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Here’s the situation: During construction, the rise in material costs have impacted your ability to complete the project as originally bid.

Who is responsible for the change in material costs? The contractor or the owner?

Material Prices Are Going Up, Up, Up

While the economy has struggled for two years, material costs have remained quite steady in recent times. In fact, Ken Simonson, chief economist for the Associated General Contractors of America, documents a 2.3% decrease in material costs in the first 9 months of 2009.

Simonson speculates, however, that this drop in prices in materials is bittersweet. Between the months of October and November 2009, material prices rose 0.6%, and Simonson writes that the construction industry should treat this rise as a “warning call.”

Simonson is not alone.

The San Francisco Business Times reports that "Material costs continue to squeeze contractors."   Likewise, New Jersey Biz writes that "Spiking materials costs may puncture project prices."

Prices Increases Creates Danger Zone for Contractors

The current economy presents a dangerous situation for contractors. On the one hand, material costs are on the rise. On the other hand, the lack of construction work makes the bidding process more competitive than ever.

So, how does a general contractor keep its bid low enough to win, without risking that price increases will render the job unprofitable?

This really boils down to the question of who is responsible for increases in material costs. If the owner, the project bid can be as competitive as possible given the current material costs. If the contractor, the project bid must take price increase into account.

Escalation Clauses In Contract

Here is the good news for contractors: there are ways you can protect yourself from being held responsible material price increases.

How? Well, your contract of course.

As every contractor and developer should know, the contract is the law between the parties.  An "Escalation Clause" in your agreement will shift the burden of material price increases from the contractor to the property owner, or another party.

ConstructionExec.com has a great overview article on escalation clauses:   Price Adjustment Clauses:  A Solution for Dealing with Changing Material Costs.  Or check out this equally good discussion at ModernContractorSolutions.com:  Material Price Escalation Clauses:  A Modest Proposal.

Essentially, if a contractor agrees to construct something for a lump sum price, the contractor typically assumes the risk of material costs increases.    An escalation clause shifts this risk to the other contracting party.  

Here is what it may look like:

The Contract Price is based upon construction material prices as of the execution of this Agreement.   Any significant price increases in lumber, drywall, _______________, and/or other construction material that occurs during the period of time between contract execution and substantial completion of the Project, shall cause the contract price to be equitably adjusted by an amount reasonably necessary to cover any increase.    As used herein, a significant price increase shall mean any increase in price exceed ____ percent (____%) experienced by the contractor from the date of signing.

Certainly, a contractor is motivated to have this type of provision in its contract...but why would the Owner agree?  One reason an Owner may be interested in an escalation clause is that it would increase the Owner's bidding pool and make contractors more comfortable to lower their bid amounts.

Responsibility for Price Increases When There Isn't An Escalation Clause

So, price increases have affected your project's bottom line and the contract doesn't have an escalation clause....now what?

If you're working under a lump sum contract, you likely have an uphill legal battle to get compensated for the unexpected price increases.   While not the case law everywhere, most U.S. courts will take the approached expressed by the landmark Louisiana decision in Standard Oil Co. v. Fontenot, 198 La. 644 (1941), where the Louisiana Supreme Court stated that in a lump sum contract "It is possible that the anticipated and expected profit may turn into a loss because of a low bid or advances in the prices of materials or the cost of labor."

So, how can you challenge this general principal?   Here are a few possibilities:

• Mistake:   The contractor must argue that its bid contained certain mistakes relating to the material prices....and that the mistake was both the contractors and the other party's.   This is a very tall order.

• Impossibility / Impracticability:   These are legal theories that a party cannot be required to perform on a contract if it is impossible or impractical.  While the contractor may feel like performance of a contract is impossible or impractical if material prices rise too much, courts will not likely share the feeling.   Material and labor price increases are not a secret, and therefore, it will be difficult to show that the increases were not foreseeable when agreeing to the lump sum.

• Force Majeure:  If prices increase significantly because of some act of God (i.e. New Orleanians can think of Hurricane Katrina's effect on material costs), the the contractor may be on to something.   Most construction contracts have a Force Majeure clause, and the contractor could potentially rely on this clause to escalate the contract price in the event an act of God effected material costs.
   

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Ken Adams is the leading authority on modern and effective contract drafting, and I'm one of the many happy readers of his blog, Adams Drafting.

The blog focuses entirely on words, and how they effect the meaning of contracts. 

Too frequently, lawyers draft contract documents by resurrecting a form from their database and changing party names.   While a lawyer may spend hours inspecting a contract's wording when a dispute has arisen, they infrequently spend time inspecting the words when drafting the agreement.

Ken examines words and phrases used frequently in contracts, and discusses the problems they may cause.  

Ever think about the word "specific" in a contract?   Ken's post on the word specific discusses how it "more often than not...serves no purpose."  

Or what about the combination of words in a contract...we frequently see the terms "fraud" and "intentional misrepresentation" used in a contract together.  Ken asks, doesn't these two words mean the same thing?  And if so, why use both of them?

The Adams Drafting blog also has good tips on contract layout issues, like how to number pages and what to put in a contract's header and footer.

Words are so important to the practice of law, and as such, every lawyer should at least be thinking about their use of words.   Adams Drafting is a great resource for this.

But Adams Drafting is not just for lawyers.  Contractors and those in the construction business sign contracts left and right - sometimes they write those contracts, sometimes they negotiate its provisions, and sometimes they sign a provided form agreement.   They too can benefit from this blog's discussion of words, and how they can affect agreements.

 

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Over the weekend, the New Orleans Times Picayune had some promising news for contractors in the area, and even out-of state laborers and contractors:

Over the next several months, the Army Corps of Engineers plans to advertise three dozen construction contracts that could cost upwards of $3 billion -- more than it has spent since Hurricane Katrina...

So vast and compressed is the construction schedule that corps representatives have advised contractors to consider importing out-of-state labor, lining up temporary housing for employees and working around the clock.

This is certainly welcome news for Louisiana contractors, who are constantly reading grim economic forecasts for the rest of the nation.   Thus far, the post-Katrina market has seemingly insulated the region from economic peril, as New Orleans and Baton Rouge have maintained robust construction markets throughout the downturn.

If your company is going to bid for a piece of the Corps spending, be sure to enter into contracts carefully and protect your company's right to payment throughout the job.

Here are two important things to keep in mind:

Contracting:  Contacting an attorney - like Wolfe Law Group - to review your contracts can pay dividends on the project.   A simple contract review can cost as little as $1000.00, but give your company a better understanding of its rights and obligations under the agreement, and sometimes even point out provisions that can be altered to your company's benefit.

Just because a contract is put before your company, doesn't mean it needs to be signed in that form.  Frequently, contractors and project owners are willing to negotiate common terms, and simple changes to critical provisions can later save your company thousands.

Read more about construction contracts on our blog here.

