by Eric B. Travers, Esq., Kegler, Brown, Hill and Ritter
In the excitement that comes after getting the call that you have “won” the job, it is easy for even the most conscientious subcontractors to sign the subcontracts they are sent with only a cursory glance at price, scope, and time, and charge ahead with the work. This is a big mistake. Construction projects are notorious for being “problems in progress.” With so many parties having a hand in the end product, and so much often at stake for the owner, invariably the path to completion of a construction project is fraught with risk.
Compounding this, subcontractors often assume risk that is unfair and disproportionate to their involvement. Subs finance projects through their labor and materials (providing them to the project for a promise of future payment), and while that brings with it enough risks, as the “lower tiers” subs often are asked to sign subcontracts that shift or pass-through risks that more naturally should be borne by others.
Though there is a laundry risk of unfair subcontract provisions that subs could see at any given time, some such clauses consistently find their way into subcontracts. This article will help you identify five of the most offensive provisions, so you can better spot and, if the clause is relevant to you, insist on changes to mitigate, if not eliminate, the risk.
In no particular order, here are the top five changes you need to make to your subcontract:
Top Change #1—Change Pay-If-Paid to Pay-When-Paid Payment Terms
There is a massive difference between a “pay-when-paid” and “pay-if-paid” payment clause.
Pay-when-paid clauses deal with timing of payment, while pay-if-paid clauses deal with timing and entitlement. The problem is that the clauses can look similar.
A typical pay-when-paid clause may read that “Subcontractor will be paid within seven days after General Contractor receives payment from the Owner.” Though this might appear to suggest that the owner’s payment must come first, and if the owner never pays then the payment requirement will kick in, this is not the case in most states. Most courts will interpret such language (variations of which can be found in the trade association forms like the ConsensusDocs and AIA subcontracts) to give the prime contractor a reasonable amount of time to first obtain payment from the owner, but to still carry an absolute obligation to pay the subcontractor if the owner doesn’t pay within such reasonable time.
In contrast, a pay-if-paid clause will (in the states that enforce them, which is most) operate to bar the subcontractor’s right to payment if the owner for any reason fails to pay the prime contractor. Pay-if-paid clauses may state, “The obligation of Contractor to make payment to Subcontractor is subject to the express condition precedent of Contractor’s receipt of payment from Owner.”
Some states void pay-if-paid clauses. But most don’t, so long as the language is unambiguous. Though the language in such clauses can vary widely, a big tip is to look for “condition precedent” in the clause. If it is there, presume the worst: that you have a pay-if-paid clause, and modify the language. You are not likely to eliminate conditional payment language entirely, but a reasonable compromise is to simply change the language so it mirrors ConsensusDocs or AIA language. If you accomplish this, you will have a pay-when-paid clause, and that can be the difference between eventually getting paid and never getting paid.
That’s a big difference.
Top Change #2—Insist You Are Provided All Subcontract Documents That Are Relevant to Your Work
Don’t forget that the “subcontract documents” include documents beyond the “subcontract.” This includes not only the prime contract but documents that may not have existed, when you bid the project. Perhaps most important, prime contract responsibilities that the general contractor agrees to are commonly “passed through” to subcontractors via a “flow-down” clause. A flow-down (or “pass-through”) clause is a common provision providing that the terms of the prime contract are binding on the subcontractor, and the result can even be found by a term that makes the prime contract a subcontract document.
Unfortunately, though many subcontractors assume the extent of any pass-through is limited to assuming responsibility for the portion of the prime contract work they are performing, this may not be the case. Things like prime contract notice provisions, warranties, upfront waivers or agreements to subjugate mechanic’s lien rights, and insurance requirements are all examples of things that a subcontractor might be found to have “agreed” to be bound to through operation of a flow-down provision or incorporation of the prime contract into the subcontract.
Some of this is fair enough, and unavoidable, but if the subcontract is silent on your right to all such documents, you must insist to be given any documents your customer contends relate to your work and subject of to the flow-down clause. And, so you have a meaningful remedy or defense if you are later caught in such a clause, but were not provided the document in advance, you need to ensure your subcontract makes this obligation a contractual requirement on your customer.
And, if the subcontract only states that such documents “may” or will be made available to you on request, you need to exercise your right to all contract documents up front, before you sign the subcontract, so if there are material or unacceptable provisions, you can resolve them then, before you find yourself in a world of hurt.
Hundreds of thousands to millions of dollars in mechanic’s lien rights can be lost if your customer agrees to waive its lien rights up front and the court agrees that such waiver (or subjugation of lien rights) was agreed to by subcontractors who signed a subcontract that passed down all prime contract obligations. Similarly, hundreds of thousands to millions of dollars in claims can be lost through untimely notice if the prime contract contains different (shorter) deadlines to provide notice of claims you were not aware of.
In the hurry to get moving on a new job, don’t take on unseen and potentially devastating risks by ignoring a thorough review of all contract document that apply to your work, and making sure your customer contractually commits to providing you, before execution of the subcontract, with all documents it contends form the subcontract documents.
