Feeling Rejected? MA Court Construes for the First Time the Provisions of the Prompt Pay Act

Matthew DeVries | Best Practices Construction Law

In life, rejection is often hard to swallow.  In construction, that rejection can sometimes amount to millions of dollars.  A Massachusetts court recently held that an owner’s rejection of the contractor’s payment applications was not properly certified and, thus, violated the state’s Prompt Pay Act.

In Tocci Building Corp. v. IRIV Partners, LLC, (App. Ct. Mass. June 7, 2022), the court was asked to construe for the first time the provisions of Massachusetts’s Prompt Payment Act, which applies to certain private construction contracts in excess of $3,000,000. The Act requires that progress payments shall not exceed: 30 days for submission; 15 days after submission for approval or rejection; and 45 days after approval for payment.  Notably, if the owner does not provide an approval or rejection within 15 days of a proper payment application, then the payment application will “be deemed to be approved”.

What is a proper rejection under the Act?  The statute specifies that “[a] rejection of an application for a periodic progress payment, whether in whole or in part, shall be made in writing and shall include an explanation of the factual and contractual basis for the rejection and shall be certified as made in good faith.” A rejection notice under the statute can be subject to the parties’ dispute resolution clause, but any contract provision that causes delay to commencement of the dispute resolution period longer than 60 days is void and unenforceable.

In Tocci, disputes arose between the owner and contractor over seven interim payment applications that were, in whole or part, not paid by the date required in the parties’ contract. The owner alleged the contractor performed defective work and failed to perform warranty work when required.  The court reviewed each of the payment applications and determined whether the owner’s emails and other communications constituted valid “rejections” under the Act.  Ultimately, the court concluded that each disputed payment applications was “deemed approved” because the rejections: (1) came after the date payment was due; (2) did not contain a contractual or factual explanation; and/or (3) did not contain a certification that it was made in good faith.

Much of the court’s decision focused on whether the owner’s communications were properly certified within the meaning of the statute:

The Legislature required this certification if a rejection is to be effective, and we are not free to ignore that requirement by deeming it merely ministerial—to do so would be to read the requirement out of the statute. In any event, the certification requirement is an essential component of the scheme set up by the statute. As this case reflects, on a complicated construction project, there may be an enormous amount of communication back and forth between the owner and the contractor. Much of it may touch on issues involving compliance with the contract, and much of it may touch on payment. The certification requirement ensures not only that the owner be deliberate about rejecting applications for periodic progress payments, and that it takes care to reject them only in good faith, its presence on a communication also provides a clear indication to the contractor that an application has been rejected, so that the contractor can know both that some response is needed and that time periods have been triggered for invoking what remedies are available.

The court made clear that the owner’s claims of defective work and other breaches of contract were not waived by the failure to include these items in a proper rejection under the statute.

So what? If your project is subject to Massachusetts law, the decision in Tocci provides an excellent summary of the Prompt Pay Act.  However, the decision also provides a good lesson to parties involved payment disputes on a construction: follow the letter of the law In other words, while you may have factual or contractual reasons supporting your position, the law may impose certain requirements to preserve and/or prevail on your claims. Make sure your contracts are up to date with the most recent laws of your state, and that you have checklists in place when disputes arise.

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.

Inflation: The Elephant in a Construction Dispute or Contract Negotiation

Mario R. Nichols | Stoel Rives

Inflation is hitting the country hard. Consider this: $1 million in January 2020 has the same buying power as over $1.7 million today, according to the Consumer Price Index inflation calculator. How much weaker the dollar will get is anyone’s guess.

As the economy—the construction market in particular—continues to experience inflationary challenges, it is critical that owners, contractors, and design professionals beware of the risks presented by inflation and understand the options to mitigate those risks. Following are answers to questions that industry professionals may have regarding such issues.

Where does my contract address inflation?

Odds are likely that your contract does not directly address inflation. But that does not mean that the impact of inflation is not embedded in your contract (or should be embedded in contracts you sign in the future). Review these contract provisions closely, with an inflation lens:

  • Escalation clause: If a contract includes a specific provision dealing with material price increases, then that provision is a good place to start. Escalation clauses handle price increases in a variety of ways and often entitle the contractor or design professional to additional compensation (or a credit) if the price of material “x” deviates by some fixed percentage from a baseline figure for the expected cost of that material.
  • Impossibility of performance: Depending on applicable law, this doctrine may provide a defense to a claim of breach of contract where the impact of inflation made it impossible to perform the duties of the contract. Whether performance is “impossible” will vary depending on the circumstances, and many jurisdictions will require objective impossibility—meaning that it must be impossible for any similarly situated owner, contractor or design professional to perform. This legal doctrine may also apply even if the contract does not have a specific provision addressing this issue.
  • Impracticability of performance: A cousin to the preceding provision, if performance is impracticable, but not impossible, there may still be a defense (or at least a mitigating effect) of a failure to perform.
  • Force majeure: Read the force majeure clause carefully to see if the impact of inflation could be captured, and if the relief available is merely more time to perform (which may not be helpful when dealing with inflation), or an adjustment to the cost of performance.

