Construction Law: Final Payment by Owner, Avoiding Lien Claims

Donalt J. Eglinton | Wardand Smith | September 5, 2018

A contractor has finished work on a construction project in North Carolina and submitted a written request for final payment to the owner of the real property that has been improved by the construction.

The owner is concerned about having to deal with liens from subcontractors and suppliers after final payment is made.  This article examines the circumstances under which an owner can make final payment without this concern.

The North Carolina law governing the assertion of liens by mechanics, laborers, and materialmen who furnish labor, material, or services to improve real property is complex.  It consists of a patchwork of statutes enacted and amended at different times to address particular issues.  It also involves a body of case law interpreting and applying these statutes that has developed as the statutes have been enacted and amended.  The statutes and case law are applied to determine, among other things, whether a right to assert a lien exists and, if so, the extent and priority of such lien.  Not surprisingly, this law gives owners, who want to avoid liens and a risk of having to pay twice for construction, pause when parting with their funds to pay a contractor.

Notwithstanding the complexity of the law, there is a circumstance under which an owner can safely make final payment to a contractor (who, for the purposes of North Carolina law and this article, is any contractor who contracts directly with the owner and is commonly referred to as a “general contractor,” as opposed to a subcontractor who contracts only with a contractor) without concern for potential lien claims from subcontractors or suppliers.  If the owner makes final payment to a contractor (and the payment is accepted by the contractor as final payment) at a time when the owner does not have proper written notice of any lien claim from a subcontractor or supplier who dealt with that contractor, the making of the final payment will protect the owner from the assertion of any valid lien claim made by any such subcontractor or supplier after final payment was made.

This simple, bright-line rule makes sense.  Generally, two kinds of liens arising out of construction projects are recognized in North Carolina:

  • The contractor may assert a lien against the owner’s improved real property (if this right exists, it can be exercised through subrogation by some subcontractors or suppliers under certain circumstances); and,
  • Some subcontractors or suppliers may assert a lien against any funds owed by an owner or a higher tiered contractor, subcontractor, or supplier.

These liens secure the right to be paid for work performed to improve the owner’s real property.  When an owner makes final payment to a contractor and the contractor accepts final payment, there are no more funds owned to the contractor.  If no funds are owned to the contractor, then:

  • The contractor has no right to assert any lien against the owner’s improved real property;
  • No subcontractor or supplier has any right to assert a lien on funds owed by the owner to the contractor; and,
  • No subcontractor or supplier has the ability, through subrogation, to assert a contractor’s lien against an owner’s improved real property because the contractor no longer has such a lien.

A comment and a caveat must be added:

Comment: Although the making of final payment effectively cuts off lien rights, it is well-advised for an owner to require any contractor to provide a comprehensive final lien release, commonly called a “lien waiver,” at or before the time final payment is made.

Caveat: If an owner has proper written notice of a lien claim from a subcontractor, then the owner is obligated by law to withhold from payment to the contractor an amount sufficient to satisfy and pay the subcontractor’s lien claim, and final payment, therefore, should not be made by the owner until the subcontractor releases, or “waives,” the noticed lien claim.  If the owner does not require this and the subcontractor is not paid by the contractor, the subcontractor’s lien on funds will become the even more problematic direct lien on the owner’s improved real property.  If this occurs and the owner cannot get the paid contractor to “refund” the erroneously paid funds to the owner (or to do the right thing and pay the subcontractor), the owner may well have to make a “double payment” (that is to pay the amount that is the subject of the subcontractor’s lien claim twice) in order to clear title to the improved real property.

California Contractor Spills Coffee on Himself by Failing to Stay Mechanics Lien Action While Pursuing Arbitration

Garret Murai | California Construction Law Blog | July 26, 2018

It bugs the Mrs. that I have a habit of reading the directions. “Just plug the darn thing in!” said the Mrs. when we got a new coffee maker to replace our old one which we’ve had since I think before we were married (Life Lesson No. 347: Get a coffee maker you really, really like because they last forever). “But . . . the directions?,” I said.

By the time I had finished reading the instruction manual I could smell the coffee brewing in the kitchen. Granted, the Mrs. is more practical than I am in many ways (e.g., “You know, you didn’t need to buy 10 cans of corn to get the 10 for $10 discount. I guess you’re going to be eating a lot of corn”). But still. What might have happened if there was a serious coffee mishap?

