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DANIELLE COLE JOINS THE FIRM AS PARTNER
R E S U L T S CO-EDITORS
ATLANTA OFFICE ADDRESS: 1100 PEACHTREE STREET SUITE 200 ATLANTA, GA 30309 PHONE: 404-872-4343 FAX: 404-872-4315 Association Construction Law Section, and is a frequent speaker and author on a wide variety of issues related to the construction industry at both the national and local levels. Ms. Cole’s commitment to the industry is further demonstrated
through her involvement with the Contract Documents Committee of the Associated General Contractors of America and the subcommittee developing joint-venture and teaming agreements for ConsensusDOCS; her membership in the National Association of Women in Construction and prior service on the Board of Directors for the Atlanta Chapter; and her participation in local chapters of the Associated Builders and Contractors of America and DesignBuild Institute of America.
In 2012, Chambers USA, a legal directory featuring client-led intelligence on America’s leading lawyers, included Ms. Cole among a select group ranked as the leading construction attorneys in Georgia. In light of her accomplishments, Ms. Cole has also been recognized for the past three years as a Georgia Super Lawyer in the field of construction litigation - one of only two female attorneys in Georgia ever to receive this honor. n
PECKAR & ABRAMSON 41 Madison Avenue | 20th Floor New York, NY 10010
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VOLUME XX, ISSUE 1, FALL 2012
CHARLES F. KENNY, PARTNER AND MICHAEL S. ZICHERMAN, PARTNER
DANIELLE COLE JOINS THE FIRM AS PARTNER PECKAR & ABRAMSON OPENS ATLANTA OFFICE
Peckar & Abramson is pleased to an nounce the opening of its Atlanta, Georgia, office on the first of August. We are Danielle also pleased to Cole announce that Danielle Cole has joined the firm as Partner in our new Atlanta office. Ms. Cole represents general contractors, construction managers and other project participants, providing counsel, advocacy and assistance prior to bid submission, during the preconstruction and construction phases, and after project closeout. Her practice activities include assisting with bid submissions; negotiating and drafting various contract documents and ancillary agreements; assisting with project administration and dispute avoidance; representing clients in complex mediation, litigation and arbitration proceedings; and serving as corporate counsel. Ms. Cole enjoys an outstanding reputation among the construction bar, based on her significant professional achievements and her long-standing involvement in the American Bar Association’s Forum on the Construction Industry, which she actively serves in various leadership roles. She is the immediate past chair of the Atlanta Bar continued on page 12
FEE SHIFTING IN CONSTRUCTION DISPUTES: A MOVEMENT BUILDING
Charles F. Kenny, Partner Charles F. Kenny
and Scott G. Kearns, Associate
In January 2012, the District Court of New Jersey (Hon. Freida Wolfson, U.S.D.J.) handed down an unpublished opinion in the matter Hunt Construction Group, Inc. v. The Hun School of Princeton. Judge Wolfson’s opinion will be applauded by general contractors inasmuch as it enforces against a subcontractor three separate fee-shifting provisions contained in a construction subcontract. But construction Scott G. Kearns
attorneys should take caution that the requirements for securing an attorneys’ fee award are rigid and, if not properly addressed, can turn a lucrative attorneys’ fee award into a costly and frustrating exercise.