Top Change #3—Do Not Agree to Upfront Waivers or Restrictions on Your Mechanic’s Lien Rights
You should never waive lien or bond rights for anything other than payment (and only for the payment received). Period.
Yet this happens. More often than you would think.
Contrary to popular belief, in many states an “upfront” mechanic’s lien waiver in a subcontract (signed before work begins) can be enforceable. As important as such rights are to subcontractors, there rarely is good justification for being asked to sign such a waiver, and even less to agree to it.
About the only time a waiver of mechanic’s lien rights on private jobs may be palatable is if the owner is requiring a payment bond for the protection of subcontractors is available to provide the security otherwise available with the liens rights. Otherwise, on private jobs, giving up such rights before you even begin work can make it much more difficult to have leverage later on if payment problems arise.
Note, too, that while subcontracts may not have such a waiver or limitation on mechanic’s lien rights, you should care if the prime contract does, because the subcontract will invariably have a flow-down clauses discussed above. Subcontractors working for general contractors who have agreed to upfront mechanic’s lien waivers have opened themselves up to the argument that by agreeing to the flow-down clause they agreed to assume all responsibilities and duties your customer’s agreed to, including to any upfront lien or bond waiver. The way to deal with this situation (upfront lien waiver in a prime contract) is to ensure your subcontract clearly states that notwithstanding anything to the contrary in the subcontract documents: (1) you retain all applicable mechanic’s lien rights available under applicable law; and (2) it is agreed that only you can waive, limit, or subrogate such rights in a separate writing signed by you in exchange for consideration.
Top Change # 4—Ensure You Do Not Accept Design Responsibility
An unfortunate trend of late, particularly as “fast-track” construction has become more common, is for subcontracts to impose, either explicitly or through ambiguous language, what is known as “Big D” design responsibility on subcontractors. This can be a big mistake.
Not only does agreeing to design responsibilities impose a whole new set of risks and warranties, damages arising out of allegedly faulty design will not be covered by your insurance unless you carry design professional liability insurance. In many states it is illegal for anyone other than a properly licensed design professional to perform architectural or engineering design services.
Though subcontractors routinely submit shop drawings “up the chain” for approval, the generally described purpose of this is not to be responsible for the “Big D” design, but to show how their portion of the work will be fabricated and installed, and flesh out details on the architect’s drawings or specifications.
If the subcontract expressly requires that a design professional stamp drawings, that is clear. But even seemingly innocuous (and prevalent) language agreeing to comply with applicable codes, certain warranty provisions, or even accepting such responsibilities by operation of a pass-through clause arguably can result in a subcontractor having to defend the claim it agreed to assume an uninsurable design-risk.
In a similar vein, many subcontracts contain provisions obligating the subcontractor to, before starting work, “study and compare” the various contract drawings relevant to the work, and the existing conditions, and report any problems to the contractor or accept responsibility for the costs to correct. The problem is, these provisions also can be a means for the contractor, architect, or owner to argue that either that design responsibility shifted to the subcontractor and/or the subcontractor waived damages resulting from errors or omissions in the contract documents.
In short, unless you have a licensed professional on staff to stamp, have design insurance (and have cleared with your broker that your CGL policy is not affected by it), and are willfully agreeing to purposely Bid D design a portion of the work, all design responsibility for your work should stay with the architect. In the first instance, this may mean completely striking any provisions that shift that risk expressly or impliedly. In the second instance (the obligation to “study and compare”) it may mean both striking any language that waives claims for failing to report errors or omissions in the document, and/or insisting that your customer also agree that any such prior review is simply for purposes of your starting construction and is not intended to shift design responsibility to you, or for discovering errors, omissions, or inconsistencies in the contract documents.
Top Change #5—Remove Any Provisions That Attempt to Shift the Risk of Subsurface Conditions Onto You
One of the biggest drivers of increased cost on a project is the risk of changes, delays, or additional costs incurred due to the differing subsurface conditions. Not surprisingly, many subcontracts thus attempt to shift the risk of such conditions onto the subcontractor.
Subcontractors should be entitled to rely on the information you are given to bid and build the work. If your subcontract requires you to inspect subsurface conditions before you start work, or to shift onto you the risk of unknown site conditions, including subsurface conditions, you should remove that language. A good middle ground is to modify all such clauses so they appropriately reflect the real life purposes for which you would visit the project site pre-bid (to consider known and observable conditions when preparing the bid).
Eric Travers, Esq., is a director with Kegler, Brown, Hill & Ritter, Columbus, Ohio, practicing primarily in the firm’s Construction Law area, representing subcontractors, general contractors, owners, suppliers, architects, sureties, construction managers, and others. Kegler, Brown, Hill & Ritter, serves as legal counsel for ASA. Travers can be reached at (614) 462-5473 or firstname.lastname@example.org.