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Mechanic's
Liens and Stop Notices
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A. |
Mechanic's
Liens |
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1. |
Mechanic's
lien law is purely statutory, and every state
has a mechanic's lien statute. The fundamental
purpose is an equitable one: If a contractor improves
an owner's property, to prevent the unjust enrichment
of the owner, the contractor should have a lien
on the property until paid. |
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2. |
Since
subcontractors and material suppliers also have
lien rights, a problem arises. An owner who has
already paid the contractor can catch a lien from
a subcontractor or supplier. This is the "double
payment" problem. |
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3. |
The
ultimate end result of the foreclosure of a mechanic's
lien is for the sheriff to sell the owner's property
at public auction and use the proceeds of the
sale to pay off the lien. |
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4. |
The
best protection for the owner is a qualified,
experienced and financially sound contractor.
It is the prime contractor who protects the
job against liens.
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a. |
Payment
bond also protects owner. |
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b. |
Owner
also may protect the job by carefully processing
progress payments so that no payment is
made to the prime contractor until potential
lien claimants have been identified and
paid. To process progress payments in such
a way requires highly trained personnel. |
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5. |
Most
lien statutes include notice provisions, relatively
short deadlines, statutes of limitations and documents
that can be recorded by owners to cut down the
period for recording liens. Owner may tender the
defense of a mechanic's lien foreclosure suit
to the prime contractor for defense, but care
is required. The owner may find the contractor's
interests are more aligned with those of the claimant
than with those of the owner. |
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B. |
Stop
notices. A stop notice is ancillary to the mechanic's
lien remedy. It enables claimants, usually subcontractors
and suppliers, to attach construction funds in the hands
of project owner or construction lender. The owner or
lender must withhold the funds from the prime contractor
pending resolution of the claim in court. |
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1. |
In most states mechanic's liens are not allowed
on public property, and, therefore, the stop notice
substitutes for the mechanic's lien remedy on
public jobs. |
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2. |
On
private jobs, the stop notice and the mechanic's
lien remedies may be asserted at the same time.
Stop notice usually is considered to be more
effective and in most situations, it is. Well-advised
claimants pursue both remedies at the same time.
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C. |
Payment
bonds. The payment bond remedy also protects claimants
who have mechanic's lien and stop notice rights. Payment
bonds usually are in place on all public jobs and large
private projects. They usually are not provided on smaller
projects. Payment bond surety undertakes that all parties
who have mechanic's lien and stop notice rights will
be paid in full. |
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D. |
Self
help. Owners, contractors and potential claimants
need to understand lien, stop notice and payment bond
laws in states where they operate. The mechanic's lien
statutes for all states are available in a single book.
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Construction
Contract Bonding
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A. |
Performance
bond. The surety undertakes that the principal (usually
a contractor or a subcontractor) will perform the contract.
(Performance bonds are usually held to cover contractual
warranties and may apply to construction defects discovered
many years after completion of the project.) |
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1. |
Claims
against the bond. There is no specific format
for making claims against a performance bond.
The best policy is to promptly inform the surety
in writing, with adequate backup. |
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2. |
Position
of surety. The surety will refer a claim to
the principal (the contractor). If the contractor
disputes the claim, the surety is caught in the
middle. |
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a. |
For
obvious reasons, the surety is likely to
favor the contractor's version. This is
because if it pays a claim over the contractor's
objection, it will have to sue the contractor
for reimbursement. |
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b. |
When
the surety denies a claim, the owner will
find itself fighting both the contractor
and the surety. |
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B. |
Indemnity
agreements. Surety will have required the principal
or its officers and directors to sign agreements to
indemnify the surety against loss and expense. The surety,
therefore, will look to the principal or its officers
and directors to reimburse any loss. The surety, thus,
is motivated to cultivate a good relationship with them.
So, the surety's natural desire to curry favor with
the indemnitors creates conflicts of interest with the
owner. |
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C. |
Bonding
requirements. Performance and payment bonds are
required on all public jobs and on most major private
projects. For smaller projects, they are seldom required.
Smaller contractors do not have the bonding capacity,
and many owners resist incurring the expense of paying
the bond premium. |
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D. |
Taking
over the job. If contractor defaults, there are
three basic alternatives for the surety. |
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1. |
Surety
finances the contractor to finish the job. |
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2. |
Surety
employs a new contractor to finish the job.
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3. |
Owner
employs a new contractor to finish the job and
claims reimbursement from the surety. |
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E. |
Strategic
considerations from the standpoint of the surety: |
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1. |
If
the owner finishes the job using a replacement
contractor, maximum liability is the penalty amount
of the bond; if we take over the job or finance
the contractor, we "blow the bond penalty." |
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2. |
If
we finance the job or if we take over the job
and use the same contractor to finish it, we
save the expense of orienting a new contractor
to the job.
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3. |
If we let the owner finish the job, we lose control
of costs. |
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F. |
Strategic
considerations from the owner's point of view: |
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1. |
We
don't want the same contractor: he is a proven
incompetent. |
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2. |
If
we finish the job ourselves, we'll probably
have to sue the surety for a settlement.
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3. |
If the surety employs a fresh contractor, it may
turn out to be a stooge for the defaulted contractor.
Any fresh contractor will take time to mobilize
and may try to cheapen the job. |
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G. |
Bad
faith. In some states, sureties may be liable for
punitive damages for bad faith in processing claims. |
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H. |
Provisions
of the bond. As a general rule, owner should carefully
scrutinize bond provisions because most of them will
be loopholes for the bonding company. Owner should not
accept such provisions. |
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I. |
Reports
to surety. Performance bond sureties usually have
a form letter by which they request monthly reports
from owner. Owner should have a policy not to respond.
If owner criticizes contractor, contractor may claim
defamation; if owner fails to criticize contractor,
surety may claim waiver. Owner should be diligent in
reporting actual problems to the surety but not necessarily
as a response to a form letter inquiry. |
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J. |
Surrendering
the bond. A year or two after completion of job,
the contractor may request that the owner surrender
(or release) the bond, pleading that the contractor's
bonding capacity is reduced as long as the bond remains
open. Owner should never release the bond. |
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K. |
Payment
bonds. The purpose of a payment bond is to protect
an owner against mechanic's lien and stop notice claims. |
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1. |
The
surety agrees to see to it that subcontractors,
material suppliers and others who could assert
mechanic's lien or stop notice claims on the project
will be paid. |
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2. |
Here,
the obligee is not only the owner. Potential
mechanic's lien and stop notice claimants also
are obligees. They make their claims directly
against the bonding company.
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