Such provisions are the tip of the iceberg but a good starting point. Other relevant clauses include constructive change provisions or extensions of time clauses. Creative parties may even draft a provision specifically addressing the risk of inflation.

Can I recover damages specifically for inflation?

There are limited decisions analyzing whether courts or arbitrators should take inflation into account when awarding damages. In specific circumstances, such as bad faith claims against insurers, there is precedent in some courts for taking into account the effects of inflation. For example, in this specific context the Court of Appeals for the Ninth Circuit (analyzing California law) upheld the use of inflation as an element of damages where, among other factors, “there was a steady rate of inflation during the compensable period.” (See Leslie Salt Co. v. St. Paul Mercury Ins. Co., 1981.)

Several years later the Ninth Circuit (this time analyzing Arizona law) held that “the factfinder may take inflation into account in measuring damages for breach of contract where doing so will put the damaged party in as good a position as if the contract had been fully performed and will avoid an otherwise unjust result.” (See Safeco Ins. Co. of Am. v. Duckett, 1988.)

How these decisions or related opinions will impact a non-insurer dispute under Oregon law appears to be an open question. There is dictum from a recent Oregon Supreme Court decision that appears to acknowledge the relevance of inflation when evaluating certain types of damages (see Busch v. McInnis Waste Systems, Inc., 2020), but whether the court’s reasoning in Busch will translate to a commercial construction dispute remains to be seen.

Does prejudgment interest compensate for inflation?

The objective of compensatory damages is to put a plaintiff in a position the plaintiff would have occupied if no wrongful conduct had occurred. As many disputes are resolved years after the fact, prejudgment interest is one way to compensate a party for the time value of money. But whether prejudgment interest will also account for the effects of inflation will depend on the time period at issue.

In times of high inflation, prejudgment interest may be insufficient to fully compensate a party as most prejudgment interest statutes are not indexed to account for inflation. Parties to construction disputes, in particular, are cautioned not to assume the award of prejudgment interest is a foregone conclusion—even putting inflation aside. Construction disputes often involve damages for additional work, delayed work or changed work that are heavily contested in quantum, and often subject to expert disputes. Depending on the jurisdiction of a dispute, even successful claims may not generate an award of prejudgment interest (or may only produce a limited award of prejudgment interest), which during times of inflation can be particularly damaging to a company’s bottom line.

During volatile times like these, it is critical to stay informed and plan accordingly. Tools for monitoring construction cost trends (like the one at www.mortenson.com/cost-index) are great resources. It’s important for all construction project parties to keep inflation top of mind when evaluating their next dispute or negotiating their next contract.

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.

Unfair Risk Allocation on Design-Build Projects

Brian Perlberg | ConsensusDocs

The AGC annual convention included a session entitled “Who’s on the Hook for Design Defects in Design-Build Projects.” Fox Rothschild’s Dirk Haire, Les Synder of Infrastructure Construction Brightline West, and David Hecker of Kiewit presented. Attendees crowded into a standing-only room because more and more builders are facing design liability, especially design-builders on large infrastructure projects. The presentation highlighted how some owners abuse the submittal process on design-build jobs to make changes without compensating the builder with more time, money, or both. One project took a sample of owner comments and extrapolated that just one project generated over 15,000 submittals and generated over 110,000 comments of “concern” or “preference.”

Certain owner-representatives and attorneys for owners have oversold the risk allocation transfer aspect of design-build. The Spearin Doctrine protects a builder from design documents containing errors by entitling them to receive equitable compensation. The design-build project delivery method erodes potential Spearin protections. Ways that an owner may retain some design responsibility and bring Spearin protections back into play for a builder include the following:  

  • Accuracy of reports prepared by owner’s outside consultants
    • Owner’s design approval process
    • Viability of owner’s stated design and project criteria

The more an owner gives input and control on design, the more likely that Spearin compensation for design defects may apply to design-build projects. It is important to assess the RFP and contract language and determine if prescriptive or performance specifications are used. Prescriptive specifications set precise measurements, tolerances, materials, etc. Performance specifications leave the details to the design-builder. They set outcomes or “operational characteristics” that must be achieved but leave discretion on how to achieve such outcomes. Many design-build contracts combine both prescriptive and performance specifications. This further complicates liability for costs and delays caused by defective design.  Generally, an equitable adjustment will be determined by evaluating if the defective design element relates to the specification’s performance or prescriptive portion. 