Liens:   Since they will be funded by the Corps, these projects are all likely to be public.   However, just because a project is public doesn't mean your company is without "lien" rights.   Louisiana's Public Works Act allows unpaid companies to file "Statements of Claims" that protect a company's right to get paid...and since federal and state projects are nearly always bonded, the Statements of Claims can be a very powerful and effective collections tool.

However, filing successfully under the Public Works Act begins before you step foot on the job-site.  

Learn more about public liens and the Public Works Act here.

And for more information about the Corps projects and legal representation from Wolfe Law Group on these types of projects, contact us today.

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The Supreme Court issued a ruling on May 5, 2009, which may further support Washington precedent holding non-signatories to binding arbitration. The ruling was first reported on Davis Wright Tremaine's Washington Construction Law Blog on May 6, 2009.

In Arthur Anderson LLP v. Carlisle, the Supreme Court found that clients of Arthur Anderson had set up small limited liability companies (LLC) as tax shelters for investments. Those LLCs entered into arbitration agreements with the brokerage as a resolution process for any disputes between the parties. But the individuals, themselves, had not personally executed these arbitration agreements.

The Supreme Court, acting under prior precedent, upheld enforcement of the provisions claiming that the agreement was intended to benefit and both the individual and the brokerage against the individual. Therefore, the court would mandate arbitration of the matter.

Washington Construction Law Blog's author, John Parnass, cites Davis Wright Tremaine's own case, McClure v. Davis Wright Tremaine, 77 Wn. App. 312 (1995), whereby the Supreme Court rendered a similar finding, permitting a non-signatory to take advantage of a binding arbitration clause.

The case's result should provide interesting options to lawyers and contractors wishing to push a less time consuming method of dispute resolution, perhaps even in the arena of lien litigation, which often involves third parties.

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In February 2008, the Louisiana Supreme Court decided Frey Plumbing Co., Inc. v. Celeste Foster, 996 So.2d 969, which dealt with the question of whether an agreement between a homeowner and a plumber was an "open account" or a construction contract.

Distinguishing between open accounts and construction contracts is important for a number of reasons, and namely because one can statutorily recover attorneys fees and interest under Louisiana open account law.

At trial level, the court granted the homeowner's summary judgment, agreeing that that plumbing agreement was a "construction contract" and not an open account.  The trial and La. 4th Circuit based its decision on a jurisprudential "factors test."

In Frey, the Supreme Court reversed this decision, and overruled all cases in Louisiana that relied on these "factors" to determine whether an agreement is a contract or an open account.   The Supreme Court stated that the statute (§9:2781) must be simply applied as written.

Here is how "open accounts" are defined in the statute:

'Open account' includes any account forth which a part or all of the balance is past due, whether or not the account reflects one or more transactions and whether or not at the time of contracting the parties expected future transactions.  'Open account' shall include debts incurred for professional services, including but not limited to legal and medial services. 

The defendant in Frey warned that such a liberal reading of the statute would be problematic:

Frey reads out the repeated references to 'open account' and 'account' and would have this Court hold that all unpaid debts fall within the purview of the statute.  Frey's interpretation of the statute is contrary to well established principals of statutory construction and leads to absurd results clearly unintended by the Legislature.

The Plaintiff in Frey didn't deny this allegation, saying instead that there's no explanation or indication that "this is not what the legislature mandated pursuant to the express provisions of the open account statute."

The Louisiana Supreme Court did not comment on the debate between the parties as to the exact broadness of the open account statute.  However, the court did make it clear that construction agreements are not automatically exempt from open account analysis.  

The prior "analysis" was trashed, and the court now requires that the facts of the case be applied to the plain language of 9:2781(D).

The Frey decision dealt with an unwritten plumbing agreement that was billed to the property owner after the work was complete.   Wolfe Law Group just this week filed a memorandum with the 22nd Judicial District Court analyzing the Frey decision and how it might apply to a more traditional lump-sum construction contract.

The memorandum can be read on JDSupra here.

We'll update with the judge's decision when received.

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We step away from Washington and Louisiana for a moment to explore the outside construction world, and find that a massive lawsuit has recently come up in Delaware.

The Wall Street Journal Law Blog seems to be the first to report on a Complaint filed in the Delaware Counrt of Chancery alleging the breach of joint venture between MGM and Dubai-based Infinity World Development Corp. A copy of the 13 page Complaint can be found at Wall Street Journal's website.

The suit, initiated by Infinity, alleges that MGM (the shell of wholly-owned affiliates Mirage Resorts and Project CC) has breached a joint venture agreement to develop City Center, a massive Las Vegas epicenter for tourism.

The Complaint states that MGM has issued a recent 10-K statement which illustrates that the massive company can no longer pay its debts as they become due, including a debt to make contributions to the joint venture itself (See Page 2 of Complaint). The business' failure allegedly will cause substantial and irreparable damage to Infinity World Development, who would have to pick up slack in financing the outlandish project.

Now - Infinity World Development wants out. Significant cost overruns and delays have caused the project to run ashore with problems. Estimates for completion continue to grow with each passing day.

Though the suit concers over $10 billion in open obligations, the Complaint itself is quite simple. Infinity has alleged breach of contract, breach of good faith and fair dealing, and sought declaratory relief for its obligations under contract.

No response has yet been offered by MGM in pleading form. But WSJ.com reports that MGM has already issued a public statement:

MGM fired back on Tuesday, calling the lawsuit “completely without merit.” A spokesman later added that the company “is ready, willing and able to fund its share of the costs to complete CityCenter, including a required payment this week.”

The Wall Street Journal further believes that the suit has all the makings of a giant. The celebrity and capital involved makes this case certain to draw considerable legal attention.

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The Seattle Times is reporting that a local Seattle steel supplier provided falsified statements to the Federal Transit Administration (FTA) concerning the quality of steel provided for the Seattle Light Rail project. In the Times' report, David Appleby, the owner of Appleby NW could face up to five years in prison and fines of $250,000.00 for his misrepresentations to the FTA because the the Light Rail project is a federally managed project, overseen by the FTA.

According to the Times, Appleby supplied over 1.5 million pounds of Oregon-made steel rated for 36,000 pounds per square inch (psi) of force under a $240 Million dollar contract. Unfortunately for Mr. Appleby, the project specifications for the massive Light Rail project, which is managed by Sound Transit and funded by the FTA, required steel rated for at least 50,000 psi.

Appleby's charge stems from mill certificates that he forged, once learning that the steel was underrated for the specifications. General contractors are obligated to follow the strict terms of specifications provided to them.

Appleby's attorney, Irwin Schwartz, admitted that Appleby intentionally changed the certificates.

"People panic and they cover up"

Especially on public works projects, contractors must obtain consent from the managing government authority in order to wane or deviate in any way from given specifications. Permitting a contractor to vary from the specs is not only dangerous, but is competitively unfair to other job bidders who lost out in their bids to perform the work.

