Legally Speaking: Accident/Injury Documentation and Record-Keeping

June 2018

 

by Stephen Moore, Galloway Johnson Tompkins Burr & Smith

Accidents happen. No matter how thoroughly your workplace is invested in a culture of safety, sooner or later, if you are doing enough business, accidents will happen. How those accidents impact your business, your employees and your customers, however, is something you can manage in a number of ways. From my perspective as a defense litigator, how that accident is managed on Day 1 can reverberate throughout the life of any claim or lawsuit that results. In fact, how the accident is managed on Day 1 can often matter far more than anything your lawyer does for you, because lawyers are only as good as the tools they have to work with. So, think of your accident investigation as a mission to collect as many tools as possible, so that your attorney can do the best job possible for you. Following are some items you might think of as a defense attorney’s wish list.

Before any accident happens, designate a work-place accident investigator. On any job site, have one (or more depending on the size of the job) person designated as your accident investigator—the person in charge of the investigation in the unfortunate event of an accident. That person can be trained in your accident investigation procedures, have the proper forms and other equipment close at hand and, most importantly, be accountable for completing the investigation. If no one is in charge, you can be assured of an ineffective and incomplete investigation. And, while it is of course important to do a good job, it is also important to remember that perception is sometimes as important as reality. If your accident investigation looks disorganized, incomplete and careless, your company will look that way to a jury, to a workers’ compensation judge or to the plaintiff’s attorney. An organized and efficient approach to accident investigation will create the opposite impression, which in some cases can stop a lawsuit before it ever becomes one.

Have an effective accident report form. Make sure you have in place a standardized, pre-printed accident report form. If you don’t have one, your attorney or insurance agent can assist you in developing a form that is appropriate for your business. While there is no one-size-fits-all form, a good accident report should do the following:

  • Identify the injured party or parties, including name, address, phone numbers and employer.
  • Identify witnesses to the accident, including the same information. For witnesses, it is particularly important to get as much identifying information as possible, because phone numbers change and witnesses move away. Locating them months or even years after the accident is easier if you have collected a trail of identifying information.
  • Describe the incident in as much detail as possible. This should be done in the form of written statements from the injured party (to the extent possible, given the injury) and each of the identified witnesses. The accident investigator should also write a statement including his or her observations and information gathered from the witnesses. Include in the statement a description of the mechanism of the injury with as much detail as possible. What was the injured worker doing? Who instructed him or her to do it? What tools was he or she using? Be specific. If the worker fell from a ladder, what rung was he or she standing on? What was he or she doing? Did he or she have anything in his or her hand? Note the shoes the injured work was wearing and any protective gear. Was fall protection in place? Be a detective. Is there anything slippery on the floor? Any smell of alcohol or evidence of horseplay before the incident? Consider including a sketch of the accident scene. Note other trades working in the area. Note the weather, time of day and any other factor that may have played a role in the accident.
  • Document the injured party’s complaints of injury. What hurts? Is there any blood? Did you observe any loss of consciousness? Any torn clothing or broken safety equipment? Remember, even minor injuries can become more serious with time, so document everything.
  • Document any violation of your company’s safety rules or any of the rules in force at the job site.
  • In the event first responders were called to the scene, make note of the jurisdiction of each so that their records will be easier to locate.

Interview each witness properly. If possible, every witness should be interviewed separately and in private, so that the witness feels comfortable giving an honest account of his or her perceptions, free from peer pressure or the natural reluctance to judge or criticize a co-worker or supervisor. Reduce the interview to writing and have the witness sign the document. Read the statement back to the witness and attempt to obtain his or her agreement that what has been written is the witness’s accurate re-telling. If the witness refuses to sign, note that as well, but give him or her an opportunity to make corrections, and have him or her initial any that are made. Some savvy investigators make a practice of intentionally making a few inconsequential errors that the witness can correct and initial, just to demonstrate that the witness actually read the statement and gave input, lending further credibility to the statement.

Take pictures. Everyone has a phone. Use it to document the accident with photos and video. More is better. Photograph the entire scene. Photograph the tools, safety equipment, warning signs, and (if it would not cause undue distress) the injured party and the witnesses. Give those photos to your employer or insurance carrier. Do not post them to Facebook or Instagram, and do not delete them.

Preserve the Evidence. It is crucially important that you preserve the evidence associated with any significant accident until you are told you can release it, usually by your attorney or an insurance investigator. If a tool is involved, secure the tool. If a safety device has failed, save it. Secure the injured worker’s hard hat, safety glasses and gloves. Do so, even if they show no sign of damage or injury. Imagine, for example, that a subcontractor’s employee claims to have been struck on the head with a falling tool, but the hard hat shows no damage. The absence of any scuff marks is surely relevant. A picture is worth a thousand words. The actual hard hat is worth even more. Note also that in the event of a serious accident, it may be necessary to shut down the job site, or at least a portion of it, until the scene can be documented fully. That could take days, weeks or even months, but the consequences of failing to preserve evidence may be quite serious. Remember, also, that the statute of limitation for lawsuits varies from state to state, from as little as one year to as many as five. So, be sure you are in the clear before you delete any files or dispose of any artifacts.

Don’t spoil the evidence. The laws regarding spoliation of evidence vary from state to state, but most states impose some duty to preserve evidence that the party holding the evidence ought to know might be relevant in a later lawsuit. For instance, if an employee falls from a lift with a defective safety gate, the law may impose a duty on the possessor of that lift to keep it and to delay any repairs or alterations until its condition can be documented, usually by attorneys, experts and investigators. Failure to do so could subject the “spoiler” to civil liability or, at the very least, a presumption in any legal proceeding that the evidence would have been bad for the spoiler if it had been preserved. Photos and video should never be deleted no matter how unrevealing they may appear to be. And when it comes to video, remember that many recording devices automatically delete after 30 days or even less. It takes little time or effort to download video and save it, so take a moment to do that. In fact, be sure to save any video recording for the entire day of the incident, not just the few seconds that capture the actual event. What was happening in the minutes or hours before the event is often far more important than the event itself.

Lost evidence is the most important evidence. Here is a certainty in litigation: once any piece of evidence is destroyed, deleted or lost, no matter how insignificant or inconsequential that evidence actually was, it will take on mythical proportions in the eyes of an injured worker’s attorney—the one piece of evidence that would have unlocked the entire case and justified a jury award of millions, if it had only been preserved, or so the argument will go. Err on the side of caution, and keep everything.

Document the chain of custody. For all evidence, photos and video secured during the course of an accident investigation, it is important that it is kept in a secure place, out of the weather and safe from any possibility it could be inadvertently disposed of by unknowing personnel or mixed in and confused with other similar looking items. Create a chain of custody form that simply documents who collected the evidence and every time it is moved or touched by others. Coffee cans, plastic tubs and Ziploc bags work wonders for keeping the integrity of evidence intact. Having confidence that the safety glasses you have now were the same safety glasses the employee was wearing three years ago may determine whether those glasses are admissible evidence at trial or excluded to the detriment of your case.

Report the accident to the right people. Every accident, injury or significant property damage should be reported. In the case of an injured employee or worker, the first call may be 9-1-1. Obviously the safety and well-being of any worker is the most important priority. But you should also consider involving your insurance agent to report an incident to allow your insurer an opportunity to investigate. Failure to do so on a timely basis could compromise your defense of any claim and could even jeopardize your coverage. Attorneys and insurers have the tools, resources and experience to secure an accident scene and make sure the evidence is collected properly.