Factors used to determine if the Spearin Doctrine applies may include:

  • Contract language and clauses
    • Discretion exercised by the design-builder
    • Circumstances surrounding the bidding (limitations on time and resources)
    • Discussions and negotiations
    • Owner reliance on design-builder’s representations and expertise
    • Prior course of dealings between parties and customs of the industry

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.

NDAs: What to Consider Before Signing on the Dotted Line

Jodie Clark McDougal | Fredrikson & Byron

Non-disclosure agreements (NDAs) are often part of the discussions my clients have surrounding a potential construction or real estate project to protect the confidential information regarding the project and proprietary information of the parties. A good NDA, among other things, clearly defines the scope of the NDA and obligations of the parties. Best practices dictate that one always has his or her attorney review a proposed NDA, and I have personally seen several clients sign unreasonable NDAs. There are numerous provisions to watch for when reviewing NDAs, including the ones noted below.

Definition/Exclusions: Parties should pay close attention to the definition of confidential/protected information, including what the definition includes and perhaps more importantly, what the definition excludes. Among other things, the exclusions should include publicly known information and information already known by the receiving party.

Use of the Information: Parties should ensure that they understand how the confidential information can be used, including if and how the information can be shared.

People With Whom Information Can be Shared: Parties should understand the people with whom the receiving party can share the protected information. For example, can the protected information be shared with all employees, or some? Can the protected information be shared with your attorney or accountant?

Also, some NDAs provide that the people with whom the information is shared must sign a separate NDA or other written acknowledgment of the NDA. Other NDAs do not have any such provision but instead provide that the people with whom the information is shared need to be told the NDA is in place and the information is protected by the NDA.

Term: Parties should ensure they understand the agreement term, which may be from a year to in perpetuity and consider whether the term is reasonable.

Remedies: Some NDAs contain a liquidated damages provision for breach of the NDA (e.g., if a party breaches the NDA, it is liable to the other party in the amount of $100K), while others do not. If the NDA includes a liquidated damages provision, the parties should consider whether such provision is truly necessary and reasonable in the situation.

Return/Destruction of Information: Parties should understand their obligations at the end of the transaction relating to the return or destruction of the information.

Mutual NDA: A party who receives a proposed NDA from another party should consider whether a mutual NDA would make sense. That is, is the receiving party also sharing any information that would be considered confidential information? If so, the NDA should be revised to be a mutually applicable NDA.

Employee Non-Solicitation: Parties should watch out for any employee non-solicitation provision, as some NDAs have employee non-solicitation provisions, and consider the reasonableness of such provisions.

Intellectual Property Ownership: Generally, NDAs should not transfer or change intellectual property ownership but should merely confirm it. For example, generally an NDA should not state that any jointly discussed confidential information becomes jointly owned by both parties.

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.

A Brief Discussion – Liquidating Agreements

Gerard J. Onorata | ConsensusDocs

During a construction project, it is not uncommon for disputes to arise between a general contractor and a subcontractor.  Frequently, these disputes involve claims for extra work and delay damages that can be attributed to the owner of the project due to deficient design or unforeseen conditions.  When these occasions arise, the parties can often resolve these claims without the need for litigation or arbitration by entering into a “liquidating agreement.

What is a Liquidating Agreement?

Because there is no direct contractual relationship between a subcontractor and an owner, there does not exist a legal basis for a subcontractor to assert a breach of contract claim against a project owner.  In legal parlance, this is known as “lack of contractual privity.”  A liquidating agreement bridges this contractual gap and allows a subcontractor to pass its claim against the owner through the general contractor.  Essentially, with a liquidating agreement, the general contractor acts as a conduit for passing through the subcontractor’s claim.

