Contractor Wins in Arbitration Only to Lose Before the Superior Court on Section 7031 Claim

Garret Murai | California Construction Law Blog

If you’re a regularly reader of the California Construction Law Blog you’re aware of Business and Professions Code section 7031 which courts have variously described as “harsh[ ],” “draconian” and “unjust,” but, importantly, nevertheless valid. We haven’t seen many cases applying Section 7031 in an arbitration setting, however, until now.

In Vascos Excavation Group LLC v. Gold, 87 Cal.App.5th 842 (2022), a contractor who prevailed on a payment claim in arbitration, had its victory snatched from its fingertips by the Superior Court which found that the arbitrator had exceeded her authority because the contractor was subject to Section 7031.

The Vascos Case

in 2019, Vascos Excavation Group LLC entered into a construction contract with Robert Gold to perform excavation, grading and concrete work at his property in Pacific Palisades, California. A payment dispute arose and Vascos recorded and later filed suit to foreclose on a mechanics lien. In response, Gold filed a petition to compel arbitration pursuant to an arbitration provision contained in the construction contract. Vascos filed a notice of non-opposition to the petition and the court entered an order compelling the parties to arbitration.

The arbitration provision provided for arbitration before the American Arbitration Association pursuant to the AAA’s Construction Arbitration Rules. A four-day hearing was later held. After both parties rested, Gold argued that Vascos was barred from seeking compensation as an unlicensed contractor under Section 7031. The arbitrator re-opened the hearing  for limited purpose of giving Vascos an opportunity to prove it held a valid contractor’s license.

Vascos filed a certified copy of its contractor’s license from the Contractors State License board showing that one John Matthew Welch was the responsible managing employee (RME) for the company. Vascos also filed a declaration by Victor Montes, the project manager onto project, which attached two videos showing Welch at the construction site on June 29 and August 10, 2020.

After the arbitration was officially closed, the arbitrator issued an award finding that Vascos was entitled to recover $111,440.29 from Gold. In the award, the arbitrator found: “The evidence of Mr. Welch’s participation was his attendance at the job site on at least one occasion, and that he worked remotely from his home in his capacity as RME. Working remotely would allow Mr. Welch to make administrative decisions. For this reason, the challenge to his RME status is over ruled.”

Gold later filed a petition to vacate the arbitration award on the ground that the arbitrator had exceed her authority. Gold’s argument was that the arbitrator’s authority was premised on the arbitration provision contained in the parties’ construction contract, but that because Welch was a sham RME, that Vascos was an unlicensed contractor, and the arbitration provision was therefore contained in an void construction contract. Vascos opposed the petition and asked that the trial court confirm the arbitration award.

The trial court, finding that Vascos had failed to meets its burden of proving that Welch was a bond fide RME, vacated the arbitration award.

Vascos appealed.

The Appeal

At this point you may be asking yourself “what the heck happened?” Didn’t the arbitrator find that Vascos had satisfied its burden of proving that it was a licensed contractor? Why is the superior court second guessing the arbitrator? And aren’t arbitration decisions generally not reviewable for errors of fact or law? Well, read on.

On appeal, the 2nd District Court of Appeal explained that “generally, an arbitration is final” and that “the scope of judicial review of arbitration awards is extremely narrow because of the strong public policy in favor of arbitration and according finality to arbitration awards.” However, explained the Court of Appeal, the “power of the arbitrator to determine the rights of the parties is dependent upon the existence of a valid contract under which such rights might arise” and “an agreement to arbitrate is invalid and unenforceable if it is made as part of a contract that is invalid and unenforceable because it violates public policy.”

“Whether a contract is entirely illegal, and therefore unenforceable, is an issue ‘for judicial determination upon the evidence presented to the trial court,” explained the Court of Appeal, “and any preliminary determination of the legality by the arbitrator . . . should not be held to be binding upon the trial court.” In short, each reviewing court conducts its own de novo review, although the Courts of Appeal will look at the evidence presented to trial court, not the arbitrator.

