Narrow Appellate Court Ruling Excuses Project Contractor From Quitting Due to Partially Withheld Payments

Geoff F. Palachuk | Lane Powell

Every party to a contract must uphold the duty of good faith and fair dealing. But there is no free-floating duty under Washington law: the parties’ respective obligations must be tied to a particular contract provision. Division One of the Washington Court of Appeals recently determined that a project owner’s continued underpayment, if material, excused a general contractor from performance based on the duty of good faith and fair dealing. Materiality of the alleged breach remains the key to excusing performance.

In Lake Hills Investments, LLC v. Rushforth Construction Co., Inc., the court of appeals examined whether an owner’s continued underpayment could excuse a contractor from quitting the project. The owner (Lake Hills) had partially withheld payments from the contractor (AP) over several months on a construction project in Bellevue. The court of appeals considered whether such prior underpayment by Lake Hills could excuse AP’s decision to leave the job. With a narrow and fact-specific holding, the court determined AP could be excused for quitting.

AP argued that Lake Hills hindered and interfered with AP’s ability to perform its obligations under the contract, and that Lake Hills could not thereby assert a breach based on AP’s failure to perform. At trial, AP introduced evidence that Lake Hills withheld portions of payment, and AP proposed a jury instruction that would allow it to prove that interference or hindrance of AP’s work could excuse AP from performing. Only a prior material breach would typically excuse the other party’s failure to perform, and the court of appeals reaffirmed this principle by acknowledging “[t]he jury should have been instructed that only a material breach of the duty of good faith and fair dealing by Lake Hills could excuse performance by AP.” The thrust of the analysis is materiality of the alleged breach.

The court of appeals held the jury instruction misstated the law, omitting the word “material,” but the court also held that error was harmless because the jury entered a finding consistent with AP’s theory of the case. During trial, AP argued that Lake Hills engaged in underpayments to “starve” AP of financial resources and force AP off the project. The jury seemingly agreed, according to the court of appeals, because the jury awarded AP the majority of the sum sought for withheld payments. The court of appeals determined that the jury’s verdict was consistent with a finding of material breach, and the absence of the word “material” in the instruction was, therefore, harmless. The court took care to emphasize that its holding should be viewed narrowly, based on “the particular facts and arguments before the jury” and the “very particular facts presented” during trial.

The court’s holding nevertheless provides an important takeaway for owners and developers. Contractors often try to assert the duty of good faith and fair dealing to argue that any hindrance or interference with the contractor’s work is a breach sufficient to excuse performance. But that is not an accurate statement of the law. Only a material hindrance or material interference — under a specific term of the contract — will constitute breach. Ultimately, the court’s fact-specific analysis in Lake Hills does not change the law requiring materiality for an alleged breach, nor the law surrounding each party’s respective duty of good faith and fair dealing.

Not Just An Old Wives’ Tale: Negotiating “Paid In Full” Check Binds Contractor

Matthew DeVries | Best Practices Construction Law

Long before I was an attorney, I heard this tale that if you endorsed a check that had the words “PAID IN FULL” written on the check, then you were accepting the check as full payment of whatever was owed.  But I have never really thought about that legal principle because, “People don’t really do that, do they?”

In Triangle Construction Co. v. Fouches and Assoc., the Court of Appeals of Mississippi held that the PAID IN FULL principle—or what lawyers know as accord and satisfaction—barred a contractor’s claim for additional payment.

The Facts. The contractor won a bid to construct a water system in two local counties.  Following completion of the project, the contractor filed a claim against the owner and engineer for damages allegedly resulting from the negligence of the owner and engineer.

Upon completion of the project, the owner sent contractor a check marked “Final Payment,” but the check did not compensate the contractor for its increased construction costs as a result of the delays or for the extra-contractual project expansion. The contractor conceded that it cashed the check, but argued that it repeatedly asserted to the owner—including in a letter sent to then engineer—that it did not consider the “final payment” to be final and that it would continue seeking the remainder of what it was owed.