Time marches on, so we must move fast. Memories fade, projects get completed and people change jobs and move away. Memories have a way of changing over time in response to further experiences, conversations with others or the conflation of two or more events in our heads. Witnesses will never remember anything as well as they do today, so it is important that your investigation is undertaken without delay. Witnesses should be interviewed at the scene, if possible, and your own accident report should be prepared the same day. Photos taken days or months after the accident are simply less reliable than photos take on the day of the event. Put simply, time is always of the essence when it comes to investigating a job-site accident.

Reach out to your attorney or insurance agent if you need assistance with an accident investigation or with planning for your response to one. As with any construction project, the right tools make all the difference, and a thorough accident investigation is the means by which you create the best tools for the job. The people you pay to protect you in the event of an accident will be happy to help ensure that you get the right tools in your tool box.

Stephen Moore is the director of Galloway Johnson Tompkins Burr & Smith’s office in St. Louis, Mo. For over 20 years, Moore has practiced in state and federal courts representing businesses, professionals and insurers in property and casualty litigation, including commercial auto, professional malpractice, construction defect, fraud, coverage, first party property litigation and workers’ compensation. He can be reached at (314) 725-0525 or SMoore@gallowaylawfirm.com.

 

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Lien and Bond Claims: A Subcontractor’s Security Blanket

June 2018

 

by Marc J. Felezzola, Esq., Babst Calland

Although every subcontractor begins a project with full expectations of a successful project for which it will receive timely payment, the reality is that some projects encounter financial difficulties. Fortunately, the law provides subcontractors with security against those difficulties in the form of mechanic’s lien or payment bond rights (or sometimes both). This security is not absolute, however, and there are many potential pitfalls along the way about which subcontractors should be aware to ensure their right to the security provided by a lien and/or payment bond is not inadvertently lost. This article provides a general overview of the potential ways in which a subcontractor may lose its payment security during a construction project and provides some general guidance on how to avoid them.

The general concept underpinning a mechanic’s lien is that construction of a building or other structure improves the value of the real estate on which the building or structure is constructed, and therefore, those who furnish the labor and materials for the construction (collectively, “constructors”) should be allowed to put a lien on the title to the property as security for payment for their work. Importantly, the lien is against the property itself rather than the property owner, and therefore, the property serves as the collateral securing the debt owed to the constructor. Thus, in the event of nonpayment, a constructor with a mechanic’s lien can foreclose on the lien and force the sale of the property. The proceeds from that sale will then be used to pay the debt owed the constructor.

This mechanism of providing constructors security works well for privately owned property, where a change in ownership will not have a significant detriment to the general public. However, publically owned property presents a different situation. Take an elementary school for example. If an unpaid constructor were allowed to lien and sell the elementary school, to recover an unpaid debt, the sale would (or at least could) deprive the community of its school, resulting in a significant loss to the general public, not just the public owner. Thus, states and the federal government have enacted laws requiring posting of performance and payment bonds for virtually all public construction projects. A performance bond protects the public owner (and the public generally) from contractor default, whereas a payment bond serves as alternative security replacing their mechanic’s lien rights in the event of nonpayment. (Although all states have some form of statute requiring payment bonds for public projects, some states also allow a subcontractor to file a lien against the public funds earmarked for paying for the project.)

Thus, generally speaking a subcontractor or material supplier (collectively, a “subcontractor”) always should have security for the work it performs. For a private project, that security comes in the form of a mechanic’s lien. For a public project, the security generally comes in the form of a payment bond. This security, however, is not absolute, and if one is not cautious, it can be lost before the subcontractor or material supplier ever mobilizes or makes its first delivery to the job site. Thus, a contractor must be careful at to preserve its rights at the time of contract formation, mobilization, and completion of the project.

Contract Formation: Do Not Waive Lien Rights in Your Subcontract and/or Confirm Requisite Bond Has Been Posted

Virtually every subcontractor has received a subcontract or purchase order with language purporting to waive all of its mechanic’s lien rights against the project. This type of lien wiaver is often referred to as a “blanket lien waiver” or “upfront lien waiver” because it covers work before it is performed and states something like “subcontractor hereby waives and releases any and all liens or right of liens or mechanic’s liens for any labor or materials furnished under this subcontract.”

Blanket lien waivers are enforceable in approximately 20 states, and in those states, signing a subcontract with a blanket lien waiver will automatically deprive a subcontractor of mechanic’s lien rights all of its work. Thus, in states where blanket lien waivers are valid, subcontractors who sign contracts containing them will have no payment security for their work unless the project is bonded.

It is much less common for a subcontractor to lose its payment bond rights before starting a project. However, although all states have some law requiring prime contractors to post payment bonds as security for subcontractor work, not all of those laws provide consequences in the event the prime contractor does not actually post a payment bond. For example, although Pennsylvania law requires payment bonds for all public projects, the law provides no penalty in the event the prime contractor simply fails to post the requisite payment bond, and Pennsylvania courts have held a subcontractor has no redress against the government for failing to ensure the required bond was posted. Thus, at least in Pennsylvania, a subcontractor working on a public project may find itself working without payment security despite laws requiring payment bonds. Therefore, subcontractors should always obtain a copy of the payment bond for a public project before commencing work to make sure it has the alternative security required by law.

Commencing Work: Adhere to All Preliminary Notice Requirements

Avoiding blanket lien waivers and ensuring the prime contractor posted the requisite bond is often only the first step in ensuring a subcontractor will have payment security for its work. In fact, in many states, a subcontractor can still lose its payment security very early in the project by failing to provide statutorily required preliminary notice of its work on the project.

Increasingly, states are enacting requirements that subcontractors (or at least second-tier subcontractors) and material suppliers provide notice (often in the form of a “notice of furnishing”) prior to or soon after commencing work on a project. Preliminary notices are intended to alert the project owner, prime contractor, and/or surety of the lower tier subcontractors who are contributing to the project. The purpose behind these requirements is a good one—if the owner is aware of the lower-tier subcontractors, it can make sure they are receiving timely payment for their work (usually by requiring the prime to provide partial lien waivers from lower tier subcontractors before issuing the next progress payment). However, consequence of these requirements is that the subcontractor’s failure to provide them often results in the loss of mechanic’s lien or payment bond rights.

Thus, it is absolutely imperative that subcontractors check the laws of the state where the project is being built prior to commencing work on the project to check for and ensure compliance with any preliminary notice requirements. Doing so will ensure the subcontractor preserves its mechanic’s lien or payment bond rights for the project.

Foundation of ASA Publishes Updated Lien & Bond Claims in the 50 States

 

by American Subcontractors Association

Construction subcontractors and suppliers rely on mechanic’s lien and payment bonds to assure their payment. To help you learn your lien and bond rights in the states in which your company does business, the Foundation of ASA has updated its Lien & Bond Claims in the 50 States, a downloadable manual which outlines the lien and bond laws in each state and the District Columbia.

A mechanic’s lien is a claim against property to secure a debt, such as a debt owed to a construction subcontractor for the value of work performed and materials furnished on a construction project. A payment bond, which is required on most public construction, assures the owner that the prime contractor will pay its subcontractors and suppliers.

The FASA manual provides a summary of the basic requirements of each state’s lien and bond laws, including who is covered; critical deadlines for notices, claims and suits; filing procedures; and more.

The summary of laws was prepared by Donald W. Gregory, Esq., and Eric B. Travers, Esq., Kegler, Brown, Hill and Ritter, Columbus, Ohio, ASA’s general counsel, with input from attorneys from around the country.

FASA Lien & Bond Claims in the 50 States (Item #3006) is $55 for ASA members and $80 for nonmembers.

Punching-Out: Meet All Notice and Filing Deadlines

Finally, every state’s lien or bond law sets forth detailed requirements for how and when to perfect a mechanic’s lien or payment bond claim. These requirements vary from state to state, but they typically include some or all of the following: a requirement that second-tier (and lower) subcontractors provide some advanced notice to the owner, prime contractor, and/or surety prior to filing or recording a claim; a formal filing or recording of a claim with the court or recorder’s office; initiation of legal proceedings to prosecute or foreclose on the claim. Each step in the process will usually have its own deadline and failure to meet every deadline will likely result in a loss of the payment security.