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FEE-SHIFTING IN CONSTRUCTION DISPUTES: A MOVEMENT BUILDING
hours reasonably expended, the Supreme Court has held that courts will look to the following factors, which derive from Rule of Professional Conduct 1.5 (“Reasonableness of Fees”): 1. the time and labor required, the novelty and difficulty of the questions involved, and the skill requisite to perform the legal service properly; 2. the likelihood, if apparent to the client, that the acceptance of the particular employment will preclude other employment by the lawyer;
In Hunt, plaintiff/general contractor Hunt Construction Group, Inc. (Hunt) was hired by The Hun School of Princeton (School) to construct a new athletic building and to renovate an existing building at the School’s campus. Hunt contended that the School failed to pay it for work performed, and commenced suit in the District Court of New Jersey. The School asserted counterclaims against Hunt alleging that construction defects had twice caused flood damage to the gymnasium floor, and, on that basis, the School withheld payment from Hunt as a set off against its remediation costs. Hunt also asserted an indemnification claim against its grading/excavation subcontractor, Interstate Industrial Corp. (Interstate). Hunt ultimately moved for, and was granted summary judgment dismissing the School’s counterclaims. It was also granted summary judgment in connection with its indemnification claim against Interstate, seeking to recover its attorneys’ fees and costs. In connection with Hunt’s subsequent fee application, Judge Wolfson held that three fee shifting provisions in the HuntInterstate subcontract were enforceable. The court’s willingness to enforce these fee-shifting provisions is noteworthy given that New Jersey’s Supreme Court previously held, in Litton Ind. Inc. v. IMO Ind. Inc.,1 that such provisions are to be strictly construed “in light of [New Jersey’s] general policy disfavoring the award of attorneys’ fees.”2 General contractors may want to consider adding variations of each
of these provisions to their construction subcontracts. First, the court awarded Hunt, as against Interstate, the attorneys’ fees and costs that Hunt incurred in defending the School’s counterclaims, which sought to hold Hunt responsible for flood damage caused by Interstate. The award was founded upon a subcontract clause that provided:
who may be responsible, including, without limitation, costs of litigation …and reasonable attorneys’ fees and disbursements. Lastly, Hunt was awarded the attorneys’ fees and costs it incurred in connection with its indemnification claim against Interstate, based upon a clause that read:
If the Owner of a third party brings a claim against Hunt and such claim arises directly, or indirectly, in whole or in part from Subcontractor’s Work or other involvement in the Project, Subcontractor shall:
[s]hould any dispute between Hunt and the Subcontractor proceed to … court, that forum shall award to the prevailing party all of its attorneys’ fees, disbursements or costs as defined in Section 33.6 incurred in connection with the prosecution or defense of the dispute.3
(c): indemnify and hold Hunt harmless from the cost of any judgment or settlement of such claim, Hunt’s reasonable costs in responding to the claim, and Hunt’s reasonable attorneys’ fees and disbursements.
Having established that these fee-shifting clauses were enforceable, and entitled Hunt to recover its attorneys’ fees, the court turned its attention to the question of how to compute the attorneys’ fee award.
Second, Hunt was awarded, as against Interstate, the attorneys’ fees and costs Hunt incurred in pursuing payment from the School, which included payment of sums that were owed by Hunt to Interstate, based upon a clause that read: Subcontractor shall cooperate in the prosecution of claims filed by [Hunt], and shall reimburse Hunt for all expenses and costs incurred by Hunt in connection with the preparation and prosecution of such claims against Owner or others
In New Jersey, attorneys’ fee awards are commonly based upon a lodestar. The term lodestar derives from Middle English and generally means, “the star that guides.”4 Some believe that the term was first coined by the Third Circuit in Lindy Bros. Builders Inc. v. American Radiator and Stnd. Sanitary Corp.5 The lodestar is commonly understood to mean the number of hours reasonably expended by the successful party’s counsel in the litigation, multiplied by a reasonable hourly rate.6 In determining the number of
3. the fee customarily charged in the locality for similar legal services; 4. the amount involved and the result obtained; 5. the time limitations imposed by the client or by the circumstances; 6. the nature and length of the professional relationship with the client; 7. the experience, reputation, and ability of the lawyer or lawyers performing the services; 8. whether the fee is fixed or contingent.7 In determining the reasonableness of the hourly rate charged, courts will compare the hourly rate charged by the prevailing attorney against the hourly rate charged for similar services by lawyers of reasonably comparable skill, experience and reputation in the community. 8 The resulting analysis can be very time-intensive and places the prevailing attorney in the difficult position of having to defend his and