The Court’s Ruling. The court disagreed.  Under Mississippi law,  despite what the parties may argue was their intent, cashing a check marked “final payment” constitutes an accord-and-satisfaction agreement, which precludes that party from bringing future claims for additional payment. In Triangle Construction, the court held that the contractor’s claims against the engineer were barred by the doctrine of accord and satisfaction.

So What? The “paid in full” principle is not just an old wives’ tale.  Depending on your state’s law, if you negotiate a check that is marked “paid in full” or even “final payment” then you are risking the fact that you may be settling any claims you have.  If you are a contractor that seeks to reserve those claims, then don’t cash the check if it is marked with special language on it.

Federal Court Opinion Has Huge Impact on the Construction Industry

Wally Zimolong | False Claims Act

The United States District Court for the Eastern District of Pennsylvania in Philadelphia recently issued an opinion that should get the attention of any contractor or subcontractor performing work on a federal funded construction project. In U.S. ex rel IBEW Local 98 v. The Fairfield Company, the federal court held that a contractor on a SEPTA project could be held liable under the False Claims Act for failing to pay its workers under the Davis Bacon Act. The court found that liability was appropriate under the FCA even through the contractor did not knowingly violate the Davis Bacon Act.  The court awarded the plaintiff over $1,000,000 in damages and an additional over $1,000,000 in attorneys fees.

An Extremely Brief Primer on the FCA

A full discussion of the FCA is beyond the realm of this blog post and you could write a book on FCA cases.  But in a nutshell, the FCA prohibits a contractor from knowingly submitting a claim for payment to the federal government (or an entity receiving funding from the federal government,  like SEPTA) that is false. Importantly, knowingly does not equal actual knowledge of the falsity of the claim.  Rather, “reckless disregard of the truth or falsity” of the submission is sufficient. As explained below, this standard played an important role in the court’s decision and should give contractors performing work on federally funded projects pause.

The FCA is designed to ferret out fraud against the federal government.  In fact, its roots go back to the Civil War when Congress first passed legislation aimed at unscrupulous contractors supplying materials to the Union army. The FCA is a privateer statute in that it allows private individuals to initiate an FCA claim. The FCA incentivizes private individuals (and their lawyers) to bring FCA claims by allowing them to share in any recovery that the federal government makes.  That plaintiff in an FCA case is known as a relator (sometimes people refer to them as whistleblowers but relator is the legal term for an FCA plaintiff). Under FCA rules, the plaintiff – relator has to give the government the first crack at prosecuting an FCA claim.  If the Department of Justice declines to prosecute the FCA claim, the relator is still free to prosecute the claim on its own.

Finally, the FCA permits the award of trebel (triple) damages and attorneys fees, plus a statutory civil penalty of up to $10,000 per violation.

Again, there is much much more to the FCA than this. But hopefully this gives you a rough idea of what the FCA is.

The Fairfield Case

Fairfield had a contract with SEPTA (for anyone reading outside of the Pennsylvania area SEPTA is a regional transit authority and is an acronym for Southeastern Pennsylvania Transit Authority). Like all contracts, Fairfield’s contract required it to comply with all federal, state, and local laws. It also required Fairfield to comply with the Davis Bacon Act.

Everyone is familiar with the Davis Bacon Act. It requires contractors to pay prevailing wages to their employees when they are working on a federally funded construction project. But comply with the Act is not always simple. The Department of Labor issues wage rates for various classifications of employees. Employers are supposed to pay employees the wage rate that corresponds to the classification of work that is being performed. Where contractors run into trouble is when employees are misclassified. Sometimes this is innocent and a byproduct of the vagaries of each classification of employees.  The DOL does not provide precise definitions for each of its employee classification. Instead each classification is determined by the type of work that an employee is performing and the prevailing area standards of the classification of that employee’s work. Its confusing and sometimes an employee can be perform one classification of work with one wage rate and then perform a different classification of work with a higher wage rate. Other times it is not good-faith confusion that causes an employer to fail to comply with the Davis Bacon Act and a contractor blatantly fails to follow the classifications in paying its employees.

