. Thomas Jefferson introduced the first examples in American law  as an inducement to facilitate the construction of Washington DC. Often described as a “remedy” for the construction industry, liens  also function as a credit granting device which greases the gears of an industry that runs on the substantial amounts of credit that the participants are willing to extend to build a project.  The ability to invoke  lien protection enables a contractor or supplier to say yes to new business, but the ability to invoke that lien is not self-executing.  Every state requires  steps and notices to claim and perfect that lien.  In many cases those steps and notices redound to the protection of the property rights of owners and lenders in a balancing of interests developed  during a century and more.  But for the possibility of lien protection, however, the lending and construction industry would not function  as we know it. This blog series will explore the information and analysis that goes into any successful construction lien claim. It will also cover the importance of the various kinds of notice to owner reminding owners of the steps they should take to protect their property against liens not the least of which is careful attention to lien waivers for payment. Construction liens pertain to private property. Public property is generally not subject to liens but since public construction involves  same kinds of credit and payment issues we will also cover the use of surety bonds  to provide comparable rights for public construction with their own set of protections and limitations.

August 21, 2019

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