her time entries against the criticism of an adversary who has every reason to attack them on a line-item-by-lineitem basis. However, as unpleasant as the task may be, the District Court, in Hunt, reiterated the need for counsel to perform this lodestar analysis. Since neither Hunt nor Interstate performed the lodestar analysis, the District Court held that it was unable to determine the amount of attorneys’ fees and costs to award Hunt and referred the matter to a Special Master for consideration. Parties seeking to avoid the lodestar analysis have an alternative. In both Hunt and Litton, the courts invited litigants to include in their contracts an alternative approach to determining the reasonableness of an attorneys’ fee award. In Hunt, the court stated that “[a]s the New Jersey Supreme Court has made clear in Litton, courts must apply the lodestar factors unless an alternative methodology for determining the reasonableness of an attorneys’ fee request is specified in the parties’ agreement.” Likewise, in Litton, the court held that: Although the parties could have expressly provided in the contract what approach would be utilized in the absence of express language in the agreement, we resort to our jurisprudence for attorneys’ feeshifting cases … in recognition of the fact that the parties to a contract are presumed to know the relevant legal principles and to have adopted them if they have not expressed a different understanding.9
Thus, the parties would do well, at the contract stage, to consider whether they can agree upon a less time-consuming and invasive manner of computing the reasonableness of an attorneys’ fee award. The move toward fee shifting in construction cases goes beyond the courts to include arbitration proceedings. Given that arbitration clauses are commonly included in construction contracts, it is noteworthy that the Uniform Arbitration Act provides, at N.J.S.A. 2A:23B-21(b), that: “An arbitrator may award reasonable attorneys’ fees and other reasonable expenses of arbitration if such an award is authorized by law in a civil action involving the same claim or by the agreement of the parties to the arbitration proceeding.” Accordingly, parties can expect that feeshifting contract provisions will be equally enforced in arbitrations as in the courts. Contractors should consider including these fee-shifting provisions in contracts that mandate arbitration as the vehicle for resolving disputes. This trend toward fee shifting in construction cases has not gone unnoticed by insurers. At least one carrier, Zurich, now offers contract litigation insurance which covers the risk of having to pay attorneys’ fees in connection with a breach of contract award.10 The Hunt case is another development in the ongoing movement toward fee shifting in construction cases, for better or worse. n
1 200 N.J. 372 (2009). 2 Id. at 385. 3 Section 33.6 provided that “[w]henever reasonable attorneys’ fees, disbursements or costs are referred to in this Subcontract, such terms include, without limitation, the following expenses paid or incurred by Hunt …(a) attorneys’ fees; (b) paralegal fees; (c) appraisers’ fees; (d) documentary evidence and expert witness costs; (e) arbitrator’s fees and expenses; (f ) court reporter charges; (g) publication costs; (h) title searches and examinations; (i) filing fees, recording fees, copying charges and the like, travel, lodging and meal expenses; (j) reasonable hourly charges for the time of Hunt’s personnel; and (k) any other reasonable costs incurred by Hunt.” 4 “Derivation of the Use of ‘Lodestar’ – A Strange Term Still Used But with a Murky Future”, June 7, 2008. 5 487 F.2d 161, 168 (3rd Cir. 1973) 6 See Litton, at 385. 7 Id. at 387. 8 Id.; Furst v. Einstein Moomjy, Inc., 182 N.J. 1, 860 A.2d 435 (2004). 9 Id. at 388. 10 Robert A. MacPherson, “So Far Away From Home It’s No Longer An American Tune: Fee Shifting in Construction Disputes.”
FALSE CLAIMS ACT LIABILITY FOR INFLATED CLAIMS Lori Ann Lange, Partner
As government contractors know, when a contractor submits a claim to the federal government that exceeds $100,000, that claim must be certified. The contractor must certify that the claim is made in good faith, that the supporting data are accurate and complete to Lori Ann Lange
the best of the contractor’s knowledge and belief, and that the amount requested accurately reflects the contract adjustment for which the contractor believes the government is liable. As once again demonstrated by the Court of Federal Claims’ decision in Railway Logistics Int’l v. United States, contractors that inflate the amount of their claims may subject themselves to False Claims Act liability and forfeiture of their claims.