How the Courts Treat Liquidating Agreements

Liquidating agreements have traditionally been upheld by the New York courts, which have permitted a general contractor to prosecute a subcontractor’s claim against the owner.  There is no set form that a liquidating agreement has to take.  Some courts have recognized that a liquidating agreement can be comprised of several documents written over a period of time.  Nonetheless, it is important to note that a pass-through provision or a liquidating agreement is something that must be clearly spelled out in the parties’ contract or by a separate agreement.  A general incorporation by reference provision of the owner’s contract in the subcontract usually will be insufficient to establish a valid liquidating agreement.  Similarly, a provision in the subcontract that defers the general contractor’s obligation to pay until payment is received from the owner, (i.e., a “pay-when paid” or a “pay-if-paid” clause) also will likely not be deemed to be a valid liquidating agreement.  In order to be enforceable, the courts of New York have held that a liquidating agreement must:

  1. Impose liability upon a party (i.e., general contractor) for a third party’s; (i.e., subcontractor) increased cost, and provide the first party with a lawful basis for legal action against the party at fault (i.e., owner);
  2. Liquidation of liability in the amount of the first party’s (general contractor) recovery against the party at fault (owner); and
  3. A provision for the pass-through of that recovery to the third party (i.e., subcontractor).

When to Enter Into a Liquidating Agreement

“Pass-through provisions” which are similar to liquidating agreements can be included in the  subcontract at the time the parties enter into their agreement.  You may think of a “pass-through provision” as a mini liquidating agreement that typically is not as comprehensive as a stand-alone liquidating agreement.

Liquidating agreements are often entered into separate and apart from the subcontract after a dispute has arisen and there is the absence of a well-defined pass-through provision in the subcontract.  Including a pass-through provision in a subcontract and entering into a separate liquidating agreement with a subcontractor at a later point in time both have their pluses and minuses.  Having a pass-through provision agreed to early on in the parties’ relationship provides the general contractor with a certain amount of security and leverage with the subcontractor in the event that a dispute arises.  Conversely, the general contractor should recognize that it has now undertaken the responsibility to pass through the subcontractor’s claim to the project owner.  A subcontractor’s claim that is poorly documented or factually inaccurate may cause the owner to develop a poor opinion of any claim of the general contractor that may be submitted along with the subcontractor’s claim. 

These potential pitfalls could be avoided by waiting until a dispute arises before entering into a liquidating agreement.  In doing so, the general contractor will likely have a better understanding of the subcontractor’s claim and be able to make a more informed decision about whether to enter into a liquidating agreement.  On the other hand, by waiting to enter into a liquidating agreement, the subcontractor’s position may become so entrenched and the parties so adverse that forming a liquidating agreement becomes an impossibility.  Experience has demonstrated that a better course of action from a general contractor’s perspective is to have a comprehensive pass through provision in the subcontract that clearly identifies that the subcontractor’s recovery will be limited by whatever recovery the general contractor receives from the owner. 

Benefits of a Pass-Through or Liquidating Agreement

One of the chief benefits of entering into a liquidating agreement is that such agreements avoid a subcontractor’s dispute being litigated or arbitrated during the same time that a general contractor may be in a battle with the project owner.  The avoidance of having simultaneous suits  prevents the circumstance where a general contractor is taking a position with an owner that may negatively impact its position with a subcontractor, or vice versa.  By including the subcontractor’s claim with the claim of the general contractor as part of a liquidating agreement, the general contractor is maximizing or preserving the value of its claim, along with the value of the subcontractor’s claim.  Another added benefit of a liquidating agreement is that it defers resolution of any disputes with the subcontractor until disputes with the owner are resolved.  At the end of the day, a pass-through provision or liquidating agreement is one of the best tools for avoiding inconsistent results and conflicting liability with the subcontractor and the owner. 

Central Elements of a Liquidating Agreement

Liquidating agreements, like all other contracts, are subject to negotiations between the parties. In order for a liquidating agreement to adequately protect the interest of the general contractor, it should contain the following elements:

  1. It should state that the general contractor will pursue the subcontractor’s “reasonable” claims against the owner;
  2. The general contractor does not verify the subcontractor’s claim;
  3. The subcontractor will reasonably assist, at its own costs and expense, with its claim;
  4. The subcontractor will be bound by any determination that is binding upon the general contractor with respect to the subcontractor’s claim; or
  5. At the very least, the subcontractor will not commence suit or arbitration against the contractor until any dispute with the owner is resolved;
  6. Any suit or arbitration that the subcontractor is permitted to commence or has commenced will be stayed pending the resolution of the dispute with the owner;
  7. Any proceeds of any proceedings against the owner will be distributed between the contractor and the subcontractor on a basis that is set forth in the liquidating agreement; and
  8. The agreement should provide that the general contractor has the sole authority and discretion to settle the subcontractor’s claim.

Closing Thoughts

The importance of having a well written pass-through provision in a subcontract or separate stand-alone liquidating agreement in place with a subcontractor cannot be overstated.  While not a total guarantee that such agreement will prevent litigation with a subcontractor, they substantially reduce the likelihood of such disputes taking place.

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.