On appeal, Vascos argued that by producing a certified copy of its contractor’s license from the CSLB that it had satisfied its burden of proof and that the burden then shifted to Gold to prove that Welch was a sham RME. Not so held the Court of Appeal. While production of a certified copy of a contractor’s license is “necessary” to prove valid licensure, it is “insufficient if the point is controverted,” and where a claim is made that an RME is a sham, “[t]he contractor has the burden of proof on the issue of whether it has a bona fide RME.”

And here, held the Court of Appeal, Vascos did not meet its burden. In fact, what the Court of Appeal said the Vascos failed to do, is embarrassingly simple:

  • An RME, explained the Court of Appeal, must be a “permanent” employee working no less than “32 hours per week, or 80 percent of the total hours per week that the company’s business was in operation.”
  • The videos, explained the Court of Appeal, while it showed Welch at the project site, did not show that Welch was a permanent employee or that he was working no loess than 32 hours per week or 80% of the total weekly working hours of Vascos.
  • “The burden on Vascos was not high,” explained the Court of Appeal, and it  likely could have met that burden with a “five sentence declaration . . . yet [Vascos] failed to meet it.”
  • Moreover, explained the Court of Appeal, there are sound public policy reasons for placing the burden on the contractor who has access to payroll records, timesheets and other employees who can testify to the activities of the RME.

Vascos’ final argument on appeal was an “I gotcha,” and I think may say more about the case, than anything. When Gold filed his petition to vacate the arbitration award, he asked for an order “permitting limited discovery to determine the existence of documents proving full-time employment of John Matthew Welch from June to November 2019, including: (a) payroll records with cancelled checks; (b) worker’s compensation employee reports; and (c) payroll tax returns” and for an evidentiary hearing with live witness testimony.

Vascos objected to permitting discovery and holding an evidentiary hearing, arguing that “Gold’s request for what would effectively be a new court trial on the issue of licensure is unsupported and unsupportable”, that the trial court’s authority was at most to conduct “a de novo review of the available evidence to the trial court at the time of review”, and that Gold was seeking an inappropriate “fishing expedition” that “is clearly not supported by law.”

Having lost before the trial court, Vascos argued on appeal that trial court “erred in not setting an evidentiary hearing”, and the Court of Appeal was not sympathetic. “Vascos,” held the Court of Appeal, “forfeited on appeal any argument that the trial court should have conducted an evidentiary hearing because it did not ask for one in the trial court. To the contrary, Vascos successfully opposed such a hearing.” Ouch.

Conclusion

There are a number of lessons to be learned here. First, an arbitrator’s award, while generally immune from attack, can be challenged if proper licensure is in dispute, the argument being that the arbitrator has no authority to hear the case if the contract with the arbitration provision is void to begin with. Second, when proper licensure is in dispute, the trial court conducts a de novo review, meaning that you better bring your guns even if you already won before the arbitrator. And, finally, while the burden of proving proper licensure is on the contractor, satisfying that burden is not difficult, although its may involve more than simply producing a certified copy of your contractor’s license.


When one of your cases is in need of a construction expert, estimates, insurance appraisal or umpire services in defect or insurance disputes – please call Advise & Consult, Inc. at 888.684.8305, or email experts@adviseandconsult.net.

Insurer Has No Obligation to Cover Arbitration Award in Construction Defect Case

Tred R. Eyerly | Insurance Law Hawaii

    The court determined there was no coverage for an adverse arbitration decision suffered by the insured in a construction defect case. Am. Fire and Cas. Co. v. Unforgettable Coatings, Inc., 2023 U.S. Dist. LEXIS 64846 (D. Nev. April 13, 2023). 

    Unforgettable contracted with Muirfield Village Homeowner’s Association for painting and related services. Following completion of the project, Muirfield alleged that Unforgettable’s work was defective and filed suit. The parties agreed to arbitration. The arbitrator found that Unforgettable breached the contract and its implied warranty. Damages were awarded to Muirfield. 

    American Fire and Casualty Company (AFCC) was Unforgettable’s insurer and defended Unforgettable at the arbitration. AFCC sued for a declaration that it had no obligation to indemnify Unforgettable for the damages awarded. Unforgettable and Murifiled counterclaimed, alleging that AFCC breached the policy by not covering the award, as well as a variety of extracontractual claims related to the investigation process. AFCC moved for judgment on the pleadings. The motion was granted with leave to amend.