IBEW Local 98 brought an FCA against Fairfield alleging that Fairfield misclassified certain employees as groundmen and laborers, which were paid a lower rate, rather than journeymen, which received a higher wage rate under the Davis Bacon Act. Local 98 contended that Fairfield violated the FCA by submitting certified payroll reports with its payment applications which contained these misclassifications.

In sum (and I am condensing a lot , the opinion is over 30 pages), the court agreed with Local 98.  It found that Fairfield acted with reckless disregard for truth or falsity of it certified payroll.  It founds that accurate certified payroll is a material part of SEPTA’s payment process. And it found Fairfield liable for $1,055,320.62 in damages of which $316,596 went to Local 98 as a reward for bringing the action and the remaining $738,724.43 to the United States. The court also awarded Local 98 attorneys fees and costs, which it later determined to be over $1,000,000.

What it means

There are numerous important takeaways from this case.  I am going to hit what I think are the top 4.

1. Violating the Davis Bacon Act can serve as the basis for an FCA claim.

Probably the most important takeway is that  the court ruled that a violation of the Davis Bacon Act could serve as a basis for an FCA violation. This means strict compliance with the Davis Bacon Act is critical. In recent years, organized labor has brought FCA cases against non-union contractors based on alleged Davis Bacon Act violations. Interestingly, Fairfield appeared to be a union contractor with a CBA with a competing IBEW Local. This means union contractors are not immune to similar suits.

2. Quality control is key.

Fairfield did not simply ignore the Davis Bacon Act. Rather, the court found that it basically lacked any quality control regarding how employees were classified for payment purposes. Fairfield’s on site foreman assigned work and decided how employees should be classified. The court found this was not enough.  Contractors already struggle to properly classify employees under the Davis Bacon Act in many cases.  That difficult task just became way more important.

3. A DOL audit is no defense.

The court found that Fairfield acted with reckless disregard even though the DOL had conducted an audit and found no wage violations.   But the court said that a clear DOL audit was only evidence of compliance with the Davis Bacon Act.  It was not conclusive as a matter of law. This ruling will no doubt be the basis for an appeal.

4. Little things turn into big things.

The court found that Fairfield’s underpayment of wages was not rife. It found an underpayment of $159,273.54 in wages which represented only 13.5% of the hours worked on the project. So, how did an underpayment of about $160,000 turn into a judgment in excess of $2,000,000? Because of the FCA penalty provisions. As stated above, the FCA allows for trebel damages. So the court first permitted the $159,273.54 to be multiplied by 3 or $477,820.62. Next the court determined that each incorrect certified payroll was a FCA violation. It determined that the statutory penalty for each violation should be $5500. And it found that Fairfield had submitted 105 incorrect certified payrolls. So it imposed an additional amount of $577,500 ($5500 x 105) in statutory penalties. Finally, the Court awarded Local 98 attorneys fees and costs, which it determined to be over $1,000,000.

So, a lack of quality control that resulted in underpayment of wages on 13.5% rapidly led to a damage award of over $2,000,000.

Again, there is much more to this decision and its implication that I cannot cover in a blog post. If anyone has any questions, please feel free to contact me. I am currently at how in lockdown reading obscure case law regarding the FCA in between homeschooling my kids.

So, You Have a Judgment Against a California Contractor or Subcontractor. What Next? How Can I Enforce Payment?

William L. Porter | Porter Law Group

The Contractors’ State License Board (“CSLB”) represents the interests of the public in California construction matters. In the field of California construction, the CSLB is all powerful. The agency has the right to suspend the license of any contractor or subcontractor who does not pay on a construction related judgment against it. If you are successful in obtaining a court judgment against a contractor or a subcontractor in a construction-related case, you can utilize the services of the CSLB to suspend the contractors’ license of that contractor or subcontractor until the judgment has been paid. Once the license is suspended, the contractor or subcontractor has no legal right to work as a contractor or subcontractor and can even be arrested for doing so. Details on using the CSLB to suspend the license of a contractor or subcontractor who has a construction-related judgment against it can be accessed at this particular CSLB link: CSLB – Judgment .