Again, no two states are identical, so it is imperative to check the law of the state where the project is located at the time a subcontractor is completing its work to determine the applicable requirements for perfecting their lien or payment bond claim. Although there is no substitute for checking the current statutes, the ASA’s Web site, www.asaonline.com, is a valuable resource for subcontractors and contains information about each state’s mechanic’s lien and payment bond claim perfection requirements.

Marc J. Felezzola, Esq., is chapter attorney for ASA of Western Pennsylvania, as well as an associate attorney in the Litigation and Construction Services practice groups of Babst Calland, a full-service law firm headquartered in Pittsburgh, Pa. Felezzola has extensive experience drafting and negotiating construction contracts, as well as litigating construction cases involving mechanic’s lien claims, prompt payment act claims, construction bid protests, construction defect claims, differing site condition claims, delay and inefficiency claims, payment and performance bond claims, and payment and contract performance disputes. Felezzola can be reached at (412) 773-8705 or mfelezzola@babstcalland.com.

 

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How to Win Conflicts or Omissions Every Time

June 2018

 

by Anwar Hafeez, SDC & Associates

Typically, construction contract general conditions provide contractors with a built-in system to deal with conflicts and omissions errors in plans and specifications. Construction owners and architects put provisions in the general conditions under the heading of “Order of Precedence of Documents” (or similar language) that communicate which document governs when there is a conflict between them. The hierarchy usually is:

  1. Contract between owner and general contractor.
  2. Special provisions.
  3. General provisions.
  4. Specifications.
  5. Details on drawings.
  6. Plan drawings.

For example, if the plan drawings and details on drawings conflict, then the details on drawings shall prevail. Or, if the drawings and details on drawings conflict with the specifications, then the specifications shall prevail. The higher element in the “Order of Precedence of Documents” governs or prevails.

The “Order of Precedence of Documents” aims to create resolution in cases of conflict without writing an RFI. However, many contractors are not aware of the distinction between conflicts and omissions between documents. An example of a conflict is when the details on drawings show one thing to construct and the plan drawings show something different to construct. An example of an omission is when the details on drawings show one thing to construct and the specifications are silent and do not indicate anything. The difference is critical, as a real-life example illustrates.

Actual Claim Example

Subcontractor encountered a problem on the last day it was waterproofing a hospital. Subcontractor had completed all of its work on the project, which consisted of installing waterproofing membrane on the footing and turning it up the wall (see Figure 1):

Fig. 1

Figure 1

Inspector told the subcontractor that it did not follow the detail shown in the detail. The detail stated that this is a typical termination detail and the small print stated “Powder-Driven Pin and Washer @ 18” O.C. through continuous anchor strip.” The inspector told the subcontractor that its work is not complete until it complied with this detail.

When you review specifications, you should understand how specifications work:

  • Section 1 – States Scope of Work and related Specification Sections.
  • Section 2 – Specifies the materials to be used on this project and submittal requirements.
  • Section 3 – States Installation Procedures. In this case, it states to install the waterproofing membrane in accordance with the manufacturer’s recommendations among the 12 notes.

Subcontractor reviewed the specifications and found no requirement for installing a “Powder-Driven Pin and Washer @ 18” O.C. through continuous anchor strip.” No material was specified for an anchor strip.

Response to RFI was: “The continuous anchor strip shown on the below grade waterproofing details is a 16 ga metal strip. Submit samples.”

The subcontractor went to the membrane manufacturer, who was horrified and said: (a) No! No! No! You cannot follow this detail; (b) You want to do what? Shoot through the waterproofing membrane and damage it; and (c) This will void five-year warranty.

When informed of this, the architect said that the manufacturer’s response was not acceptable—five-year warranty must be in place. Manufacturer devised a method to install a 2nd layer of waterproofing membrane and mastic to cover the holes created by shooting through the waterproofing membrane. The subcontractor installed this additional work.

Subcontractor asked for this compensation for the extra work. The owner and architect rejected the claim, stating that “since anchor strip is shown on contract drawings, it is part of your contract.

Conflict or Omission?

Owner and architect denied the subcontractor’s claim on the basis of other verbiage contained in the “Order of Precedence of Documents” section of the general conditions: “If something is shown on the drawings but is not in the specifications—it is part of your contract.” This language pertained to omissions, not conflicts.

Owner and the architect saw the anchor-strip installation as an omission problem, when in reality it was a conflict problem. The conflict was between the detail on the drawing and the specification:

  • Detail on the drawing showed a typical termination detail and stated “Powder-Driven Pin and Washer @ 18” O.C. through continuous anchor strip.”
  • Specifications Section 3, under Installation Procedures, said to install the waterproofing membrane in accordance with the manufacturer’s recommendations, which also had a typical termination detail, which the subcontractor followed in installing the waterproofing membrane.

Under the “Order of Precedence,” specifications prevail over details on drawings, and so the subcontractor’s claim was valid, since there were two ways of terminating the waterproofing.

Ten months after the subcontractor’s work was performed, SDC explained the conflict to the owner and the architect and won the “Entitlement for Merit” for this case, over the architect’s protests.

Other Scenarios

In the preceding example, the subcontractor ultimately was able to resort to the order of precedence documents to resolve a conflict and defend its claim. But what if there had been a true omission? The general conditions also stated:

“If something is shown on the drawings but is not in the specifications—it is part of your contract.”

Suppose a subcontractor was working on a project for which plans showed wood base in a room—owner said to install wood base per the contract. However, there was no specification for the wood base. The subcontractor should simply state that since there was no specification for the wood base, it did not know the quality of the wood base to be furnished nor were there any installation procedures specified, since the architect was negligent in not providing this information. Subcontractor’s obligation is to install the cheapest wood base available (pine) along with the cheapest installation. It is likely the owner will say that it wants mahogany wood base and it wants it glued to the wall; subcontractor will get a change order for the material price difference between pine and mahogany plus additional labor installation costs.

Other verbiage in the general conditions that deals with omissions says:

“If something is specified in the specifications but is not shown on the drawings—it is part of your contract.”

Suppose the specifications specified oak wood base and the owner said that it wanted the subcontractor to install it. This time, however, the plans did not show the wood base anywhere. The subcontractor needs to argue that it does not have to install the oak wood base. However, in order to prevail in a claim situation, the subcontractor must explain what the purpose of drawings was for:

  • To do take-off of quantities for the bid.
  • To see locations for installation of specified materials.

Subcontractor must explain that the owner’s architect was negligent in not showing the location of the oak wood base on the drawings. Get the owner to acknowledge that if he did the take-off the wood base prior to bid—he would come up with a quantity of ZERO—thus the take-off at the bid time was a quantity of ZERO and you owe the owner a quantify of ZERO. If the owner wants the subcontractor to install the oak wood base, he has to pay for the entire wood base.

On another potential claim, an electrical subcontractor client called us and stated that on his punchlist, the owner stated that they wanted a redundant fuel oil system for the emergency generator, as required by a note in the specifications. The subcontractor stated that this was a $250,000 problem and what should he do? The owner told the subcontractor that they wanted a credit for not installing the redundant fuel oil system.

After examining the contract documents, I wrote a letter to the owner stating the following:

  • The reasons we have contract drawings is for us to do a take-off of the materials and to show the locations of the installation of materials that are specific.
  • There is no specification section for the redundant fuel oil system, thus no material is specified, so we don’t know the type of pipe to buy to be installed and we do not know the diameter of the pipe to be installed. We have no installation procedures.
  • There is no routing shown on the contract drawings as to the location to install the piping and we do not know which emergency generator requires the redundant fuel oil system.