The False Claims Act prohibits contractors from knowingly presenting, or causing to be presented, a false or fraudulent claim for payment or approval; knowingly making, using, or causing to be made or used, a false record or statement material to a false or fraudulent claim; and conspiracy to violate the Act. Contractors who violate the False Claims Act may be subject to civil penalties of up to $11,000 for each false claim, as well as treble damages in instances where the government has paid the false claim. In addition, the contractor may forfeit not only the fraudulent claim but any other claim arising under the contract, even if the fraud is completely unrelated to the factual or legal basis for the claim. In the Railway case, the government awarded Railway Logistics International (RLI) two contracts valued at approximately $2.4 million for the supply of materials for the rehabilitation of the Iraqi Republic Railway. After RLI repeatedly failed to meet its contractual obligations and deadlines, the
government terminated the contracts for convenience. RLI submitted a certified claim for over $6.4 million, seek ing equitable adjustments as well as termination costs, including approximately $2.4 million in alleged subcontractor and supplier costs. RLI’s certified claim did not include an itemization of its costs. During discovery, the government found a spreadsheet prepared by RLI that contained the approximate total amount of the claim and listed the vendors and subcontractors to whom RLI allegedly owed various payments for goods and services. When the government questioned RLI’s owner about the spreadsheet during the trial, RLI’s owner testified that the claim amount was based on calculations from the spreadsheet and that the spreadsheet was a rough estimate. RLI’s records, however, did not match the amounts listed in the spreadsheet. Near the end of the tr ial on the contractor’s claim, the government filed
a fraud counterclaim, seeking forfeiture of the contractor’s claim and damages under the Contract Disputes Act (CDA) and the False Claims Act. The government alleged that RLI knowingly submitted a CDA claim that overstated its costs. RLI argued that its actions did not rise to the level of fraud and that, at most, RLI could be charged with poor record keeping. Noting that the government had the burden of providing clear and convincing evidence that RLI was subject to forfeiture pursuant to the special plea in fraud, the Court of Federal Claims ruled in favor of the government on the counterclaim and awarded the government almost $1.2 million in damages. Finding that every element on the contractor’s spreadsheet was “overstated or imaginary,” the court held that the contractor’s spreadsheet provided clear and convincing evidence that the contractor practiced fraud against the United States in the proof, statement, establishment or allowance of its claim. In ruling for the government, the court noted that RLI had “retreated” from
the spreadsheet and had withdrawn a $3 million claim item for lost business at the start of the trial. Author’s Note: With the federal government’s increased scrutiny of contractor claims for fraud, it is more important than ever that contractor
claims accurately reflect the contractor’s actual costs and that the claims be supported by the contractor’s records. Contractor claims need to be reviewed for cost allowability and accuracy prior to being certified and submitted to the contracting officer. Contractors must ensure that there is a factual and legal
basis for every element of the claim. As demonstrated by the Railway case, the government may pursue fraud claims based upon overstated and/or abandoned CDA claim items, on the theory that these claim items are baseless and were included solely for the purposes of inflating the claim for negotiation purposes. n
Robert S. Peckar, Founding Partner
Robert S. Peckar
PECKAR REPORTS ON CONSTRUCTION DEVELOPMENT IN ISRAEL AND PALESTINE
Robert S. Peckar, Founding Partner of Peckar & Abramson, serves as the National Chairman of Project Interchange, a n e d u c a t i o n a l i n s t i t u t e o f t h e American Jewish Committee. For 30 years, Project Interchange has sent delegations of opinion makers from the United States and throughout the world to Israel for one-week seminars to learn about the complex domestic and international issues facing Israel. These small seminars meet with leading academicians, politic al leaders, religious leaders, Arab-Israelis and Palestinians from the West Bank. They meet with new immigrants, tour strategic areas and gain great insight into the enormous complexities of life in that part of the world.
companies from around the world to conduct their research in cooperation with BGU. Among the seminar members was Marvin Suomi, President of KUD, LLC., the U.S. development and Public Private Partnership (PPP) subsidiary of the Japanese giant Kajima Corporation (www.kudllc.com). Experienced in PPPs with institutions of higher learning, Mr. Suomi, soon after the trip, expressed the interest of KUD in developing the park. After several years of master planning, investment and hard work by KUD, together with BGU and the city, the project has become a reality. In late 2011, KUD, the city and the university partnered with the
impressive Israeli realty company, Gav-Yam, to invest in the park, known as the ATP. Over a period of 15 years, the ATP will contain 23 buildings with 2 million square feet of research and development, becoming the “Silicon Valley of the Middle East” and indeed surpassing in size and scope most technology parks throughout the world. On adjacent land, the Israeli Defense Forces (IDF) will soon be constructing their technology park of similar size. Together, the ATP and IDF will employ more than 10,000 researchers and technicians, making Be’er Sheva the new technology capitol of Israel! As shown in the photos below and on the following page, construction has commenced.