And worrier as I may be mishaps can happen if you don’t read the directions. James Zenovic didn’t read the directions, and here’s his story . . .

Von Becelaere Ventures, LLC v. Zenovic

In Von Becelaere Ventures, LLC v. Zenovic, Case No. D072620 (June 6, 2018), James Zeonovic doing business as James Zeonovic Construction entered into a construction contract to build a single-family house for Von Becelaere Ventures, LLC in Laguna Beach, California. The construction contract included an arbitration provision that stated:

If any dispute arises concerning this Contract or the interpretation thereof, of concerning construction of the Improvements, or the Limited Warranty, customer service, defects, damages, or obligations therewith (a “Construction Dispute”), such Construction Dispute will be settled by binding arbitration.

As sometimes happens on a construction project, a dispute arose. The result, was that Mr. Zenovic recorded a mechanics lien asserting that Von Becleare Ventures owed him nearly $450,000 on the project.  Mr. Zenovic recorded his mechanics lien on March 20, 2017. As also sometimes happens on a construction project, Von Becleare Ventures filed a complaint against Mr. Zenovic alleging a host of claims relating to the work performed by Mr. Zenovic on the project. Von Becleare’s complaint was filed on April 3, 2017. On April 7, 2017, Mr. Zenovic filed a complaint against Von Becleare Ventures foreclosing on his mechanics lien.

About a month later, Mr. Zenovic file a motion to compel arbitration to stay the actions while the parties arbitrated their dispute pursuant to the arbitration provision of the contract. However, the trial court denied Mr. Zenovic’s motion finding that he had waived his right to arbitration because he failed to (read and) comply with Code of Civil Procedure section 1281.5 which provides in pertinent part:

(a) Any person who proceeds to record and enforce a [mechanics’] lien . . . does not thereby waive any right of arbitration the person may have pursuant to a written agreement to arbitrate, if, in filing an action to enforce the claim of lien, the claimant does either of the following:

(1) Includes an allegation in the complaint that the claimant does not intend to waive any right of arbitration, and intends to move the court, within 30 days after service of the summons and complaint, for an order to stay further proceedings in the action.

(2) At the same time that the complaint is filed, the claimant files an application that the action be stayed pending the arbitration of any issue, question, or dispute that is claimed to be arbitrable under the agreement and that is relevant to the action to enforce the claim of lien.

(b) Within 30 days after service of the summons and complaint, the claimant shall file and serve a motion and notice of motion pursuant to Section 1281.4 to stay the action pending the arbitration of any issue, question, or dispute that is claimed to be arbitrable under the agreement and that is relevant to the action to enforce the claim of lien. The failure of a claimant to comply with this subdivision is a waiver of the claimant’s right to compel arbitration.

(c) The failure of a defendant to file a petition pursuant to Section 1281.2 at or before the time the defendant answers the complaint filed pursuant to subdivision (a) is a waiver of the defendant s right to compel arbitration.

The Court ruled that because Mr. Zenovic had not: (1) included an allegation in his complaint to foreclose on his mechanics lien that he did not intend to waive his right to arbitration and within 30 days of service of his complaint would seek a stay of the action while he pursued arbitration; or (2) did not file an application to stay the action at the time he filed his complaint to foreclose on his mechanics lien, he had waived his right to arbitration pursuant to Section 1281.5.

Mr. Zenovic appealed.

The Court of Appeal Decision

On appeal, Mr. Zenovic contended that Code of Civil Procedure section 1281.5 only applied to his complaint to foreclose on his mechanics lien but did not apply to Von Becleare Ventures’ claims against him.

The Court of Appeals for the 4th District disagreed holding that, under a plain reading of the statute, Section 1281.5 applies not only to actions to foreclose on a mechanics lien, but also to any arbitrable claim relevant to an action to enforce a mechanics lien:

Section 1281.5, subdivision (a), contemplates a mechanics lien action will be separate from an action to resolve otherwise arbitrable disputes. It makes no difference if the arbitration action is initiated in a different venue or which party initiates the arbitration action. By its plain terms, the statute permits a contractor to take advantage of the statutory mechanics lien process while preserving the contractual right to arbitrate disputes as provided in the arbitration agreement. The purpose of the alternative stay procedures articulated in section 1281.5, subdivision (a), is to hold the mechanics lien process in abeyance “pending the arbitration of any issue, question, or dispute that is claimed to be arbitrable under the agreement and that is relevant to the action to enforce the claim of lien.” However, a party who commences a mechanics lien action without complying with either of the stay provisions waives any such right to arbitration.