Mr. Owner, if you and I were sitting together and doing a take-off of all the redundant fuel oil system piping (since nothing is shown), the only quantity we could have bid would have been ZERO and therefore, we owe you ZERO quantity of that redundant fuel oil system. We would highly advise you to take if off the punchlist. The owner agreed and the problem was resolved.

Armed with this knowledge, subcontractors can solve drawing and specifications conflicts and win every time!

Anwar Hafeez is president of SDC & Associates, Inc., San Diego, Calif., a construction claims consulting firm that prepares and negotiates change orders/claims with 99.999 percent success rate; CPM scheduling; and teaching seminars on project management and change orders/claims, (www.sdcassociates.com). Hafeez can be reached at (800) 732-3996 or ah@sdcassociates.com. This article originally appeared in the September 2016 edition of The Contractor’s Compass.

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Preserving and Proving Subcontractor Delay and Disruption Claims

June 2018

 

by Jim Sienicki and Creighton Dixon, Snell & Wilmer

At every step in a project—from contract negotiations to the last day on the job—subcontractors make choices that affect their ability to preserve and prove delay and disruption claims. This article explains the legal requirements for both delay and disruption claims, and steps to consider before, during, and after projects to help preserve those claims.

Helpful Resource

ASA Subcontractor’s Negotiating Tip Sheet on No Damages for Delay (ASA Members Only)

The Law

Delay and disruption claims are two similar, but distinct concepts. As the Bell BCI Co. v. United States court summarized, “Although the two claim types often arise together in the same project, a ‘delay’ claim captures the time and cost of not being able to work, while a ‘disruption’ claim captures the cost of working less efficiently than planned.”

Subcontractors have the burden of proving the same elements for both of these claims: liability, causation, and damages. The subcontractor can usually establish the requisite liability by pointing to:

  • Impacts due to errors and omissions in design documents on design-bid-build projects;
  • Impacts caused by having to perform work out-of-sequence;
  • Delays which push the project into periods of adverse weather conditions; and/or
  • Effect of excessive overtime due to acceleration.

Causation can usually be shown if the events were:

  • Unforeseeable at the time of contract or change order execution;
  • Beyond the subcontractor’s control;
  • Caused by the owner or design professional on a design-bid-build project; and/or
  • Caused by situations for which the owner or general contractor assumed contractual liability (e.g. force majeure or differing site conditions).

The damages element is distinct for the two claims. Proving a delay claim requires showing you were delayed on one of your critical path activities because of someone else’s actions, and how that delay cost you additional dollars in general conditions, standby costs, or otherwise. Typically, to obtain a time extension or additional compensation for extended performance, based on the terms in the subcontract and prime contract, the delay generally must affect overall project completion, meaning, the delay must be critical. This can be tricky as work that is critical for a subcontractor may not be critical for the prime contractor and the whole project. Additionally, recovery may be barred to the extent you were responsible for any concurrent delay, or if either contract has a valid no damages-for-delay clause.

On the other hand, loss of productivity claims are instead concerned with unanticipated increases in the costs incurred to perform any given work activity. In other words, you incurred more labor costs to get the job done because you had to work overtime, you had to use more employees than planned, there was stacking of the trades or other causes making you less efficient. It is irrelevant for loss of productivity claims whether the impacted activities lie on the critical path, although loss of productivity is often a consequence of a prior delay. While it may not necessarily require a precise calculation, proving how you were less productive typically requires utilizing a methodology recognized by the court or arbitrator. Sample methodologies include: actual cost method (if actually tracked during the project), measured mile, similar work comparison, specialty and/or general industry studies, and modified total cost method (some or all of which may require expert testimony).

Steps to Consider

With the elements in mind, you should consider reviewing and understanding the subcontract and prime contract’s terms so you can abide by them. You can start with both contracts’ definition and other pertinent sections. Focus on definitions and terms like: substantial completion/time, date of commencement, scheduling (i.e. critical path method), disruption/lack of productivity, claim provisions for delays (unexcused vs. excused delay) (compensable vs. non-compensable delays), claims and notices of claims, no damages for delay and disruption clauses, and concurrent delays. It may be worth noting if the subcontract and prime contract have conflicting terms, and what you would have to do to comply with both (essentially the more stringent term). Important provisions in the prime contract can include provisions relative to the schedule of work, the prime contractor’s ability to manage and modify its work plan, schedule and sequence and its ability to seek relief from the owner arising out of changes to and impacts upon his work plan and schedule. You may want to look to and comply with the notice and claims provisions because they will almost certainly affect the subcontractor’s claims process, since the prime contract is almost always incorporated by reference into the subcontract. When it comes to the subcontract specifically, you can look at provisions covering the same issues and delay or disruption claims caused by owner or for which owner is responsible, and delay or disruption claims caused by prime contractor or for which prime contractor is responsible.

Because they can govern how your claim will be addressed, and whether you will be able to recover, it is important to understand the prime contract and subcontract’s obligations and terms before bidding or contracting. If possible, consider negotiating around harmful terms and conditions. For example, you may want to know if the subcontract or prime contract has an enforceable “no damages for delay/disruption” clause or if it limits the subcontractor to whatever the prime contractor receives from the owner. This may prevent you from obtaining any money as a result of delays or disruption.

Because the subcontractor typically has the burden of proving how the delay or disruption impacted it, and the amount of its damages, you will want to consider how you document your project. Generally, contemporaneous notes and explanations for deviations from the work plan (including photos/videos) are most persuasive. Likewise, consider separately tracking actual costs directly attributable to the delay or disruption.

The success of a case can come down to good record-keeping. It can help if you use a uniform system of recording field labor and equipment productivity on a contemporaneous basis. Routinely comparing actual labor and equipment productivity to as-bid or as-planned can be another way to catch a problem early on. It may help to prepare and review job cost reports at least monthly. Similarly, consider documenting your time and resources by using cost codes to track hours spent on work outside the original scope or caused by delays or disruptions versus hours spent or anticipated on base contract work.

Potential Traps

Even after work has started, caution may be needed when signing documents. Change orders, payment applications, and related lien waivers and releases often contain broad boilerplate language which may waive, release, or otherwise affect all claims up through the date of the lien waiver or payment, or associated with the change order, whether or not previously presented, or paid. Be careful signing documents with waiver or release language or setting forth the amount you are entitled to through a specific date, unless it is your intent to grant one, or to be bound by such terms.

Cumulative Impact Claims

Beyond the release and waiver concerns associated with signing a change order, subcontractors should beware of—and, if possible reserve their claims arising out of, the cumulative impact. The cumulative impact is the corresponding ripple effect on the base contract and other change order work when a project requires numerous change orders. Cumulative impact problems are likely to follow:

  • Work flow disruption,
  • Out of sequence work,
  • Lack of materials,
  • Same work but different conditions,
  • Base contract work performed in adverse weather conditions, and
  • Significant overtime.

The same principles for delay and disruption claims apply to cumulative impact claims. First, consider reserving rights to the cumulative impact claim, if at all possible. If the change order requests the number of days of delay, you may want to be wary of saying “zero.” The cumulative impact should be considered and accounted for before signing the change order, or reserved in the change order. Second, be ready to demonstrate that the number of changes were excessive, and affected the costs of performing the base contract work, and that there is a link between the excessive change orders and the loss of productivity. This can be difficult, and you probably need an expert to help prove the claim, but a successful cumulative impact claim requires meeting the elements. Practically, this means you may want to document the ripple effect and associated costs of numerous change orders as soon as you identify a possible cumulative impact claim.