AMIR DAJANI, PROJECT DIRECTOR OF THE RAWABI PROJECT NEAR RAMALLAH, EXPLAINING THE PROJECT TO BOB PECKAR
Peckar & Abramson provided legal counsel to KUD and the ATP, in conjunction with the Israeli law firms of Yehuda Raveh & Associates and Gornitzky & Co. Partners Steven Katz and Mr. Peckar were heavily involved in this effort.
Mr. Peckar recently reported on the progress of two construction developments in the region that are connected to his activities with Project Interchange. In 2007, Mr. Peckar led a seminar of U.S. construction industry leaders to Israel. During their seminar, they visited Ben Gurion University, located in the biblical city of Be’er Sheva in the Negev. Be’er Sheva is a city of almost 250,000 people, striving to become a new major city in the country. Ben Gurion University (BGU) (http://in.bgu. ac.il/en) is one of Israel’s leading universities, with centers of excellence in research and development from nanotechnology to communication technology. During the visit, the president of the university pointed out a large area of land adjacent to the university where he envisioned the creation of a new, advanced technologies park that would attract technology
PROJECT SIGN AT THE ENTRANCE TO THE ADVANCED TECHNOLOGIES PARK IN BE’ER SHEVA
In March 2012, Mr. Peckar led a three-day visit of Project Interchange leaders and staff to Israel to meet with government leaders, Project Interchange speakers and others to strategically plan the next year of seminars. During that visit, the group went to the West Bank to a new residential development under construction just five miles from Ramallah. The new development, known as Rawabi, is the first planned city in Palestine and is the largest private-sector project ever carried out in Palestine. The new city integrates international-planning principles, sustainable environmental practices, regionally appropriate architecture, stateof-the-art infrastructure, and ease of access for both residents and visitors. It includes amenities such as a commercial center, art spaces, medical facilities, a convention center,
hotel, public and private schools, a major new mosque and a church, which are planned to serve the 25,000 anticipated residents and attract visits by many from the area. The master plan was done by AECOM from the U.S. with advisors from two local universities, the Rawabi technical team and local firms. The project is financed by a Qatari government-owned company and a Ramallah-based real estate investment firm. Mr. Peckar reported that the project impressed him greatly. Among other aspects of it that he found particularly impressive was the recycling of water used in construction, as water is as precious a commodity as any in the region. He was also struck by the safety program, which, to him, was unprecedented in a developing nation. Materials are not only coming from Israel, but also from shops in local villages to create employment in the West Bank. Indeed, at the commercial level, the
Israelis and the developers seem to have found borders to be of less importance than they are in the political arena. However, like all things Middle Eastern, the project is not without its complications. The imposition of this large, modern city in the middle of a region dotted with small villages has drawn concerns among local Palestinians. Of critical importance, constant tension and occasional serious rifts between Israel and the Palestinian Authority do negatively impact upon Rawabi’s progress, as political interests sometimes flex their muscles — creating practical and logistical problems for the developer, over which it has no control or influence. n For more information about Rawabi, please go to www.rawabi.ps For more information about Projec t I nterchange, please go to w w w.projectinterchange.org
A LITTLE CORPORATE HOUSEKEEPING CAN HELP AVOID SHAREHOLDER LIABILITY
NEW YORK CITY DEPARTMENT OF BUILDINGS IMPLEMENTS NEW RULES
Stephen P. Katz, Partner
Now that tax season is over, and we have finally caught our breath after attending to getting tax returns timely filed, it is a good time to consider some corporate housekeeping issues that are important to Stephen P. Katz help keep intact the limitation of liability that corporate entities provide to their shareholders. While not necessarily the focus of many business people, the failure to ensure that certain corporate formalities are being followed can have a serious, negative impact on the ability of a corporation to shield its shareholders from the liabilities of the corporation. Creditors can then use the failure to follow corporate formalities as grounds to “pierce the corporate veil” and look to the assets of the shareholders of the corporation to satisfy the debts of the corporation. To avoid this negative result and better maintain the limited liability of shareholders, there are several corporate housekeeping tips that can help avoid having your corporate veil pierced: DIRECTOR AND SHAREHOLDER MEETINGS |
The corporation should have annual director and shareholder meetings, and keep minutes of those meetings in the minute book of the corporation. Furthermore, decisions that are outside of the ordinary course of business should be approved by the board (and, in certain cases, the shareholders), and records of meetings or written consents approving those decisions should also be kept with the minutes of the corporation. The minute books of the corporation should be updated to contain minutes of all director and shareholder meetings. ORGANIZE COMPANY RECORDS |
The directors should review the bylaws of the corporation to ensure that the corporation is operating in compliance with those bylaws. Furthermore, a review of the bylaws will be helpful to determine if changes to those bylaws are necessary because of new facts and/or circumstances. REVIEW THE BYLAWS |
ELECT NEW OFFICERS AND DIRECTORS,AND REMOVE INACTIVE OFFICERS AND DIRECTORS
Directors and officers who do nothing and are not involved in the corporation should be removed, and people who will be involved in the affairs of the corporation should be elected as officers and directors. Resolutions to that effect should be prepared and filed in the corporate minute book.