In this case, it is certain that the Sound Transit would not have agreed to such a change. Early estimates are that the 50,000 psi demand was a conservative requirement. Thus the 36,000 psi steel may be sufficient to withstand the project's engineering requirements. Based upon this assertion, Appleby intends to defend against any claims for backcharges against his contract.

One final note, the contractor is also under the bus for entering into an oral contract with a subcontractor that provided Appleby's drilling on the project. The Sound Transit, like many public entities, requires that all contracts be in writing.

Though the jockeying has just begun, it is fairly certain that a civil suit between the contractor and Sound Transit is readying, over dollars being withheld from the contractor's pay.

 

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Arbitration is looking better and better everyday to consumers. Though it may not seem to have a major impact on the construction industry yet - arbitration agreements are commonplace in your agreements.

It doesn't matter whether you are a general contractor, subcontractor, supplier, renter, or consumer - the fact is you will likely run into a binding arbitration clause that will require you to bring your claims for product liability, design liability, delivery or installation before a private neutral.

But is this good for you as claimant, or is this one big bad frightening risk of loss? 

Recent legislation has been proposed by the federal legislature which would seek to limit arbitration "coercion." The bill is entitled the Arbitration Fairness Act and has been presented by Congressmen Durbin and Feingold.

The bill's supporters believe that U.S. consumers have been harmed by being forced to appear before hand-selected arbitration forums caused when vendors place binding clauses in their sales contracts, slips and invoices.The general belief, as put forth by Mr. Nathan Koppel of the Wall Street Journal's Law Blog, is that arbitration outfits tend to side with corporate defendants in order to shore up continual and future use of their venues.

But a new study by Northwestern Law School suggests that consumers generally come out on top and that their claims are heard in under seven months, far shorter than a state or federal court disposition, which may take up to two years. The study included an examination of a relatively small sample of over 300 cases, and it is uncertain how cases were selected.

The study does show that there is not such a wide discrepancy in rulings, as was once thought to be. You can read about the study on their website, and follow updates of commenting correspondents. 

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On February 6, 2009, President Obama overturned previous Bush administration policy regarding labor usage on federal projects, by passage of an executive order. The order eliminates the Bush prohibition of the use of "project labor agreements" on federally-funded projects. In the past, the Bush administration had sought to limit the use of these agreements to lessen Union strength in the bargaining process.

"Project labor agreements" ("PLA") are similar to collective-bargaining agreements but they are issued prior to the initiation of work on a project. The Associated Builders and Contractors, Inc., states that a typical PLA requires that all contractors become bound to:

• recognize unions as the representatives of their employees on that job
• use the union hiring hall to obtain workers
• obtain apprentices exclusively from union apprenticeship programs  
• pay into underfunded and mismanaged union benefit plans 
• obey costly, restrictive and inefficient union work rules

In the end, the alleged benefit to the federal government, and to the contractors down the chain, is that labor rates are set, benefits are provided, and strikes are prevented.

Duane Morris LLP, a San Francisco multi-purpose firm, first reported the effect of the order against large construction firms:

"......many construction firms may be compelled to agree to PLAs on federally-funded construction projects for the first time. Not only will these firms face likely difficulties in navigating the uncharted waters of participating in the negotiations for a PLA, but they may also be forced to pay higher, union-level wages and benefits to their workers than they are otherwise accustomed to paying on projects. Many construction firms may be compelled to agree to PLAs on federally-funded construction projects for the first time. Not only will these firms face likely difficulties in navigating the uncharted waters of participating in the negotiations for a PLA, but they may also be forced to pay higher, union-level wages and benefits to their workers than they are otherwise accustomed to paying on projects."

Duane Morris also finds that the order will only promote the use of PLAs on projects over $25 Million. However, the order opens the gate for the use of PLAs on lesser projects, where they are no longer prohibited.

While several organized units are certainly thrilled at the reinstatement of PLAs on federal projects, construction companies raise considerable concern. The Associated Builders and Contractors states:

"ABC strongly opposes union-only PLAs on construction projects. These agreements not only exclude merit shop contractors from bidding on projects paid for by their own tax dollars, but also drive up the cost of construction by reducing competition for the work."

Construction companies who engage in federal projects should be keen to new changes in labor law. One thing is for certain, President Obama aims to bring swift changes to the way the U.S.A. does business with private interests.

 

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This weekend, I read a post on the South Carolina Construction Law Blog about Texas' Prompt Payment Act.  It caused me to do a little online research on similar acts around the country, finding them in Alabama, Tennessee, Georgia, Wisconsin, New York, federally, and elsewhere.  

A "Construction News" pamphlet from Baker Donelson [pdf] in the Winter of 2004 has a good article about the statutes in AL, TN & GA, the theme of each act simply being this:  "Prompt Payment Acts Set Payment Guidelines for Construction Work."

It's no secret that payment problems are rampant in the construction industry.  And unfortunately, the old statement that "possession is 90% of the law" has some truth to it. 

Large well-funded construction companies can hold progress payments at the end of a project for trivial reasons, and strong-arm its subcontractors into settling for less.  Prompt Payment Acts aim to equalize the playing field a bit, applying penalties against those who misapply funds or try to strong-arm subs and suppliers.

So, do they exist in Louisiana and Washington?   Mostly....no.  

Both Louisiana and Washington lack a pure "Prompt Payment Acts."  Those victim to the misapplication of funds must rely on jurisprudence or other possibly applicable statutes, discussed below. 

Misapplying Funds in Louisiana
Buried within the Private Works Act in Louisiana is La. R.S. 9:4814 (A), which provides as follows with regard to the misapplication of funds:

No contractor, subcontractor, or agent of a contractor or subcontractor, who has received money on account of a contract for the construction, erection, or repair of a building, structure, or other improvement, including contracts and mortgages for interim financing, shall knowingly fail to apply the money received as necessary to settle claims to sellers of movables or laborers due for the construction or under the contract. Any seller of movables or laborer whose claims have not been settled may file an action for the amount due, including reasonable attorney fees and court costs, and for civil penalties as provided in this Section.

This provision actually works as a "prompt payment" requirement, but as is evidence from its terms it only has limited applicability. 

First, the contractor must "knowingly" misapply the funds.  Second, the only parties qualified to recover the penalties of the provision are "sellers of movables" and "laborers." 

The Private Works Act in Louisiana specifically distinguishes between laborers and subcontractors, and so subcontractors who provide labor to the project would not likely qualify for the penalties under La. R.S. 9:4814 - although the matter has never been decided.

Unfortunately for everyone not mentioned by §9:4814, Louisiana doesn't provide a remedy when funds are misapplied, and the parties must rely exclusively on the conditions of its contract.

Misapplying Funds in Washington
In 2006, the Washington Court of Appeals published an interesting reversal in Westview Investments, Ltd. v. U.S. Bank National Association [pdf of decision], addressing the issue of misapplying construction funds in Washington.