    After the counterclaims were amended, AFCC again moved for judgment on the pleadings. The court first found that Unforgettable had assigned all of its rights under the policy to Muirfield. Therefore, Unforgettable had no standing and its counterclaims were dismissed. 

    In the second amended counterclaims, Muirfield provided no allegations that persuaded the court to reconsider its initial analysis. “Occurrence” did not apply to faulty workmanship. Muirfield argued that the word “accident” within the definition of “occurrence” was ambiguous. The court rejected the argument. Regardless of what “accident” meant precisely, the court had already excluded the relevant conduct from the definition. The damage was the poor workmanship itself. 

    The argument for breach of the implied covenant of good faith and fair dealing also failed. The denial of coverage was proper and there was nothing to trigger coverage.

    Muirfield’s request for leave to amend was also rejected. Muirfield already had two opportinities to cure its pleading and failed to do so. 


When one of your cases is in need of a construction expert, estimates, insurance appraisal or umpire services in defect or insurance disputes – please call Advise & Consult, Inc. at 888.684.8305, or email experts@adviseandconsult.net.

What Parties Ought To Consider When Considering Arbitration Provisions

Zachary Davis | Ahead of Schedule

When reviewing a proposed design or construction contract, the responding party will often do a cursory check to see whether the contract proposes arbitration or litigation for dispute resolution. So long as the proposed method generally aligns with that party’s preferences, it will not look further at the specifics of the proposed process. For the uninitiated, this can lead to surprises when a dispute arises, especially when it comes to issues like whether the arbitration will be held before a single arbitrator or a panel of arbitrators, the rules that will apply to the arbitration, and the scope of discovery.

Construction and design attorneys, on the other hand, spend many working hours (and sometimes nonworking hours) contemplating these exact issues. I have developed a checklist of items that I advise my clients to consider in their arbitration provisions. The combined goal of these considerations is eliminating surprises if a dispute arises and balancing efficiency with the desire for a fair process. Typically, that checklist includes the following topics:

Rules applicable to the arbitration

The parties may—and often do—agree in their contract to the procedural and evidentiary rules subject to the arbitration. Deciding which rules will apply to the arbitration—and whether there are any exceptions to those rules (such as for discovery)—is maybe the most important provision because a dispute could proceed under very different paths depending on the rules that apply.

For instance, the American Arbitration Association’s (AAA) Construction Industry Arbitration Rules provide for relatively limited discovery (i.e., pre-hearing document exchange and depositions). While this might be appropriate for smaller disputes, it rarely is appropriate for disputes involving large, complex construction projects. The Procedural Rules of the Arbitration Service of Portland (ASP), on the other hand, provide that the scope of discovery is the same as allowed by the Oregon Rules of Civil Procedure, which grant relatively broad rights of discovery. Thus, for disputes involving large construction projects, the ASP rules are in most cases better equipped to arm the parties and the arbitrator with what they need for a fair resolution.

Of course, as addressed below, the parties can also agree to conduct discovery pursuant to the Federal Rules of Civil Procedure or corresponding state court rules notwithstanding their agreement that the AAA rules (or ASP rules or those of some other body) otherwise apply.

Single arbitrator or panel of arbitrators?

Arbitrations may proceed before a single arbitrator or a panel of three (or more) arbitrators depending on the parties’ agreement or the rules applicable to the arbitration. A typical arbitration provision in a design or construction contract might provide for a single arbitrator for disputes below a certain dollar threshold and for a panel of three arbitrators for disputes above that threshold.

Because arbitrators are compensated by the parties for their time, arbitrating before a panel of arbitrators—as opposed to a single arbitrator—will add cost; it also will add scheduling difficulties that can push the final hearing out in search of dates that work for everyone. The parties can also agree in their contract to certain qualifications that an arbitrator must meet in order to serve. This is common in contracts involving highly technical or specialized construction. For instance, parties to an engineering, procurement, and construction agreement for a commercial solar array might agree that any arbitrator must have a background in the solar industry.