On receipt of notice of the construction-related judgment, the CSLB will either suspend the contractors’ license of any contractor or subcontractor who does not pay on the judgment or who does not appeal the judgment to the Court of Appeals or file bankruptcy within 90 days. There also exists an opportunity for the licensed debtor to file a bond with the CSLB. The bond will either have to be renewed annually or the judgment paid, whichever comes first.

The ability of a creditor to suspend the license of a contractor or subcontractor due to a construction-related judgment is invaluable. Any contractor or subcontractor who performs any work at all on a construction project while its license is suspended is subject to the very heavy penalty of “disgorgement” (for more info on disgorgement, see this article: California – Disgorgement).

For details on the law which allows judgment creditors to use the services of the CSLB to suspend the license of the contractor who has a construction-related judgment against it, see California Business and Professions Code section 7071.17 (amended, January 1, 2020), quoted here in full:

California Business and Professions Code Sec. 7071.17.  

(a) Notwithstanding any other provision of law, the board shall require, as a condition precedent to accepting an application for licensure, renewal, reinstatement, or to change officers or other personnel of record, that an applicant, previously found to have failed or refused to pay a contractor, subcontractor, consumer, materials supplier, or employee based on an unsatisfied final judgment, file or have on file with the board a bond sufficient to guarantee payment of an amount equal to the unsatisfied final judgment or judgments. The applicant shall have 90 days from the date of notification by the board to file the bond or the application shall become void and the applicant shall reapply for issuance, reinstatement, or reactivation of a license. The board may not issue, reinstate, or reactivate a license until the bond is filed with the board. The bond required by this section is in addition to the contractor’s bond. The bond shall be on file for a minimum of one year, after which the bond may be removed by submitting proof of satisfaction of all debts. The applicant may provide the board with a notarized copy of any accord, reached with any individual holding an unsatisfied final judgment, to satisfy a debt in lieu of filing the bond. The board shall include on the license application for issuance, reinstatement, or reactivation, a statement, to be made under penalty of perjury, as to whether there are any unsatisfied judgments against the applicant on behalf of contractors, subcontractors, consumers, materials suppliers, or the applicant’s employees. Notwithstanding any other provision of law, if it is found that the applicant falsified the statement then the license will be retroactively suspended to the date of issuance and the license will stay suspended until the bond, satisfaction of judgment, or notarized copy of any accord applicable under this section is filed.

(b) (1) Notwithstanding any other provision of law, all licensees shall notify the registrar in writing of any unsatisfied final judgment imposed on the licensee. If the licensee fails to notify the registrar in writing within 90 days, the license shall be automatically suspended on the date that the registrar is informed, or is made aware of the unsatisfied final judgment.

(2) The suspension shall not be removed until proof of satisfaction of the judgment, or in lieu thereof, a notarized copy of an accord is submitted to the registrar.

(3) If the licensee notifies the registrar in writing within 90 days of the imposition of any unsatisfied final judgment, the licensee shall, as a condition to the continual maintenance of the license, file or have on file with the board a bond sufficient to guarantee payment of an amount equal to all unsatisfied judgments applicable under this section.

(4) The licensee has 90 days from date of notification by the board to file the bond or at the end of the 90 days the license shall be automatically suspended. In lieu of filing the bond required by this section, the licensee may provide the board with a notarized copy of any accord reached with any individual holding an unsatisfied final judgment.

(c) By operation of law, failure to maintain the bond or failure to abide by the accord shall result in the automatic suspension of any license to which this section applies.

(d) A license that is suspended for failure to comply with the provisions of this section can only be reinstated when proof of satisfaction of all debts is made, or when a notarized copy of an accord has been filed as set forth under this section.

(e) This section applies only with respect to an unsatisfied final judgment that is substantially related to the construction activities of a licensee licensed under this chapter, or to the qualifications, functions, or duties of the license.

(f) Except as otherwise provided, this section shall not apply to an applicant or licensee when the financial obligation covered by this section has been discharged in a bankruptcy proceeding.