Since progress payments are not funds held in "trust" by statute in Washington, the court explained that they may be considered trusts if appointed as such by the parties - namely, through contract.

According to the Westview decision, progress payments made by a project owner to a general contractor constitute "trust funds" for the benefit of subcontractors, when the agreement between owner and contractor is based on AIA A201 (1997).    

Interfering with any "trust funds" would be a tortious conversion - and the Westfield court even goes so far as to rule that banks may be liable for misappropriating trust funds when it uses these funds to  pay down the borrower's debt to the bank (see discussion here).

Time for A Prompt Payment Act?
Is it time for a Prompt Payment Act in these Washington and Louisiana?  

While many statutes and regulations have drawbacks, there doesn't seem to be a downside to requiring contractors to pay its bills!

Litigation is costly and time-consuming - and it doesn't seem fair that after a long, expensive battle with a better-funded opponent, subcontractors and suppliers must settle for the principal debt. 

There are ways to punish contractors in Louisiana and Washington when funds are misapplied, but it's always dependant on circumstance.  A Prompt Payment Act would help equalize the playing field for subcontractors and suppliers who rely heavily on prompt payments.

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In the construction industry where litigation is frequent and costly, legal preparations are especially important. And while you can never completely isolate your organization from legal exposure, it will benefit from a conscious effort to place it in the best possible situation in the event of a dispute or injury.

Here are some ways your organization can be legally proactive to avoid costly and unnecessary legal expenses in 2008 and 2009:

1) Have a great written contract. Entering into a construction project of any size without a written contract is a recipe for disaster.

Your organization should have a "form contract" that meets your business' requirements, and addresses certain legal hot topics such as the scope of work, the indemnity requirements, the obligations of each party in the project, dispute resolution mechanics and procedures, etc. Written contracts should be a way of life for your organization, with contracts executed between contractor and owner, contractor and subcontractor, contractor and supplier, owner and architect, etc.

An attorney should be consulted to help make changes and insert provisions as required project-by-project, as each project has different needs. Even AIA or ConsensusDOCS form contracts are frequently edited by the parties to accommodate the needs of a particular project or agreement.

In the event of a dispute, a well-drafted written agreement can save your organizations thousands, and even hundreds of thousands or millions depending on the project's size.

2) Never Sign A Bad Contract. This is particularly a problem with subcontractors who enter into written contracts with subs or GCs who are larger and better funded then themselves. In these situations, it is common for the larger party to present the smaller party with a very one-sided contract.

The larger contractor uses its size and the allure of the project to strong-arm the smaller entity into agreement. Be very weary of this type of practice.

In the event of a dispute under one of these unilateral contracts, your organization can sustain a fatal blow. In our experience, we've unfortunately witnesses companies who have had to file bankruptcy or dissolve themselves not because their work was poor or they were legally wrong, but because they just couldn't afford to fight their position under the contract.

One proactive measure your organization can take to avoid costly litigation is to avoid signing these types of agreements.

While the heavy-handed form contract might seem mandatory, in fact these corporations are usually used to making certain changes to the contract terms. Have an attorney consult with you regarding the consequences of the contract provisions, as well as suggested changes - and propose these changes to the other party.

If you cannot get the contract altered to meet your concerns, you may want to seriously consider whether the project is worth the risk in liability and exposure.

3) Create and Follow In-House Collection Procedures. The importance of your in-house collection procedures will vary depending on the type of construction business you run. Certainly if your organization enters into hundreds or thousands of smaller contracts every year, collection procedures will be very critical to your operation. Conversely, if your organization has just a few big contracts each year, collections are likely more under control.

In any event, your organization should have a clear "plan of attack" in the event of non-payment.

In today's construction market and vulnerable economy, credit applications are often denied and cash flow can be tight. A high accounts receivables number can cause displeasure to your company.

The most effective way to prevent bad collection scenarios is not litigation (which is costly), but consistent collection practices and pre-litigation preparation.

Of course, a non-paying client can warrant litigation - and should, if payment is not tendered after collection procedures are employed. However, by taking in-house or outsourced collection measures prior to litigation your organization can limit the number of lawsuits required, and by preparing for litigation in each non-payment scenario, your organization will decrease the overall amount spent in court.

Collection procedures are most effective when they are structured, consistent, and employed early. By sending prompt demand letters you accomplish two important things: (a) you let the non-paying client know you are serious about collecting the account; and (b) you start the clock to collect attorneys fees, interests, etc. that you may be qualified for under contract or by law.

 

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This article is part of a three part series titled "Alternative Dispute Resolution - Why, When & How." To read the other parts in this series, or to read more articles about ADR, navigate to the Wolfe Law Group ADR page here: ADR.

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Litigation is a frightening word to many yet to others it is seemingly unknown. The world of construction litigation has become massively entwined with confusion as to goals, limits, and the expectations of a litigant. Attorneys are often unable to properly advise a potential client as to the presumed costs and lengths of a legal proceeding simply because there is absolutely no way of knowing.

A legal proceeding depends upon several factors: the types of parties, the extent of the damage; the willingness to settle; the ability to settle; the requirements of outside contracts; the delays which may ensue; the ability to afford to legal representation; and unfortunately personal feelings towards another party. Though attorneys try, it is impossible to predict the extent of the variables and where and how the cookie may crumble. In the end, it is all an unknown.

Because parties are unable to predict the other side's wherewithal to go the distance with a proceeding or arbitration, several dangers bear notice. Is it worth the risk to lose your financing? Is it worth the possibility of losing a good customer? Is it worth the costs of obtaining adequate legal assistance? These are the questions a headstrong business owner should be asking. Whether it be prior to contracting with another party, prior to beginning the work, or immediately after dispute arises, it is important to have a dispute resolution process or plan in mind for each job, contractor, or customer.

The dangers associated with contracting fallout can be prevented in a number of ways by being up front in your contracts with customers, contractors, and others. A good attorney can provide you with options as to strategies to use for dispute resolution. These strategies may encompass the whole project or merely deal with specific aspects. For instance, it may be wise for you to force immediate mediation of change orders or altered job conditions for price resolution, however you may want to utilize binding arbitration or even court intervention for disputes arising out of final payment. These mechanisms should be addressed during the contracting period, and every detail down to the venue, choice of law and choice of neutral should be decided by the parties.

Most people forget the contracting is open to the parties. It seems obvious that most contractors believe that there are only certain things that can go in a contract. Remember, the law of contracts appeals to your creativity. The more creative and forward thinking a party is, the more likely the contractor will have its way when dispute rears its ugly head.

Wolfe Law Group intends to release a series of Contracting Toolkits for construction companies. It is our hope that the Toolkits will spark some conversation amongst your company and your employees as to some of the problems you may face or have faced in the past. The Toolkits will provide a vast assortment of issues that face many contractors today, and the remedies that may save your firm endless time and money.