Scope of discovery

A belief has developed among many lawyers and arbitrators that one of the perceived benefits of arbitration—greater cost efficiency compared to litigation—can only be achieved when discovery is limited. AAA’s rules reflect this paradigm. The reality, however, is that in most construction disputes the documents—and particularly emails and text messages—tell the story. Thus, the party without those documents is at a significant disadvantage if the scope of discovery is limited in a manner that prevents a full and fair exchange of documentary evidence.

This issue can be avoided by prospectively agreeing that the scope of discovery will be governed by the Federal Rules of Civil Procedure (or alternatively the Oregon Rules of Civil Procedure or other state court rules in the jurisdiction where disputes will be heard). Recent amendments to the Federal Rules of Civil Procedure adopted a requirement that discovery be “proportional to the needs of the case”—thus baking into the rules a safeguard intended to limit abusive discovery practices while at the same time ensuring access to discovery based on considerations that include “the importance of the issues at stake in the action, the amount in controversy, the parties’ relative access to relevant information, the parties’ resources, the importance of the discovery in resolving the issues, and whether the burden or expense of the proposed discovery outweighs its likely benefit.” An agreement that discovery will be subject to the Federal Rules of Civil Procedure has the dual benefit of guarding against runaway discovery costs that are disproportionate to the matters at issue while ensuring fair access to information.

Maximizing opportunity for resolution in a single proceeding

Rare is the construction dispute that involves only two parties. A typical defect claim might include claims by the owner against the design team and the contractor and subcontractors. For both efficiency and avoidance of inconsistent outcomes, it is often in the parties’ mutual benefit to have all related claims consolidated into a single arbitration proceeding. The agreements between the owner and the architect and between the owner and the contractor might include a requirement for a consolidated arbitration proceeding, but what if downstream contracts do not? One way to address this scenario is to include an off-ramp in the arbitration provision that gives the owner the right to elect consolidated court litigation in the event all necessary parties cannot be joined into a single arbitration proceeding.

These are just four of the many moving parts that are important to consider when agreeing to arbitrate disputes in a construction or design agreement. Owners, designers, and contractors would all be well served to give them more than just a passing glance.


When one of your cases is in need of a construction expert, estimates, insurance appraisal or umpire services in defect or insurance disputes – please call Advise & Consult, Inc. at 888.684.8305, or email experts@adviseandconsult.net.

Emergency Arbitration Proceedings and How They Relate to Construction Disputes

Alexander Thrasher | Bradley Arant Boult Cummings

A recent win by a team of Bradley construction attorneys highlighted the role emergency arbitration proceedings can play in a dispute subject to an arbitration agreement.  The ongoing case involves the design and construction of a large international energy project, which is currently in arbitration before the International Chamber of Commerce (“ICC”). 

While many parties are aware that they may be bound to arbitrate disputes in lieu of litigation in state or federal court, not everyone is aware of the various forms those arbitral proceedings may take or the different purposes that can be served through such proceedings. 

In some cases, the nature of a dispute requires immediate action to avoid irreparable harm.  In traditional litigation, a party might seek a temporary restraining order or a preliminary injunction from a court to prevent another party from taking certain action.  Similar remedies are often available to parties who have agreed to arbitrate their disputes via (1) emergency arbitration procedures before the appointment of an arbitrator and (2) via a request for interim measures after the appointment of an arbitrator.

In the United States, many construction disputes are resolved under the American Arbitration Association’s (“AAA”) Construction Industry Rules for Arbitration.  Rule R-39 under the AAA Rules permits a party to seek “emergency relief prior to the constitution of the panel.” In such a case, the AAA must appoint a single emergency arbitrator who will then set an expedited schedule for consideration of the application for emergency relief.  The emergency arbitrator will issue an interim order or award granting the requested relief if the arbitrator finds that “the party seeking the emergency relief has shown that immediate and irreparable loss or damage shall result in the absence of emergency relief.” Any request to modify an interim award must be based on “changed circumstances” and directed to the emergency arbitrator until the arbitration panel is constituted, after which time, such a request must be made to the arbitrator.