Claims for Which the Owner Is Responsible

When any delay or disruption claim arises out of something for which the owner is responsible, the subcontractors should prepare to work with their prime contractor to prove their claims. While the subcontractor’s interests should generally parallel the prime contractor’s interests, the subcontractor’s remedies are likely limited by the prime contractor’s obligations and responsibilities to the owner, and the prime contract. For example, the prime contractor is likely obligated to provide the owner written notice within a certain number of days of knowledge of the facts giving rise to the event for which the claim is made. There is likely a similar requirement to provide written documentation of the claim—though some states may have case law, like Arizona’s New Pueblo Constructors, Inc., that may soften these formal requirements, if the owner knows of the claim and is not prejudiced by the failure to provide timely written notice of the claim. Because the prime contractor is obligated to notify the owner within a certain amount of time, the subcontractor needs to tell the prime contractor even earlier. Likewise, the subcontractor should be aware that its remedies (e.g. time extension or dollars) may be limited by the prime contractor’s contract with the owner.

Getting the Right Help

Finally, subcontractors should consider finding the right help. Consultation with knowledgeable legal counsel and claims consultants early in the process may be helpful in analyzing potential claims. The attorney may want to keep work product and privilege protections in mind when hiring the consultant. The attorney and the consultant can analyze the relevant contracts, original work plan, impacts, costs incurred, and the likely factual and legal defenses.

When you meet, the lawyer may want to see:

  • Signed contracts and work plans;
  • Daily reports addressing labor and other resource utilization, as well as any project conditions that have delayed or impacted performance;
  • Written notices and meeting minutes regarding any delays or impacts; and
  • Proof there was follow-up in a contractually proper and timely manner to present a quantification of time and/or money sought as relief.

Before even filing a claim, a consultant can be helpful for interpreting construction plans, explaining industry usage, and offering a realistic analysis of the performance. This can help negotiate an early and advantageous settlement. If your attorney retains a consultant at the outset, the consultant may help you obtain and preserve important evidence for later use (site inspections, photographs/video, repair/redesign efforts, and damage mitigation efforts).

Preserving delay and disruption claims requires action before the work (understanding the contracts), during the work (record-keeping), and after there is a problem (working with prime contractor/attorney/consultant). Because delay and disruption claims may be difficult to meet, taking the steps before, during, and after may greatly improve your chances to succeed.

Jim Sienicki is a partner at Snell & Wilmer. Sienicki’s practice involves construction contract preparation, construction law representation and litigation, procurement law and bid protests, general commercial litigation, creditors’ rights and other litigation, alternative dispute resolution and appellate matters. He can be reached at (602) 382-6351 or jsinicki@swlaw.com. Creighton Dixon is an associate at Snell & Wilmer. He concentrates his practice in litigation. Dixon can be reached at (602) 382-6408 or cdixon@swlaw.com.

 

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Abide by the Subcontract to Preserve Claims and Don’t Release Claims Through Release and Waiver Forms

June 2018

 

by Timothy Woolford, Woolford Law, PC

Success on a construction project often hinges on obtaining additional compensation for increases to your scope of work or additional time for delays beyond your control. Demonstrating your entitlement to a time extension or additional compensation is harder than ever today because most owners are very budget and schedule conscious. They’re often very resistant to requests for time or money and looking for any basis to deny relief. In light of this, subcontractors must not make it even more difficult by missing claims notice deadlines or failing to include required information in the notice. If you don’t comply with the notice of claims provisions in the subcontract, you give the customer an easy way to deny relief to which you might otherwise be entitled.

In the past, use of the AIA subcontracts was more common than it is today. The AIA subcontract provided then (as it does today) that written notice of a claim must be provided to the general contractor within 21 days of the date that you first became aware of the claim or the condition giving rise to the claim. Today, most general contractors have developed their own subcontract forms, which are usually intended to provide greater protection to them and less to subcontractors. They often contain traps specifically designed to cause subcontractors to inadvertently waive claims for time and money. These customized, or proprietary subcontracts, often shorten the time for giving notice to much less than 21 days. It is not unusual to see a requirement that written notice of claims be given within two or three days coupled with strong language that if notice is not given on time, the claim is waived.

Use ASA Model ‘Stickers’ to Preserve Your Rights

by American Subcontractors Association

Include ASA’s model “stickers” in your tactics to avoid potentially damaging language hidden in the “fine print” of routine project documents. Change orders, pay applications and other routine documents all too often contain language limiting subcontractors’ rights. ASA members can download the model “stickers” from the ASA Web site and affix them to:

  • Signed change orders submitted to customers. The ASA Change Order Reservation of Rights sticker reserves your company’s rights to “additional claims for any delays, inefficiencies, disruption or suspension, extended overhead, acceleration, and the cumulative impact of this and other change orders issued to this date.”
  • Signed lien or bond waivers submitted to customers. The ASA Lien Waiver Reservation of Rights sticker specifies that your company does not waive “any lien or bond rights securing payment of retainage, unbilled changes, and claims which have not been asserted in writing or which have not yet become known to Subcontractor.”
  • Signed payment applications submitted to customers. The ASA Payment Application Reservation of Rights sticker makes releases or waivers “effective only to the extent of payments actually received and … inapplicable to work performed and/or materials furnished for which payment has not been received.”
  • Signed schedule approvals submitted to customers. The ASA Schedule Approval Reservation of Rights sticker reserves your company’s right to claims for “additional costs with respect to unresolved issues” and claims resulting from work that does not proceed in accordance with the schedule because of the actions of others.

Print the ASA stickers on Avery 5163 (or equivalent) labels and keep them handy in your office. Download the stickers from the ASA Web site under “Contracts and Project Management” by clicking on “Log In/Access Member Resources.”

In order to avoid waiving your claim, it is critical to know how much time you have under the subcontract to give notice of your claim and to comply with it. Short time periods are the norm now, so you’ve got to act very quickly in many cases. Don’t drag your feet and miss the deadline hoping it all work out in the end. Moreover, you must understand the information that your written notice is required to contain. Avoid the trap of doing “what you normally do,” or have done on past projects. Don’t wait until a project closeout meeting to put your claim on the table. Don’t make the mistake of thinking that the claim was preserved because it was discussed at weekly or bi‑weekly job meetings, or discussed verbally. Instead, carefully review the subcontract to understand the precise requirements for the timing and content of claims and follow them. If you miss the deadline or omit required information, your customer is likely to reject the claim on the ground that you did not comply with the subcontract and waived the claim as a result. Make sure any subcontracts that you enter into with lower-tiers also require the subcontractor to notify you of claims in time for you to timely notify your customer.

Some subcontractors don’t strictly follow the notice provisions fearing they might alienate the customer or appear adversarial. They worry that the customer will retaliate against them by delaying progress payments, sitting on change order proposals, backcharging them or otherwise making life difficult for them. Don’t let these fears preclude you from giving timely and proper notice. One way to fulfill your notice obligation while avoiding the appearance of adversity is to use language like this in your notice of claim:

Dear Customer:

Your subcontract requires subcontractors to place you on notice whenever our work is being delayed. While we have no desire to become adversarial, we do recognize the need to adhere to the provisions in your subcontract regarding notice. As a result, we are required to tell you about the following which is impacting our work …

The benefit of language of this type is that you are giving notice while making it seem like you are simply being a good subcontractor who is following the customer’s requirements. While you must be sure to choose language that satisfies the requirements of the subcontract, there are often different ways of saying the same thing. The way you say it can make a big difference and reduce the chance that you will burn a bridge by giving notice of a claim.