Cesar F. Pereira, Associate
The corporation should be capitalized in a manner sufficient to keep it running. Courts will consider the fact that a corporation is undercapitalized in making a determination to pierce the corporate veil. REVIEW CAPITALIZATION |
If the corporation has any agreements, especially with affiliates, those agreements should be at arm’s length and should be reduced to writing. For example, if a shareholder is providing services or assets to the corporation, the services or assets should be provided for arm’s length consideration and pursuant to a written agreement. The absence of such documentation may point toward a commingling of assets and/or an alter ego status of the corporation, which are both factors that courts use in making a determination to pierce the corporate veil. LENGTH AND DOCUMENTED |
| I t is ver y impor tant that funds not be commingled with funds of shareholders or affiliated entities. A review of banking and accounting records should be performed to ensure that there is no commingling of funds. When funds are transferred between affiliates and shareholders, a legitimate business reason for such transfers should be documented. RECORDS
The corporate housekeeping tips listed above are not exhaustive. Courts will consider many other factors in determining whether to pierce a corporate veil, including the presence or absence of fraud, insolvency at the time a debt is incurred, lack of corporate assets, payment of excessive dividends, functioning as a facade or an alter ego of the shareholders, and improper use of corporate assets. Preserving the limited liability of shareholders that is afforded by a corporate structure is not difficult, as long as the corporation is aware of some of the basic formalities that should be followed to help maintain that protection. n
Cesar F. Pereira
New Crane Licensing Requirements The city’s new rules require any new applicant for an operator license to obtain a certification from either the National Commission for Certification of Crane Operators or another organization accredited by the National Commission for Certifying Agencies or the American National Standard Institute. Applicants seeking to renew their operator license will be required to complete an eight-hour refresher course. In addition to requiring national testing standards for all new applicants, the new rules broaden the experience requirements for new applicants. Before the rule changes, applicant experience requirements could only be fulfilled by performing work in New York City. Now, applicants can fulfill experience requirements by performing work in any urban area within the United States that is of comparable density to New York City. While it remains to be seen what effect the new rules will have in practice, it is possible that the broadened standards may increase the supply of qualified operators in New York City. In the meantime, the International Union of Operating Engineers Local 14-14B, the union that represents a number of the licensed crane operators in the city of New York, has commenced a lawsuit against the city challenging the new Department of Building (DOB) rules. On June 6, the court, rejected the union’s efforts to preliminarily restrain the city from enforcing its new rules, and a hearing date had been set to address the merits of the union’s challenge to the rules. New Law Regulating Concrete Washout Water Starting July 1, 2012, it will be a violation of the New York City Building Code to allow any concrete washout water to enter any sewer, catch basin, drain or body of water, or to leach into the ground. All concrete washout water will have to be collected and contained in a concrete mixer truck or a watertight container, at least 30 feet away from sewers, for proper treatment and disposal. The new law does not apply to washout water from minor pours of concrete, such as pours of less than 1.5 cubic yards or that involve less than 60 eightypound bags or 80 sixty-pound bags of ready mix, or from the rinsing of the wheels, undercarriage, or chassis of concrete mixer trucks. A DOB proposed rule would impose penalties for violations, ranging from $1,200 to $10,000 per occurrence. n
SAVING THE “PAY-IF-PAID” PROVISION Adam P. Handfinger
Adam P. Handfinger, Partner, and Brian A. Shue, Associate
A valuable tool for a contractor to shift the risk of owner non payment is the “pay-if-paid” clause, which generally provides that the contractor is not responsible for paying subcontractors unless and until the contractor is paid by the owner for the subcontractors’ scope of work. Per these provisions, the owner’s payment to the contractor is as an express condition precedent to the contractor’s duty to make payment to a subcontractor and to a subcontractor’s right to receive said payment from the contractor. Brian A. Shue