(emphasis in original).

And, here, held the Court of Appeals, Von Becleare Ventures’ claims against Mr. Zenovic were arbitrable claims under the arbitration provision of the parties’ agreement, but Mr. Zenovic failed to preserve his right to arbitration by failing to comply with Code of Civil Procedure section 1281.5 when filing his action to foreclose on his mechanics lien.

Conclusion

So there you have it. Read the directions, or, in this case, the statutes, to avoid the risk of spilling coffee all over yourself.

Enforcing A Mechanic’s Lien In California? Don’t Waive Your Right To Arbitrate The Dispute

Jeffrey N. Brown | Thompson Coburn LLP | June 13, 2018

On June 6, 2018, the California Court of Appeal held that a contractor waived its right to arbitrate disputes because it recorded a mechanic’s lien and then didn’t follow California Code of Civil Procedure Section 1281.5 in its subsequent lawsuit to foreclose on the lien. In Von Becelaere Ventures, LLC v. Zenovic, the parties entered into a construction contract for a single-family residence in Laguna Beach, California. The contract had an arbitration provision as follows:

If any dispute arises concerning this Contract or the interpretation thereof, or concerning construction of the Improvements, or the Limited Warranty, customer service, defects, damages, or obligations therewith (a “Construction Dispute”), such Construction Dispute will be settled by binding arbitration.

After a dispute arose, Zenovic, the contractor, recorded a mechanic’s lien in the amount of almost $450,000, and Von Becelaere Ventures, the owner, filed a construction defect lawsuit, alleging that Zenovic breached the construction contract by

“(a) failing to properly perform and construct the Work;

(b) failing to hire properly licensed and insured subcontractors;

(c) failing to comply with proper license and insurance requirements;

(d) failing to obtain written subcontract agreements;

(e) failing to properly supervise the Work;

(f) failing to maintain and provide upon request proper accounting records;

(g) failing to properly manage expenses and allowing gross overages;

(h) failing to comply with requirements regarding change orders, improperly billing for extra work and improperly categorizing work as extra work which should have been covered under the contract as included work; and

(i) improperly filing and asserting an untimely mechanics lien and threatening to file suit to foreclose on the improper lien.”

Shortly after being served with the Von Becelaere Ventures lawsuit, Zenovic filed his own lawsuit, asserting causes of action for breach of contract, reasonable value, account stated, open book account, abuse of process, breach of the covenant of good faith and fair dealing, and foreclosure on mechanic’s lien.

Not long after, Zenovic filed a motion seeking to compel arbitration under the arbitration provision of the construction contract. The trial court denied that motion. On appeal, the Court of Appeal affirmed the trial court’s decision that Zenovic waived his right to compel arbitration because he didn’t comply with Section 1281.5, which provides:

Any person who proceeds to record and enforce a claim of lien by commencement of an action pursuant to Chapter 4 (commencing with Section 8400) of Title 2 of Part 6 of Division 4 of the Civil Code, does not thereby waive any right of arbitration the person may have pursuant to a written agreement to arbitrate, if, in filing an action to enforce the claim of lien, the claimant does either of the following: (1)Includes an allegation in the complaint that the claimant does not intend to waive any right of arbitration, and intends to move the court, within 30 days after service of the summons and complaint, for an order to stay further proceedings in the action. (2) At the same time that the complaint is filed, the claimantfiles an application that the action be stayed pending the arbitration of any issue, question, or dispute that is claimed to be arbitrable under the agreement and that is relevant to the action to enforce the claim of lien.

Here, Zenovic “neither included an allegation in the complaint filed in the [mechanics lien] action stating he did not intend to waive any right of arbitration and intended to seek a stay of the [mechanics lien] action (§ 1281.5, subd. (a)(1)), nor filed an application for stay at the time he filed the complaint in the [mechanics lien] action (§ 1281.5, subd. (a)(2)).” As a result, the Court of Appeal held that he waived his right to compel arbitration of the owner’s construction defect claims. The Court held that Section 1281.5 “means what it says,” and that Zenovic’s failure to comply “waived the right to arbitrate construction disputes under the terms of the construction contract.”