Make sure all personnel involved with the project are aware of and well-versed in the notice requirements of the particular project. If project-level personnel are not aware of the requirements, it increases the chance that deadlines will be missed. Particularly on longer projects, it is not unusual to change project managers or superintendents in the middle of the project. Make sure the new people are aware of the requirements. It is easy for new PMs and superintendents to be so focused on getting acquainted with the project that they fail to comply with notice requirements.

Another critically important step to preserving claims for time and money is to avoid waiving claims through the submission of release and waiver forms as part of the payment process. Subcontractors are frequently required to submit an executed waiver and release form as a condition of receiving progress payments. These are often called Waiver of Liens forms or some other similar name. Many subcontractors incorrectly assume that these forms are boilerplate and harmless documents that have no effect on pending change order proposals or other claims for which notice was previously given. That assumption is incorrect.

Subcontractors must understand that signing them can waive all claims that arose before the date of the release. Even pending change order proposals can be waived and released by signing these documents. This is because many release forms state that in exchange for the payment, the subcontractor waives and releases any and all claims or requests for payment that arose before a certain date. If the change order proposal arose before that date and is not carved out from the scope of the waiver or release, it will likely be considered waived and released. Courts enforce release and waiver forms and if you have not preserved your claim, recovery will probably be denied. Therefore, do not assume that a routine change order request (which has not yet been approved) is not covered by the release language.

When reviewing the subcontract during the bidding and negotiation phase, determine if it requires you to submit a release or waiver form in exchange for payment. If it does, request a copy of release or waiver form and determine if it contains language providing that you waive or release claims that arose before a certain date. See if the form allows you to specifically identify claims that you do not intend to waive or release. If it does not, ask that the form be revised to include a place where you can identify claims that you do not intend to waive release. This is called reserving claims or exempting them from the scope of the release or waiver. You must clearly identify claims that you do not intend to release or waive. For example, if there are pending change order proposals or time extension requests, identify them by name and number.

If the form does not have a place to reserve or exempt claims and the customer refuses to revise the form, you should still attempt to reserve or exempt the claims by identifying the claims that you do not intend to waive. A handwritten or typed description of the claim either in the margin or at the bottom of the page with a statement identifying the claim(s) not intended to be released, will likely be sufficient. If the customer refuses to allow you to reserve or exempt claims on the form and tells you that it will not pay you unless you sign the form without modification, we recommend you comply with the customer’s demand in order to obtain the payment. However, write a contemporaneous letter or email making it very clear that you are signing the release without reserving the claims under protest because the customer refuses to make payment otherwise. We cannot guarantee that a court or arbitrator in your jurisdiction will rule that the claims were not waived or released, but this strategy at least gives you an argument that you clearly informed the customer of the claims you did not intend to release.

By far, the best approach is to address the language of the form at the negotiation stage and to insist that the form have a space for you to reserve or exempt claims from the scope of the release or waiver. Once the language of the release or waiver is agreed upon, make sure it is attached to the subcontract as an exhibit and that the subcontract is clear that the form attached as the exhibit is the one you will be required to sign in order to receive the progress payment.

Failing to provide timely and proper notice of claims can be devastating. This article is designed to provide very general guidance on a complex subject. Each subcontract and each project are unique. You should consult with an experienced construction attorney regarding your individual circumstances.

Timothy Woolford, Woolford Law, P.C., is a construction attorney in Pennsylvania that represents subcontractors and other construction professionals. He is also an adjunct professor of law at the Penn State Law School where he teaches construction law to second- and third-year law students.

 

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Contractor Community

June 2018

 

House Committee Approves ASA-Endorsed Contractor Payment Protections

The House Armed Services Committee, on May 9, voted to incorporate two key contractor payment protections in the National Defense Authorization Act for Fiscal Year 2019 (H.R. 5515). One amendment (Sec. 855) would require federal contracting agencies to provide with their invitations for bid and requests for proposals details on their change procedures and historical performance data about the resolution of change orders.

ASA Chief Advocacy Officer E. Colette Nelson told the committee, “The provision will help federal construction contractors and subcontractors learn and understand the risk of nonpayment for change orders before bidding and signing a contract.”

The second amendment would exempt the Miller Act from the periodic inflation adjustments to an acquisition-related dollar threshold. The 1935 Miller Act requires a prime contractor on federal construction projects over $150,000 to provide a performance bond for the protection of the government and a payment bond for the protection of subcontractors and suppliers. In 2006, Congress indexed the Miller Act and other procurement thresholds to inflation. Thus, in 2015, the threshold for the Miller Act increased from $100,000 to $150,000. Under current law, that threshold will be reviewed every five years and further increase in $50,000 increments.

Nelson told the Armed Services Committee, “Without this change in the law, a growing number of subcontractors and suppliers will be left without payment assurances.” If enacted, both of these provisions are expected to provide a precedent for public work at the state and local levels.

 

FASA Publishes Revised Edition of Prompt Payment in the 50 States

Many state legislatures have recognized the importance of prompt payment as public policy and interjected their notions of fairness into the traditional private contractual relationship through the enactment of state prompt pay laws. These statutes have attempted to level the playing field in the construction industry by imposing significant monetary disincentives, such as interest and attorney fees upon those holding funds belonging to another for an unreasonable time after the work has been satisfactorily performed.

Construction subcontractors seeking the most current information regarding state laws on prompt payment for commercial construction can now access a newly updated Prompt Payment Laws in the 50 States 2018. This popular manual charts state-by-state breakdown of such details as the time frame for payment from owners to prime subcontractors; from prime contractors to subcontractors; and from subcontractors to lower-tier subcontractors. The manual is a no cost benefit for ASA members and is available under “Contracts and Project Management” in the Member Resources section of the ASA Web site. The manual was prepared by ASA general counsel Kegler, Brown, Hill and Ritter, Columbus, Ohio.

 

House Approves ASA-Initiated Change Order Bill

The U.S. House of Representatives approved H.R. 4754, the “Change Order Transparency for Federal Contractors Act,” by voice vote on May 8. The bill, which was initiated by ASA and the Associated General Contractors of America, would require federal contracting agencies to provide with their invitations for bid and requests for proposals details on their change procedures and historical performance data about the resolution of change orders.

“When enacted, H.R. 4754 will help federal construction contractors and subcontractors learn and understand the risk of nonpayment for change orders before bidding and signing a contract,” said ASA Chief Advocacy Officer E. Colette Nelson. “These transparency provisions are just a down payment on the reform of change order practices on federal construction.”

ASA also is pursuing legislation that would require federal agencies to respond promptly to requests for equitable adjustment, make provisional payment of 50 percent of REAs, and make regular reports to contractors on the status of REAs.

 

ASA Publishes Paper on Preparation and Presentation of Changes and Claims

Despite diligent project management that has recognized and responded to any change or changed condition, most requests for equitable adjustment cannot be resolved until a more formal, detailed change order proposal has been submitted to the prime contractor or owner. ASA’s white paper Preparation and Presentation of Change Proposals and Claims reviews the purpose, structure and format of change proposals and provides tips for negotiating change proposals and claims.

The white paper is available in the Member Resources section of the ASA Web site by logging-in under “LogIn/Access Member Resources” and clicking on “Contract Changes and Claims.”

 

New Federal Bid Protest Procedures Now in Effect

Beginning on May 1, the Government Accountability Office began implementing new bid protest procedures, including an electronic filing system and a filing fee. GAO’s new Electronic Protest Docketing System replaces the various filing methods allowed in the past, including mail, fax and email. The new EPDS Web site includes detailed registration guides and instructions. “Given the tight timelines for filing protests, prospective filers should register on the new GAO system well in advance,” warned ASA Chief Advocacy Officer E. Colette Nelson.