Whether you are in mold remediation and require extensive environmental obligations; whether you work in asbestos and need proper disclosures and releases; whether you lease heavy machinery to subcontractors and need warranty and release language; whether you provide fire damage services and need safety disclosures; or whether you simply need to ensure specific insurance compliance, Wolfe Law Group's Toolkits can help you find a way to manage your needs.

Please stay tuned for more information. In the meantime, begin to think about what could make your construction process is run smoother.

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In October 2007, the American Institute of Architects (AIA) released the 2007 edition of its Family of Contract Documents for the construction industry; undoubtedly, the most popular set of documents in the market. The documents are clearly the leader in the industry and have been court-tested for nearly 100 years.

While a number of changes have been made to the document sets by the AIA over the past decade, the October 2007 release is the first major change to the A201 General Conditions document since 1997. The A201 General Conditions is referred to as the "backbone" of the AIA Family of Documents.

The changes made by this release are numerous, and are the by-product of changes in the construction industry, modern technology and even the marketplace for the sale of contract documents.


The Forces Behind the Changes
When reviewing the changes made to the AIA Family of Documents, or any set of contract documents, it's valuable to understand the driving forces behind those changes. As far as the 2007 AIA docs are concerned, a lot has changed in the world of construction, and the world as a whole, in the last decade.

The construction industry itself looks much different in 2007 than it did ten years prior. A surge in design-build arrangements led the AIA to revise its design-build language in 2004, and introduce the A141. The real estate boom went full-throttle with residential buildings being constructed faster than ever before, encouraging many to get into the "flipping" business, and condominium complexes in large cities across the country became commonplace developments.

While Alternative Dispute Resolution devices were available in 1997, their popularity has only gained since that time, and novel devices (such as construction neutrals) have risen from obscurity.

In addition to changes in the industry, the entire world has changed as a result of extreme advances in technology. In 1997, very few contractors were using their AOL dial-in connection as a critical component to their business. In 2007, however, electronic communication is unavoidable.

Finally, the marketplace for contract documents themselves has also changed since 1997. While the AIA documents have enjoyed a fairly uncompetitive market, recently other organizations have begun producing documents for the construction industry.

One prime example of an AIA Competitor is the Associated General Contractors of America, who began publishing its own documents in 1997. In September 2007, just one month before the AIA release, AGC folded its documents program and joined more than 20 leading construction associations who united to publish a consensus set of contract documents called ConsensusDOCS.

The AIA and ConsensusDOCS documents are now in direct competition, and it will be interesting to see how this competition changes the documents themselves, and whether the AIA set of documents will lose some of its dominance in the market.

The ConsensusDOCS website has put together a matrix to compare its new documents with the ACG and AIA Documents, and you can download and view the matrix here:

http://www.consensusdocs.org/information_matrices.html

While the next ten years will prove interesting, it is fair to say that the 2007 AIA documents were drafted in an entirely different world than the 1997 edition. This led to a number of important revisions that will alter the way your construction project is administered, and many of these changes are below discussed.

Some Important Changes between AIA 201 Editions, 1997 v. 2007
Now with a background on the environment leading to these changes to the contract documents, those who use the AIA contract documents (regardless of its edition) should be aware of some critical revisions to the new edition.

Dispute Resolution
By far, the most significant change to the A201 General Conditions regard the provisions governing dispute resolution.

First, the "dispute resolution" provisions have been completely re-located. While previously within Article 4 of the General Conditions, a portion of the contract that regulated the "Architect" and the "Administration of the Contract," the provisions are now found within a new Article 15, regulating the "claims" topic.

This relocation is more than a move around the corner, its a move to a completely different town.

When ADR and Article 4 were connected, so to was the Architect. In fact, the Architect played a critical role in dispute resolution under the 1997 documents. In the 2007 documents, however, the parties can elect to have the architect take a back-seat, and to create a dispute resolution program independent of the Architect.

The parties can elect to have all "claims" decided upon by an Initial Decision Maker, commonly referred to as a "neutral." This seems to be a pleasant change to the old ADR provisions. Since Architects are generally hired by, and paid by the Owners, many contractors and other related parties were suspicious of the Architect's impartiality. Further, the Architect oftentimes found herself between a rock and a hard place, required to be "neutral" while collecting payment from the Owner.

The ability to engage a neutral party to make these decisions is a very critical change to the A201, and the importance of this alteration is highlighted by the complete movement of the ADR provisions to a non-Architect related article, and an article of its own.

Second, the ADR provisions have gone from mandatory by default, to unselected.

In other words, in 2007 the parties will resolve their disputes through litigation unless they affirmatively choose to mediate and/or arbitrate. This gives parties the freedom to pick and choose their dispute resolution process, and selection of the ADR procedure is as simple as checking the box next to ADR process of choice.

Responding to the Digital Age
One thing that cannot be avoided in 2007 is digital information and electronic communications.

In the fast-paced world of construction, project information, change order requests, project correspondence and more is being exchanged instantly through email and other electronic means. How will these communications and digital information get handled by parties to a construction project?

A201 § 1.6 speaks to the issue, and AIA has introduced E201 as an exhibit to its document family. The E201, "Protocols," sets forth its purpose within the document by stating "This Exhibit establishes the procedures the parties agree to follow with respect to the transmission or exchange of Digital Data for this Project."

Setting Contractual Time Limits on Disputes and Claims
In §13.7 of the 1997 A201, the documents set forth certain time limits dictating when legal statutes of limitations would run against claims under the contract. In essence, the provision sought to circumvent the legal statutes, and instead create a "contractual statutory period" for claims.

The 2007 edition eliminates this provision completely, and now the parties claims are simply subjected to state law.

The reason for the change is two-fold. First, it was not very popular among some parties to the contract, and second, many states do not allow the parties to contract around statutory time periods.

Additional Duties Upon Contractor to Review Field Conditions and Contract Documents
The 1997 edition of the A201 was sometimes criticized because the Contractor was only liable for errors and omissions it "recognized" and "knowingly" failed to report. Many argued that this let the Contractor "off the hook" on far too many occasions, and that the documents did not impose a great enough obligation on the Contractor to review the field conditions and the contract documents to determine - as he or she only could - whether the execution of the design at the job-site was feasible as contemplated.

The 2007 edition, however, does heighten the obligation of the Contractor under §3.2. Now the Contractor must "promptly report to the Architect any errors, inconsistencies or omissions discovered by or made known to the Contractor..."

Owner Ambiguity regarding Allowances Selections
The 1997 documents required that the Owner make material and equipment selections under an allowance "in sufficient time to avoid delay in Work." The new A201 language is changed just a bit, now requiring the Owner to select these items "with reasonable promptness."

This change seems to be more ambiguous than the 1997 language, and begs the question of whether the Owner has the duty to "avoid delay in the Work," and whether the Contractor has a strong claim against an Owner who does delay the Work by its lack of selections when the Owner arguably acted "with reasonable promptness."