When Does a Mechanics’ Lien Effect?

Kent B. Scott | Babcock Scott & Babcock | March 30, 2018

The Utah Mechanic’s Liens Act needed some clarification on when exactly a mechanic’s lien goes into effect. That clarification came in February 2015 from the Court of Appeals of Utah. In the case Pentalon Construction, Inc. v. Rymark Properties, LLC the court ruled that “nearly completed excavation constitutes ‘commencement’ under the Act because the excavation was sufficient ‘to put a prudent lender on notice that lienable work was under way.”[1]

What this means for contractors is that to make sure a mechanic’s lien has priority over other liens or mortgages, they need to file their lien with the recorders office and construction needs to be underway on the jobsite to a point where a “reasonable observer” can tell that a mechanic’s lien is sure to be in effect.

The court found that there are easy ways for a jobsite to pass the “work started” test. For example having large piles of dirt from excavation activities helps people know that a construction project is under way.[2] Heavy machinery operating on the jobsite also demonstrates the beginning of a construction project.[3] Adding in construction materials to the excavated portions of the jobsite, and a nearly completed foundation are the final examples from the court that place observers on notice that work has started.[4]

Contractors need to know that two previous rulings regarding preparatory work for a jobsite is still in effect. The ruling in Ketchum, Konkel, Barrett, Nickel & Austin v. Heritage Mountain Development Co. states that architectural work and other site preparation such as surveying, staking, and soil sampling does not always put the “reasonable observer” on notice that work has started on a jobsite.[5]

Similarly, “wetlands delineations, groundwater monitoring, geotechnical testing, and irrigation work” does not place a reasonable observer on notice because the work should demonstrate “impending or ongoing work.”[6]

The important thing to remember is that the more obvious it is to a reasonable observer that construction has started on a jobsite, the more likely that a filed mechanic’s lien has taken effect. A jobsite’s almost completed foundation, large piles of dirt accompanied by heavy machinery, and construction materials onsite provides more than adequate notice of a mechanic’s lien that is in effect.

[1] Pentalon Const., Inc. v. Rymark Properties, LLC, 344 P.3d 180, 186, 2015 UT App 29, ¶ 19 (Utah App., 2015).

[2] Id. at 183.

[3] Id.

[4] Id.

[5] Ketchum, Konkel, Barrett, Nickel & Austin v. Heritage Mountain Development Co., 784 P.2d 1217, 1228 (Utah App., 1989).

[6] EDSA/Cloward, LLC v. Klibanoff, 192 P.3d 296, 300, 2008 UT App 284, ¶ 10 (Utah App., 2008).

A Promise to Pay Doesn’t Extend Lien Deadlines

Stan Martin | Commonsense Construction Law | January 24, 2018

Mechanic’s lien rights arise from the laws of each state; there is no common-law right to unilaterally lien someone else’s property. As such, compliance with statutory requirements and deadlines is paramount. Thus, when an owner promised to pay a sub, and the sub elected not to pursue lien rights based on that promise, the sub lost out on its lien when it missed the statutory deadlines.

This case is in Massachusetts, but it is likely the same outcome would result in all other states. Equitable theories that might apply in other circumstances (e.g., equitable tolling of statutes of limitation when one forebears based on promises from another) do not apply when the underlying right is based on compliance with lien law standards and deadlines.

The sub was owed $196,500. It took the first two steps (out of three) under the Massachusetts lien law, to secure a mechanic’s lien. The third step was to file a lawsuit, but the sub didn’t file based on what it claimed were promises of payment. In the meantime, the deadline to file a lawsuit (90 days after the second step) came and went. When no payment was made, the sub tried to resurrect its lien rights by taking steps 1 and 2 again, but by now the deadline for those steps had passed under the lien law.

The sub argued that the lien law deadlines should be equitably extended, but the trial court, and then the Appeals Court, disagreed. “A mechanic’s lien is not a common-law right but a creature of statute, which ‘compels strict compliance in order to obtain relief.’” The sub’s lien rights had lapsed when the deadlines passed, regardless of any promises of payment that may have been made.

The lesson? Ignore lien law deadlines at your peril. The case is D5 Iron Works v. Danvers Fish & Game Club, 2018 Mass. App. Unpub. LEXIS 60 (Jan. 22, 2018).