Pay-if-paid clauses are enforceable in many states, including Florida, as long as the payment conditions are clearly and unambiguously expressed. The burden of clear expression falls squarely on the contractor. However, even if the clause itself is precisely drafted, courts may still find the clause ambiguous and refuse to shift the risk of owner non payment to the subcontractor, if there are any inconsistencies between the pay-if-paid provision and other portions of the relevant contract documents. This can be a particularly tricky issue where the
subcontract incorporates the terms of the prime contract. A recent Florida case illustrates how a broad incorporation-by-reference clause in a subcontract can negate an otherwise enforceable pay-if-paid provision. In International Engineering Services, Inc. v. Scherer Construction & Engineering o f C e n t r a l F l o r i d a , L LC , t h e subcontractor fully performed all work under its subcontract but did not receive payment in full from the contractor.
The subcontractor filed suit for breach of contract. The contractor’s defense was that the subcontract contained a pay-ifpaid clause, which provided that payment by the owner was a condition precedent to the contractor’s obligation to pay the subcontractor, and that the owner had not paid the contractor. The pay-if-paid provision of the subcontract stated, in part: Subcontractor agrees that all progress payments and final payment to Subcontractor are contingent upon and subject to Owner’s acceptance of Subcontractor’s work and upon contractor’s receipt of payment from Owner. Subcontractor agrees to accept the risk of non payment if Contractor is not paid progress payments and/ or final payment from Owner, for any reason. Subcontractor further agrees that Owner’s payment to Contractor of all progress payments and final payment for any work performed by Subcontractor, other Subcontractors and Contractor shall be an express condition precedent to any obligation of Contractor to make any progress payment, retainages, or final payment to Subcontractor.
The court found that this provision constituted a clearly expressed pay-if-paid clause, which ordinarily would be valid and enforceable. Unfortunately for the contractor, the court’s analysis did not stop there. The court also found that the subcontract agreement incorporated the terms of the prime contract, which contained the following provision relating to payment by the owner to the contractor: Neither final payment nor any remaining retained percentage shall become due until the Contractor submits to the Architect (1) affidavit that payrolls, bills for materials and equipment, and other indebtedness connected with the work for which the Owner or the Owner’s property might be responsible or encumbered (less amounts withheld by Owner) have been paid or otherwise satisfied.
Therefore, the prime contract provided that the owner was not obligated to pay the contractor until the contractor paid all of its subcontractors, including the subcontractor at issue in this case. This obviously conflicts with the pay-if-paid clause in the subcontract. As a result, the court found that the conflict made the pay-if-paid provision ambiguous and thus unenforceable. It has long been the rule in Florida that inconsistencies such as this, will render an otherwise valid pay-if-paid provision unenforceable. To avoid having the payment provisions of a prime contract invalidate a valid pay-if-paid clause, many subcontracts now include a phrase in the beginning of the clause, such as “notwithstanding anything to the contrary contained within the contract documents.” Such qualifying language may serve to establish an order of precedence to address the inconsistency/ambiguity.
However, it is noteworthy that the subcontract in International Engineering did in fact contain this qualifying language, and yet the court still found the pay-if-paid clause unenforceable in light of the payment requirements of the prime contract. The issue presented in this case will need to be addressed on a project-by-project basis and after careful review of all relevant contract documents. The best way to avoid this issue would be to remove from the prime contract the requirement that subcontractors be paid before the owner has an obligation to pay the general contractor. Where that is not possible, it may be necessary to limit the way in which the prime contract is incorporated into the subcontract, instead of incorporating the prime contract for all purposes. The way in which this is done will be critical to the success of the pay-if-paid protection of the subcontract to general contractors. n