The Contractor's Superintendents
Both the 1997 and 2007 A201 requires that the Contractor disclose the names of its subcontractors, and to allow the Owner/Architect a specific amount of time to offer any reaonsable objections to the selected sub. The 1997 document, however, did not provide the Owner/Architect the same opportunity to be advised of and make objections to the Contractor's superintendent.

The 2007 documents, through §3.9, does give the Owner / Architect this right and ability.

Contractor Construction Schedule
Similar to the heightened requirement in §3.9 for a Contractor to advise and seek approval from the Owner and Architect of its potential superintendents, the following section §3.10 escalates what is required by the Contractor in the way of schedules.

While the 1997 version of the A201 merely required the production of a schedule that was coordinated with the construction of the project, the new 2007 provision is more detailed and strict. The contract documents are now much more specific about what should be submitted, about when it is required, and about the penalties to the contractor in the event it defaults under this provision.

Conclusion
The 2007 Version of the AIA Contract Documents is now out in the marketplace, and if you work with the documents you want to be familiar with the new revisions. There are clear differences between these editions, and a mistaken belief that you are operating under the 1997 edition when the alternative is true could prove costly for your organization.

In general, the changes to the A201 are improvements to the industry-standard document. Most noticeably, the ADR provisions are a breath of fresh air to those who have met some frustration in dealing with the ADR provisions of the '97 edition.

As discussed, the 2007 changes are a reflection of the alterations to the construction industry, the world in general and even the American Institute of Architects over the past decade. It will be interesting to see what comes next for the AIA documents, and how they will continue to change with the rapid technological advancements in society, as well as the competition in the contract documents market.

This article presents a summary of some of the changes made to the A201 in its 2007 edition. It does not cover all of the changes to the document, and its important to review the document in full with the assistance of counsel to best understand the ramifications of its terms. Furthermore, the authors' commentary herein is the viewpoint of the author, and an opinion only.

Related Articles:
Construction Contracts 101: Use of Standardized Forms

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Every state has its own statutes -- as well as judicial decisions, or case law -- to regulate the construction taking place within its borders. States can, and do, take widely divergent views on how best to deal with a variety of complex construction issues.

For contractors, subcontractors, owners, or lenders intending to do business in Washington, Louisiana, Colorado, Oregon, or elsewhere, it is wise to know the nuances of construction law encountered in that particular state before agreeing to undertake a project. And this is particularly true when dealing with the issue of construction delays.

Transferring Risk through a "No Damages for Delay" Clause

Delays during construction will happen. Savvy professionals recognize this, and plan accordingly. Rain days are estimated, and handoff times are included in the projected schedules. Some cushion is made for unexpected time lags, as well.

Nevertheless, unexpected events do occur -- e.g., floods hit the project, or a labor union calls a strike -- as well as unethical or negligent actions by one of the parties involved, which cause significant delays that run up costs. Everyone wants to minimize the risk that their bottom line will have to bear the financial responsibility for any of the resulting time delays.

Owners

Owners argue that they need "no damages for delay" clauses in their contracts, because the clauses offer protection from general contractors filing unjustified or extravagantly high delay claims. Owners point to requests they've received from contractors that are so filled with spurious, overblown reimbursement requests that they've labeled them "kitchen sink claims."

General contractors

General contractors argue they need "no damages for delay" clauses in their contracts with subcontractors for the same reason -- they can't take the hit for all the subcontractors' delay costs as they've been presented, especially if the owner has required a "no damages for delay" claim in his contract with the contractor. General contractors point to owners who issue defective plans and specifications, or who take unreasonably long amounts of time in responding to requests for clarification, delaying the project for months, costing the contractor significant damage which skyrockets as subcontractor delay claims are tallied.

Subcontractors

Subcontractors complain that they have no choice. They maintain that they are forced to sign contracts containing what may well be a dangerous provision for their business, because they are afraid of losing the job as well as offending their customer. For many subcontractors, the risk of a "no damage for delay" clause is just a part of doing business.

What is A No Damages for Delay Clause?

Simply put, a "no damages for delay" clause is placed into a written contract between an owner and a general contractor (or a general contractor and a subcontractor), stating that the contractor cannot recover monetary damages from the owner for any financial losses the contractor suffers due to construction delays caused by a variety of things, including actions by the owner or the owner's representatives, e.g., the architects. By agreeing to the contract and its "no damages for delay" clause, the general contractor assumes the full financial risk for any and all delays in construction.

What are Delay Damages?

Delay damages are those financial costs that occur which are over and above the direct costs which must be expended to remedy the cause of the delay -- i.e., change orders, defective plans or specifications, or a differing site condition. They are shown through the documentation of the project's "critical path."

Critical Path itself is an established method for scheduling the construction of a project, from start to finish. Understandably complicated, the "critical path" involves compiling a list, in sequence, of the construction activities that will take the longest amount of time to complete.

The duration of the Critical Path is found by totaling the various activities' time needs. The Critical Path becomes the longest possible "path" through a network of activities, and gives project participants the minimum amount of time that will be needed to finish the job. If a delay impacts the project's Critical Path, then it causes the project to be finished later than the established deadline.

What's not Delay Damage?

Some events don't cause delay. Not all delays impact the Critical Path; for example, a tardy delivery of shrubs when the sprinkler system has yet to be installed will not impact the critical path and is therefore, not delay damage. Similarly, an owner's change of carpet color when construction still involves pouring the foundation isn't a delay damage.

Some events that cause delay aren't considered in delay damage calculations, either. Most contracts give special treatment to delays that are caused by Acts of God or bad weather. In the event one of these occurs, the contractor is usually given an extension of time to complete the project. By extending the deadline, these events technically don't cause a delay in construction.

Why are "No Delay Damage" Clauses Controversial?

Without a "no damages for delay" clause, all project participants would share the same incentive to get the project completed on time. Critics of the clause argue that it prevents wronged parties from suing for breach of contract when a project participant has caused the delay - and thus, their harm. Contractors point to capricious or fraudulent owners who are allowed to escape responsibility for their own bad acts.

States' Responses

Various states have responded to "no damages for delay" clauses in different ways. For example:

Washington State

Washington's legislature has passed a law stating that a clause in a construction contract purporting to waive a contractor's claim for delay damages caused by the owner is "void and unenforceable." This is true for both public and private contracts, making Washington the frontrunner of all 50 states in barring "no damages for delay" clauses in construction contracts.

California, Colorado, Massachusetts, Oregon

Each of these states has passed laws invalidating "no damages for delay" clauses in public contracts. Private contracts have been left to judicial decision, with courts deciding whether not to analogize to the passed legislation in dealing with "no damages for delay" clauses in contracts between private parties.

Louisiana

Louisiana has not passed legislation that specifically deals with "no damages for delay" clauses in construction contracts, although its Public Works Act does prohibit these clauses in contracts governed by the Act.