(g) Except as otherwise provided, the bond shall remain in full force in the amount posted until the entire debt is satisfied. If, at the time of renewal, the licensee submits proof of partial satisfaction of the financial obligations covered by this section, the board may authorize the bond to be reduced to the amount of the unsatisfied portion of the outstanding judgment. When the licensee submits proof of satisfaction of all debts, the bond requirement may be removed.

(h) The board shall take the actions required by this section upon notification by any party having knowledge of the outstanding judgment upon a showing of proof of the judgment.

(i) For the purposes of this section, the term “judgment” also includes any final arbitration award where the time to file a petition for a trial de novo or a petition to vacate or correct the arbitration award has expired, and no petition is pending.

(j) (1) If a judgment is entered against a licensee or any personnel of record of a licensee, then a qualifying person or personnel of record of the licensee at the time of the activities on which the judgment is based shall be automatically prohibited from serving as a qualifying individual or other personnel of record on any license until the judgment is satisfied.

(2) The prohibition described in paragraph (1) shall cause the license of any other existing renewable licensed entity with any of the same personnel of record as the judgment debtor licensee or with any of the same judgment debtor personnel to be suspended until the license of the judgment debtor is reinstated, the judgment is satisfied, or until those same personnel of record disassociate themselves from the renewable licensed entity.

(k) For purposes of this section, lawful money or cashier’s check deposited pursuant to paragraph (1) of subdivision (a) of Section 995.710 of the Code of Civil Procedure, may be submitted in lieu of the bond.

(l) Notwithstanding subdivision (f), the failure of a licensee to notify the registrar of an unsatisfied final judgment in accordance with this section is cause for disciplinary action.

(Amended by Stats. 2019, Ch. 378, Sec. 7. (SB 610) Effective January 1, 2020.)

The lesson for contractors and subcontractors is clear. If you have a construction-related judgment against you, be sure to resolve it as soon as is possible. If you do not, then you may find your license and your ability to earn a living in the construction industry suspended by a powerful government agency. The invitation to construction creditors is also clear. If you have a construction-related judgment against a contractor or subcontractor, you have a very powerful tool at your disposal. The CSLB is that tool. They can take steps which will either get you paid or put the contractor or subcontractor out of business.

Contractor Can’t Blame Inspector Who Failed to Note Non-Compliant Work

Stanley A. Martin | Commonsense Construction Law

An electrical contractor was supposed to run power cables through conduit, but elected on its own to run about 40% of the power cable with flexible metal-clad (MC) cable, without conduit. For a large portion of the project, Army Corps of Engineers inspectors made no comment about use of the MC cable. But then an electrical inspector for the Corps visited the site, and directed removal and replacement of the MC cable.

The contractor made a claim for $415,120 in additional costs of this work, which was denied by the contracting officer.

The contractor’s first argument on appeal, that the contract was ambiguous, failed. The Armed Services Board of Contract Appeals held that the specifications clearly required use of conduit for power cable.

The second argument is that the Corps should have noticed the use of MC cable. Thus, its failure to stop the contractor was either a signal that the Corps agreed with the contractor’s interpretation of the specs, or else that the Corps had waived the contract requirements.

The Corps’ failure to note the improper installation until the project was nearing completion, per the ASBCA, was “troubling, to say the least.” But it was the contractor’s obligation to meet the specs in the first instance. And “absent affirmative misconduct,” the Corps’ failure to note the improper installation did not bar the Corps from later demanding removal and replacement of the improper material.

This outcome is consistent with standard contract language. Common contract templates provide that the owner’s or architect/engineer’s failure to identify non-compliant work is no excuse for a contractor who has failed to properly perform the work. See, e.g., AIA A201-2017 § 9.6.6 (payment does not constitute approval of non-conforming work), and § 13.3.2 (no act or failure to act of owner or architect shall mean approval of improper work).

This confirms what contractors should expect: failure of an inspector to identify improper work does not let the contractor off the hook. The case is Appeal of Watts Constructors, LLC, ASBCA No. 61493 (Mar. 19, 2020).