Bid protest rules explicitly place the burden for the timely filing of protests and protest-related submission on the filing party. Nelson also noted that the new EPDS does not remove the existing requirement for an entity filing a new bid protest to provide the procuring agency’s contracting officer within 24 hours of filing the protest with GAO. In addition to the new electronic filing system, GAO has instituted a $350 filing fee, payable at the time of filing, as a condition to the acceptance and processing of a new bid protest.

 

OSHA Announces Intent to Consider Silica Rule Revisions

The Occupational Safety and Health Administration, on May 9, announced its intent to consider revisions to Table 1 in its final rule on Occupational Exposure to Respirable Crystalline Silica. Specifically, OSHA reported that it intends to publish a Request for Information in November 2018.

“This will provide an opportunity for ASA, other construction associations, construction employers and members of the general public to give OSHA input on the workability of the silica regulation,” explained ASA Chief Advocacy Officer E. Colette Nelson.

ASA repeatedly has expressed concerns about the viability of Table 1, since OSHA published its rule on March 26, 2016. Table 1: Specified Exposure Control Methods When Working With Materials Containing Crystalline Silica matches common construction tasks with dust control methods. In some operations, respirators also are needed. Under the OSHA rule, employers who follow Table 1 correctly are not required to measure workers’ exposure to silica and are not subject to the permissible exposure limit. ASA, as a member of the Construction Industry Safety Coalition, asked OSHA to revise Table 1 to make it more workable for more construction employers.

 

OSHA Will Delay Enforcement of Certain Provisions of the Beryllium Standard

OSHA announced that it will delay enforcement of ancillary provisions included in the beryllium standard for general industry until June 25. Under the terms of settlement agreements with petitioners who challenged the rule, OSHA plans to issue a proposal to further extend this compliance date for the ancillary provisions to Dec. 12, 2018.

In a memorandum dated May 9, OSHA said it would begin enforcing certain requirements of beryllium rule in general industry, construction, and shipyards on May 11, as scheduled; those requirements include the permissible exposure limits in the general industry, construction, and shipyard standards; and the exposure assessment, respiratory protection, medical surveillance, and medical removal provisions in the general industry standard.

 

ASA and AGC Officers Discuss Top Industry and Public Policy Issues

During an April 6 meeting in New York City, national officers of the Associated General Contractors of America and ASA discussed top industry and public policy issues, including workforce shortages, price volatility in construction materials, prefabrication in construction, design delegation, and how the two groups can collaborate to increase the use of ConsensusDocs in the construction industry. The ASA and AGC officers meet each year to discuss issues and explore new ways in which the associations can work together. ASA’s representatives were 2017-18 President Jeff Banker, Banker Insulation, Chandler, Ariz.; 2017-18 Vice President and President-elect Courtney Little, ACE Glass Construction Corporation, Little Rock, Ark.; 2017-18 Treasurer Anthony Brooks, Platinum Drywall, Little Rock, Ark.; ASA Immediate Past President Robert Abney, F.L. Crane & Sons, Inc., Southaven, Miss.; and ASA Chief Advocacy Officer E. Colette Nelson. The meeting of ASA and AGC officers took place the day after the annual Engineering News-Record Awards of Excellence luncheon and dinner.

 

DOL Adopts Final Rule on Longshore Workers’ Comp Claims

On April 19, the U.S. Department of Labor’s Office of Workers’ Compensation Programs adopted a new regulation that clarifies how maximum and minimum compensation rates apply to claims payable under the Longshore and Harbor Workers’ Compensation Act and its extensions. The LHWCA, a federal law similar to workers’ compensation, applies to construction performed on navigable waters of the United States and in adjoining areas. Current regulations offer little guidance to employers and injured workers on applying the maximum and minimum provisions. The new rule provides concrete directions on how to apply the maximum and minimum provisions in an individual case. The new regulation took effect on May 21, 2018.

 

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‘Pay-If-Paid’ Clauses—The Freedom to Contract vs. the Subcontractor’s Statutory Rights to Enforce Payment by Mechanic’s Liens or by Payment Bond

by James Palecek, Palecek & Palecek, PLLC

It has been noted that a majority of states in America allow a general contractor and a subcontractor to enter into a construction contract which “shifts the risk” of non-payment from the owner to the subcontractor. See “PAY IF PAID” CONTRACT PROVISIONS, Providing Some Enforcement Consistency and Predictability in an Unsettled Area of Law, 57 No. 2 DRI For Def. 23, February 2015, by Ronald P. Friedberg. On the other hand, a vocal minority of states do not allow this contractual risk-shifting, and part of the reasoning in some of these states, including California, addresses the subcontractor’s statutory rights to lien property or to make a bond claim when there has been non-payment from the general contractor, regardless of the reason for the non-payment. See FREEDOM FROM THE FREEDOM-TO-CONTRACT: CALIFORNIA SUPREME COURT INVOKES PUBLIC POLICY TO INVALIDATE “PAY IF PAID” CLAUSES IN CONSTRUCTION CONTRACTS, 21 T. Jefferson L. Rev. 253, October 1999, by Eric N. Larson. However, for the majority of states, a valid “pay if paid” clause will invalidate a subcontractor’s lien or payment bond remedy.

This article will first address the state of the “pay if paid” law in Arizona. Then, it will compare it to California’s public policy against such clauses. Finally, this article will discuss the majority rule whereby such clauses are enforceable and address the inherent conflict in not allowing subcontractors the rights to enforce lien and bond claims when payment is not made by the owner.

Arizona Enforces Valid ‘Pay If Paid’ Clauses

The current case precedent in Arizona on a “valid” pay-if-paid clause is L. Harvey Concrete, Inc. v. Agro Constr. Supply Co., 189 Ariz. 178, 939 P.2d 811 (App. 1997). In Harvey, the trial court concluded as a matter of law that the pay-if-paid provision in the subcontract created a condition precedent to contractors’ obligation to pay subcontractor. Id. Defendants argued and the court agreed that, “Arizona law permits an absolute shifting of the risk of nonpayment through a pay-when-paid provision that clearly and unambiguously establishes an intent to create a condition precedent.” Id. at 180. No “magic words” are required, just “contractual language demonstrating the parties’ unequivocal intent that the obligation be paid out of that fund and not otherwise.” Id. at 182. The relevant contract language in the Harvey case reads as follows:

Notwithstanding anything to the contrary in the preceding paragraphs of this agreement, subcontractor agrees as a condition precedent to payment, of either progress or final payment, that the owner shall have first paid the payment applied for to the contractor, and that payment for either progress payments or final payment is not due and owing to the subcontractor as provided for herein until the owner has made such payment to the contractor. The subcontractor recognizes that the source of funding for this subcontract agreement are [sic] the progress and final payments that are to be made by the owner to contractor. Id. at 180, 939 P.2d at 813 (emphasis added).

However, not all “contingent payment” language in contracts in Arizona constitute “pay IF paid” clauses. Some clauses, depending on the language, constitute merely “pay WHEN paid” clauses, which do NOT absolutely shift the risk of payment from the general contractor to the subcontractor.

In Watson Const. Co. v. Reppel, 123 Ariz. 138, 140, 598 P.2d 116, 118 (App. 1979), the Court of Appeals considered language in a construction subcontract that said the general contractor would pay the subcontractor “promptly upon receipt from the Owner, the amount received by the Contractor on account of the Sub-Contractor’s work to the extent of the Sub-Contractor’s interest therein.” The subcontract in Watson also had language that said “[a]t all times subcontractor shall be paid to the extent that the contractor has been paid on his account.” Id. Considering the language of the subcontract, the court in Watson held that the subcontract “created fixed obligations” to pay the subcontractor, and the payment provisions “merely provid[ed] a convenient or normal time for payment.” Id.