Moreover, Louisiana courts continue to uphold these clauses, unless the delay occurred because of something that no party had anticipated, or the delay was caused by a party's actual bad faith or active interference.

Finally, Louisiana Civil Code article 2769 provides that if a contractor or subcontractor fails to do the work he has contracted to do, or if he does not execute it in the manner or within the time he has agreed to do it, he will be liable in damages for the losses that result.

Should you use a "No Damages for Delay" clause in your contract?

Obviously, the first step in answering this question would be to determine what state law applies to your agreement. As shown above, Washington and Louisiana view "no damages for delay" clauses differently at this point in time.

However, even if state law will respect the contractual clause, perhaps the more practical determination is how best to prevent its ever being needed. Enforcement of a "no damages for delay" clause can be protracted and extended litigation, and become an exorbitantly high expense in both time and money.

Finding other practical and legal avenues to deal with delay may be the better option.

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In construction, it is not a question of whether or not to have a written contract: the real issue is how many contracts will be involved in the project. Construction is a complex process involving overlapping time, money, and labor concerns. How best to allocate the financial risks in the event that anything goes wrong -- which it will -- is wisely documented before work begins. Indeed, in most states and for most projects, written agreements are legally required.

For many years, there has been a continuing argument that construction contracts should be readily adaptable to standardization. Companies have promoted contract kits for both commercial and residential purposes; various associations, including notably the American Institute of Architects, have provided detailed contract examples and forms for the use of their memberships.

In fact, Fall 2007 saw the AIA revamping its sets of forms, as well as the introduction of www.consensusdocs.org -- a web site containing the collaborative work of over 20 nationally-recognized construction associations in what they are deeming a revolution for the construction industry. Representing owners, architects, designers, engineers, general contractors, sureties, and a wide variety of subcontractors, www.consensusdocs.org provides standardized contracts and forms whose language has been negotiated and honed by representatives of all facets of the American construction industry.

Between the AIA and the ConsensusDocs project, have the issues and conflicts of the past regarding construction contracts and the allocation of risk been resolved? Have we entered into a peaceful, strife-free era for the construction industry? Probably not.

No matter the source of the written template, the individual project will require its own unique risk allocation. Environmental concerns will vary; the bargaining power between the parties will not be equal.

In each contract, in every situation, parties will want to insert provisions into the contract to favorably distribute their responsibilities and limit their liabilities. Additionally, the written language of each agreement must be weighed against the impositions of implied warranties, environmental requirements and restrictions, and the like -- by local, state, and federal law -- to the specific project.

The contractual language will also need to predict and preempt party disputes, in advance, for a broad range of possibilities, such as who bears the financial responsibility for:

Failing to properly fund the work;
Failing to secure (and pay for) easements;
Warranting the plans and specifications;
Interpreting the documents;
Assessing and allocating damages for delays in construction;
Terminating a party due to dissatisfaction with the work;
Violating applicable codes and regulations; and
Making errors in design or requiring excessive change orders.

Decisions will also need to be made regarding which overall contractual arrangement is best for the situation. For example, larger projects may be better suited to a series of overall agreements, dividing the project into phases. One set of documents will apply to the first phase; another set to the second phase; etc. This is a common preference in the construction of school buildings and college campuses, as well as other multi-structured projects.

Furthermore, decisions will be needed on the contractual arrangements that will exist between the various parties: should the same type of contract be used for everyone? Often, the parties find it best to have one type of contract between the owner and the general contractor and another between the general contractor and all the sub-contractors.

Common types of construction contracts include:

1. Lump Sum. In lump-sum contracts, one party agrees to provide certain, named services for a set price; the other party agrees to pay that price either upon completion of the work or pursuant to a schedule. If chosen between an owner and a general contractor, the owner will pay a set amount. The general contractor takes the risk of loss if there are unexpected expenses and the possibility of gain if the project comes in under-budget.

2. Unit Price. Unit price contracts breakdown the work to be performed into parts with a set price for each portion. These agreements are common among subcontractors who take the risk of loss and the possibility of gain, while the general contractor (or the owner) pays the set, agreed-upon price.

3. Cost Plus. Cost-plus agreements have the general contractor's profit defined in the contract itself, as well as the estimated construction expense. If the actual expenses come in lower than the estimate, then the owner reaps a savings. Cost overage, and the owner has to pay more for the project. These contracts place the risks of cost overruns upon the owner, not the general contractor, who enjoys the security of knowing his exact profit. The general contractor may have little incentive to be efficient on-site, but the owner has the satisfaction that the ultimate project will be to his exact standards even if the expenses run high.

Standardized forms cannot address the needs and wants pertaining to an individual project: the templates will call for some revision in order to meet the requirements of the particular parties involved in each construction project. Moreover, the templates themselves cannot predict which set of forms best meets the needs of the individual parties. In addition to overall risk allocation, things like unique project delivery methods and systems must be considered; provisions included for specific insurance and indemnity issues; and dispute resolution methods outside of a formal courtroom negotiated and properly implemented.

Standardized forms do help. They assist in the creation of solid construction contracts which successfully do their job: defining who bears the brunt of the unexpected events or the unforeseen mistakes that naturally occur during the course of construction. The forms introduced by www.consensusdocs.org have the added benefit of authorship derived from all those involved in the process - from owner to subcontractor to surety - as opposed to those offered by one organization or group, which have lent themselves in the past to criticism that their language is slanted to favor their membership.

However, reliance upon any standardized form without molding its language to fit the needs and wants of the individuals involved in a specific project is foolhardy; failing to obtain expert legal assistance in the process is unwise. These forms should never be considered as replacing the assistance of legal counsel; instead, they should be seen as tools to better effect a harmonious and efficient construction process.

For example, of particular concern in each individual instance is the choice of law for the particular project. What state law controls the interpretation of the agreement can be key in determining which party bears the financial burden of a realized risk: for example, is there an indemnity clause, and will the state law respect that language?

Contractual provisions cannot trump the law: parties cannot contract around state legislation established in the public interest and attempts to do so are invitations to a time-consuming and expensive litigation process. However, contracts can realign risks in a manner that the law will allow in instances where the parties' rights to determine their own course is respected.

Different state laws can define this boundary between the parties' free will to contract and the need to protect the public interest in different ways. One state may allow a provision that another state will not (such as indemnification). Standardized forms cannot address issues to this level of detail.

For all those involved in construction but particularly small businesses, as well as residential contractors and home owners, the standardized form is an especially tempting danger as well a terrific tool, depending upon its usage. Without the input of a knowledgeable construction lawyer, these templates can open a Pandora's box of problems for the parties involved in the construction process, and a high risk of litigation expense -- if only to have a court's assistance in determining the parties' contractual intent. With the assistance of expert legal counsel, these forms offer a means to circumvent many pitfalls as well as decreasing an otherwise lengthy contract expense.

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It is ordinary for a subcontractor or supplier to execute a lien waiver after it receives payment for services and/or materials. Construction contracts, however, sometimes go one step further by requiring a subcontractor or supplier to waive its lien rights as a condition of accepting the contract.