Rule R-38 similarly provides for the imposition of interim measures, including “injunctive relief and measures for the protection or conservation of property and disposition of perishable goods” after the arbitration panel has been appointed. 

On large international projects, it is common to see arbitration agreements that select the ICC as the administering body of an arbitrable international dispute.  Article 29 and Appendix V to the ICC Arbitration Rules in effect as of January 1, 2021 also provide for the appointment of an emergency arbitrator to decide issues of “interim or conservatory measures that cannot await the constitution of an arbitral tribunal.”  And Article 28 of the ICC Rules permits a party to also seek interim or conservatory measures once the arbitral tribunal has been constituted.

In cases before both the AAA and ICC, no party is precluded from also pursuing interim measures from a court and such actions do not necessarily constitute a waiver of the agreement to arbitrate. Under certain circumstances, the aggrieved party is within its rights to pursue both interim measures in arbitration and injunctive relief before a court.

Parties should consider the utility of emergency or interim arbitration proceedings and should be mindful that, in many cases, an agreement to arbitrate does not foreclose traditional remedies available in situations where irreparable harm is imminent.  In short, when facing immediate events resulting in potential harm, one should closely examine all available avenues for relief and seek legal guidance as to the best path forward.


When one of your cases is in need of a construction expert, estimates, insurance appraisal or umpire services in defect or insurance disputes – please call Advise & Consult, Inc. at 888.684.8305, or email experts@adviseandconsult.net.

Improper Application of Arbitration Clause Leads to Remand in Properplates Case

Amandeep Kahlon | Bradley Arant Boult Cummings

Indiana, like other states, has a strong policy favoring arbitration agreements, and Indiana courts construe arbitration clauses broadly to make matters abitrable so long as they reasonably fit within the language of the clause. In Haddad v. Properplates, Inc., the Indiana Court of Appeals identified a rare instance where a dispute did not reasonably fit within the language of the arbitration agreement.

The Haddads entered a construction contract with a contractor, Properplates. When a dispute arose, the Haddads filed a complaint in Indiana state court alleging various claims. Properplates denied those claims, filed counterclaims, and moved to dismiss without prejudice and compel arbitration of all claims. The trial court granted Properplates’ motion, and the Haddads appealed.

The Indiana Court of Appeals reversed finding that the Haddads’ claims did not fit within the arbitration clause at issue. The arbitration provision provided, in part, that “in the event CONTRACTOR has a dispute concerning this Contract, the CONTRACTOR must submit such dispute to either the American Arbitration Association or to such other private arbitration service which has been approved by the secretary of the Executive of Consumer Affairs and Business Regulations, and the consumer shall be required to submit to such arbitration as provided under current state and federal laws.” The Court of Appeals found that the Haddads only agreed to arbitrate Properplates’ counterclaims. The arbitration agreement did not require the Haddads to submit their own affirmative claims to arbitration.

Properplates admitted that the Haddad’s claims were not arbitrable, but it argued that by denying those claims, Properplates created a Contractor “dispute” under the arbitration agreement. The Court of Appeals rejected that argument concluding it was contrary to the plain language of the contract, which contemplated certain disputes would not be arbitrable.

The Court of Appeals acknowledged there was overlap between Properplates’ counterclaims and the Haddads’ claims. However, Indiana Code Sec. 34-57-2-3(f) provides that a trial court may determine that claims not subject to the arbitration agreement may be litigated first before entering an order to arbitrate. Thus, the Court of Appeals reversed and remanded the case for the trial court to determine whether to delay the arbitration pending resolution of the Haddads’ claims.

Properplates is a reminder that there can be limits to typically broadly construed arbitration agreements. Any limits imposed by courts on such agreements will depend on the language of the agreements and the approach a particular state’s law takes with respect to arbitration and contract interpretation generally. The best way to avoid having to litigate these sorts of arbitrability disputes is by drafting an arbitration clause with clear, plain language that effectively delineates the parties’ agreed scope of arbitrable disputes.


When one of your cases is in need of a construction expert, estimates, insurance appraisal or umpire services in defect or insurance disputes – please call Advise & Consult, Inc. at 888.684.8305, or email experts@adviseandconsult.net.