Similarly, in Darrell T. Stuart Contractor of Arizona, Inc. v. Bridges & Rust-Proofing, Inc., 2 Ariz. App. 63, 64, 406 P.2d 413, 414 (1965), the Court of Appeals addressed language in a subcontract that provided, “The contractor shall pay the subcontractor’s pay estimate (less ten percent (10%) retainage within ten days after receipt of payment by the contractor and as allowed by the Government.” In an opinion that reviewed the history of pay-if-paid and pay-when-paid provisions, the court in Darrell Stuart held:

[T]he plaintiffs’ entitlement was not conditioned upon the receipt of the money by the defendant. If and when the defendant received money from the contractor, the defendant was obligated to pay the plaintiffs within 10 days from said receipt. If the defendant did not receive all of its money from the contractor, the defendant nevertheless remained indebted to the plaintiffs and the plaintiffs were entitled to payment within a reasonable period of time following the completion of the performance of their contract obligation. Id., 2 Ariz. App. at 65, 406 P.2d at 415.

Third, the court in Pioneer Roofing Co. v. Mardian Constr. Co., 152 Ariz. 455, 733 P.2d 652 (App.1986) reviewed contract language that provided “the recovery by Subcontractor for [additional] work shall be conditioned upon a prior recovery therefore by Contractor from the Owner.” 152 Ariz. at 469, 733 P.2d at 666. Even with language saying that payment was “conditioned” on approval by the owner, the court rejected the general contractor’s defense, holding, “we find no proof of an intent that payment to [the subcontractor] was to be made exclusively or only from funds paid by or on behalf of [the owner].” Id. at 470, 733 P.2d at 667.

The emphasized language from the contract in L. Harvey is distinct from the three earlier cases, Watson, Darrell Stuart and Pioneer Roofing. The subcontract in L. Harvey specifically referred to a “condition precedent to payment:”

The language used here is much stronger than that used in Watson or Pioneer Roofing in showing an intent to limit recovery to the payments received from the owner. The contract between Agate and Harvey expressly states that receipt of payment from the owner is a “condition precedent” to recovery. It further states that “payment for either progress payments or final payment is not due and owing … until the owner has made such payment to the contractor.” Finally, the contract identifies as the source of funding for the subcontract the “progress and final payments that are to be made by the owner to the contractor.” We find the language here sufficiently reflects the concept of exclusivity necessary to demonstrate that the parties clearly and unequivocally intended to create a condition precedent shifting the risk of nonpayment from Agate to Harvey. Thus, the condition precedent is valid and enforceable. L. Harvey Concrete, Inc. v. Agro Const. & Supply Co., 189 Ariz. at 182, 939 P.2d at 815 (emphasis original).

California’s Supreme Court Invalidated “Pay If Paid” Clauses in 1997

In 1997, the same year that L. Harvey was decided in Arizona, the California Supreme Court affirmed (4-3) the Second District’s decision upholding the right of subcontractors to collect from a general contractor’s surety when there is a valid “pay if paid” provision and when, upon the owner’s default, the general contractor refuses payment to the subcontractor. Wm. R. Clarke Corporation v. SAFECO Insurance Company of America, 15 Cal. 4th 882, 886, 938 P.2d 372, 374, 64 Cal. Rptr. 2d 578, 580 (1997).

The California Supreme Court went much further though by invalidating all “pay if paid” clauses because, in short, they amount to a waiver of subcontractors’ constitutionally protected rights to mechanic’s liens, which rights are found throughout the California laws, including, among other provisions, the right to lien property where one has provided labor or materials (Cal Const. of 1879, art. XIV, Sec. 3 (1976), the preclusion of the waiver of such liens in contractual provisions where the terms “waive, affect, or impair the claims and liens…shall be null and void” (Cal Civil Code Sec. 3262). Moreover, the Cal Civil Code Section 3096 defined the parameters for which bonds could be issued, allowing a contractor to “foreclose the liens provided for in this title, and, finally, Section 3226 mandated that sureties would be “released from liability…by reason of any breach of contract between the owner and the original contractor.” See “Freedom from the freedom to contract…, Larson, at 276-277.

In this law review article, the author, Eric Larson, does an in-depth analysis of the case and the many issues that were addressed. Importantly, he provides a critique on the Supreme Court’s decision and finds that the court got it right. He addresses the various arguments made by general contractors in favor of pay if paid clauses, including freedom to contract. Id at 272-281.

He also alludes to courts in other states that have found “ambiguity” in these contractual payment provisions (Florida, as an example) so as to not invalidate the subcontractors’ rights to mechanic’s liens, while a Virginia court took great pains in its analysis before it was fully satisfied that the subcontractor “truly intended” to share the risk of owner default.

Larson concludes that California’s Supreme Court got it right because invalidating “pay if paid” clauses will bring predictability to the ambiguous area of contract interpretation: “Building contractors will be able to focus on their business of constructing projects, as opposed to the wrangling over contractual vernacular and the legal nuances that emanate there from. Subcontractors may now take solace with the assurance that their mechanic’s liens will protect them as designed, and that sophisticated contract drafters will not be able to undermine the important constitutional protection.”

The Alternative (and Majority) View: Ohio’s Transtar Electric Case

In contrast, the majority of states allow the enforcement of pay if paid provisions. Ronald Friedberg analyzed the “state” of this contingent payment clause in a variety of states and found that there is still a lack of “settlement” in the states. “PAY IF PAID” CONTRACT PROVISIONS, Providing Some Enforcement Consistency and Predictability in an Unsettled Area of Law, 57 No. 2 DRI For Def. 23, February 2015, by Ronald P. Friedberg.

In Transtar Electric, Inc. v. A.E.M. Electric Services Corp., 140 Ohio St. 3d 193, 16 N.E. 3D 645 (2014), the Ohio Supreme Court reversed the Sixth Appellate District Court of Appeals saying, essentially, that the words “condition precedent” in the pay if paid clause ARE clear and unambiguous (by themselves) to clarify to a subcontractor that it is giving up its rights to enforce payment if the Owner does not pay the general contractor (including the giving up of its mechanic’s lien rights).

Friedberg finds this decision to be right and to create some certainty in Ohio law. He further believes that the “transfer of non-payment risk through a “pay if paid” condition precedent does not bestow undue hardship upon a subcontractor, een one who has less sophistication, economic wherewithal and/or bargaining power vis a vis the general contractor” because “the risk-assuming subcontractor can, and should, take into account this transfer of risk in setting the subcontract price…” He further says that the “prevention” doctrine will prevent an unsavory general contractor from enforcing the clause.

However, while noting that in the robust minority of states (California, New York, North Carolina, and Massachusetts, as examples), the courts have addressed the constitutionally or statutorily-protected rights of subcontractors to enforce mechanic’s liens, nowhere in his conclusions does it appear that Friedberg addresses this same public policy protection in his state of Ohio.

There are those states that clearly see that a contractual pay if paid provision cannot undermine a subcontractor’s lien and bond rights protected by the laws of a state; however, contractual waiver of lien and bond rights is found in a majority of states, which is dubious. Clearly, no subcontractor ever intends to “waive” its mechanic’s lien or bond rights. However, until such time that the issue reaches the highest court of these states, general contractors will continue including and asserting these provisions to keep subcontractors from enforcing their payment rights.

James Palecek is a co-managing member of Palecek & Palecek, PLLC. He started out his legal career in Ohio as an associate in a law firm founded by his father, and, for the last 20 years in Arizona, he has advised construction and other corporate clients in business transactions and in litigation. His clientele has included suppliers/vendors, subcontractors, general contractors, developers and consultants in both the commercial and residential construction arenas and in both the public and private sector. In addition to a focus in construction law, he has also led the firm’s corporate transactional and real estate practice areas for over 14 years. He can be reached at (602) 522-2454 or  jpalecek@paleceklaw.com.

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