There is some question in Louisiana jurisprudence as to whether these provisions are enforceable or unenforceable.

The 2004 5th Circuit Court of Appeals case that muddied the water on this issue was captioned Shaw Constructors v. ICF Kaiser Engineers, Inc. In deciding whether a pre-work lien wavier would be valid, the court turned to Louisiana jurisprudence on the requirements for a valid waiver in general.

Generally speaking, a "waiver" in Louisiana occurs only when there is "an existing right, a knowledge of its existence and an actual intention to relinquish it or conduct so inconsistent with the intent to enforce the right as to induce a reasonable belief that it has been relinquished." Steptore v. Masco Constr. Co., Inc., 643 So.2d 1213, 1216 (La. 1994).

In Shaw Constructors, the court reasoned that when the subcontract at issue was formed, Shaw had no known existing legal right to file a claim or lien against the property because no work had been performed. Without an "existing right" to file the lien, there could not be a waiver of that right.

The Court also attacked the pre-work lien waiver from a different angle, by reasoning that the defendants had an obligation to pay Shaw under the contract wherein Shaw waived its lien rights. By not paying its subcontractor, it failed to perform on an obligation of the contract, thereby giving Shaw the right to dissolve the contract entirely. The dissolution of the contract would, according to the 5th Circuit, also dissolve the lien waiver.

The 5th Circuit Court of Appeals therefore held that the lien waiver provision could not be enforced against Shaw.

This ruling should not affect the enforceability of lien waivers executed by subcontractors or suppliers after work is performed.

In contrast to pre-work waivers, post-work waivers occur after the right to lien has vested with the subcontractor/supplier. As a result, the subcontractor or supplier has an actual right to waive, and the waiver would likely be valid.

Furthermore, it is worthwhile to note that while the Shaw decision weighs heavily against "no liens" clauses in contracts, it's not necessarily the final word on the issue.

First, Shaw was decided by the Federal 5th Circuit and not by a Louisiana court. In its decision, the 5th Circuit simply attempts to "predict" what a state court would do if faced with the same legal question. If and when the "no liens" clause issue gets to the state courts, there might be a different outcome.

Second, the Shaw court hints that circumstances might exist when it would uphold a "no liens" clause. In its comparison of the Louisiana Private Works Act to the similar statutes in Illinois, the court highlights that subcontractors and suppliers in Louisiana can lien a project even when there is no breach in the contract. If a sub or supplier finds itself in this situation, and his claim rights were vested at the time of signing the contract, it is possible that the "no liens" clause would be enforced against it.

For all intents and purposes, however, the Shaw decision places great restraints on "no liens" clauses in contracts.

Generals may want to explore other methods of protecting jobs against liens, and will specifically want to get post-work lien waivers from the subs and supplier regardless of whether they have a pre-work lien waiver.

On the other hand, subs and suppliers should discuss their lien rights with an attorney before the expiration of their claim period even if they signed a contract with a "no liens" clause.

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Background on Payment Provisions & What is a "Pay When Paid" Clause

While it's common practice in the construction industry to provide for partial payments from the contractor to subcontractor as work progresses, in Louisiana, unless the contract specifies otherwise, payment from the general contractor to the subcontractor is not actually due until the project is completed. See LA CC Art. 2550; See also Sacco v. Koepp, 169 La. 789, 793-94 (1930).

Therefore, if such progress payments are desired, it's important to have a clause clearly providing for these payments in the contract.

A common contract provision in many contractor-subcontractor agreements provides that progress payments are not payable to a subcontractor until the owner pays the corresponding amount to the general contractor. These contract provisions typically come in two varieties, and are commonly referred to as "pay when paid" and "pay if paid" clauses.

"Pay when paid" and "Pay if paid" clauses are designed to shift the burden of owner non-payment from the contractor to its sub-contractors and suppliers. Accordingly, both provisions can be very onerous for the subcontractor - oftentimes preventing payments to a sub or supplier when the Owner is in an unrelated dispute with the general contractor, or merely becomes financially unable to make payments under the contract.

Enforceability of "Pay When Paid" Provisions

"Pay when Paid" provisions and other conditional payment provisions are not favored in courts, and therefore, it's imperative to carefully draft and review any such provisions in the construction contract.

Hostility towards these types of provisions are fueled by subcontractors and their trade organizations.

Courts in some parts of the country have even gone so far as to call such provisions against public policy and unenforceable. See Capitol Steel Fabricators, Inc. v. Mega Construction Co., 58 Cal App 4th 1049 (2d Dist. 1997). Legislatures in a number of states have considered such provisions as impermissible waivers of the subcontractor's constitutionally protected mechanics' lien rights.

In Louisiana, properly drafted "Pay when Paid" provisions are enforceable, but the wording must be clear and unambiguous.

However, even with an enforceable conditional payment provision, Louisiana courts still require payment to the subcontractor within a "reasonable period of time," thereby watering down the effect of the provision. See Southern States Masonry, Inc. v. J.A. Jones Contr. Co., 507 So.2d 198 (La. 1987). Through this Southern States decision, and similar decisions, the courts re-shift the risk of non-payment back upon the general contractor.

If the parties truly intend for the subcontractor to bear the risk of non-payment, or if payment from the owner is not reasonably certain, this intent should be clearly expressed in the construction contract. In these situations, the contract should have a "Pay if Paid" provision instead of a "Pay when Paid" provision. See C. Bel for Awnings, Inc. v. Blaine-Hays Constr. Co., 532 So.2d 830 (La. App. 4th Cir. 1988).

"Pay When Paid" versus "Pay If Paid"

Although only separated by one word, legally the two provisions are drastically different.

Pay when Paid

This common payment provision stipulates that a general contractor is legally obligated to pay a subcontractor only when it receives a corresponding payment from the owner. As discussed above, however, most courts view such a clause as a timing provision and not the basis for nonpayment.

Accordingly, if payment is never received from an owner, under a "Pay when Paid" payment provision, the general contractor must still make payment to a sub or supplier within a "reasonable time."

Pay If Paid

"Pay if paid" clauses are more specific than their "pay when paid" counterparts. Unlike the "pay when paid" clause, oftentimes considered a timing provision, the "pay if paid" clause more clearly expresses the parties' intention to shift the credit risk of owner nonpayment down through the contracting ranks.

Accordingly, payment to the subcontractor is more likely to be contingent on the general receiving payment from the owner under a contract with a "pay if paid" provision than a "pay when paid" provision.

Conclusion

Deciding when payments are due a subcontractor can sometimes lead to long and complicated legal disputes. As such, it's very important for the parties to clearly express their intent when contracting.

The Wolfe Law Group is experienced in drafting and reviewing construction contracts to clearly reflect the intent of the parties. Contact us today to learn more about how the Wolfe Law Group can be your company's new legal department.

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