Wednesday, November 26, 2008

Green Tax Relief

The Energy Policy Act of 2005 (26 U.S.C. § 179D) created a tax incentive to improve energy efficiency of commercial buildings (this tax incentive was extended through 2013 as part of the Emergency Economic Stabilization Act of 2008, a/k/a "The Banking Bailout"). The "Commercial Building Tax Deduction" established a tax deduction for expenses incurred for energy efficient building expenditures made by the building owner. The deduction is equal to energy-efficient commercial building expenditures made by the taxpayer, subject to a cap of $1.80 per square foot.

The tax credit applies to "energy efficient commercial building property." But what exactly does that term mean? It means property–

1) for which depreciation is allowable;
2) installed on or in any building in the US and within the scope of ASHRAE Standard 90.1-2001;
3) which is installed as part of the interior lighting systems; the heating, cooling, ventilation, and hot water systems; or the building envelope; and
4) which is certified as being installed as part of a plan designed to reduce the total annual energy and power costs with respect to the aforementioned building systems by 50% or more (in comparison to a reference building which meets the minimum requirements of ASHRAE .Standard 90.1-2001.

Certification requirements must be met to qualify for these deductions. The secretary of the treasury, in consultation with the secretary of the secretary of energy, provided guidance in Notice 2006-52 that describes methods of calculating and verifying energy and power costs, using qualified computer software based on provisions of the 2005 California Nonresidential Alternative Calculation Method Approval Manual and the 2005 California Residential Alternative Method Approval Manual. Inspections must be performed by engineers or licensed contractors, and they must meet the guidelines of the National Renewable Energy Laboratory.

Partial deductions are available for buildings that do not meet the whole building requirement of 50% energy savings. The deduction is allowed with respect to each separate building system that comprises the energy-efficient property. For these "component deductions," the requirements are as follows: 20% savings for interior lighting, 20% savings for HVAC and hot water, and 10% savings for building envelope. The maximum allowable deduction for the separate systems is $.60 per square foot.

Other notable features about the Commercial Building Tax Deduction:
  • Churches are not eligible for the deduction.
  • Portions of buildings (e.g. common areas, portions of common areas, etc.) can be retrofitted and the associated square footage considered for the deduction.
  • Screw-in compact fluorescent lamps (CFLs) cannot be used to reduce wattage for purposes of the deduction. ASHRAE 90.1-2001 lighting power calculations require maximum labeled wattage of incandescent luminaire be used.

Anyone who has even considered designing or constructing a "green" building knows that the associated costs are much higher than a traditional build. However, the Commercial Building Tax Deduction at least mitigates some of that cost and makes it a little easier to be green.

Friday, November 21, 2008

LEED To Be Upgraded in 2009

In 2000, the US Green Building Council (USGBC) introduced the LEED Green Building Rating System. For the last 8 years, the LEED system has established a set of integrated, measurable goals that guided how eco-conscious buildings were to be designed and constructed.

LEED v3, which will go into effect in 2009, will bring about several significant changes to the green building rating system, and it will have several components. The updated technical standards will be codified in LEED 2009. This was not intended to be a "tear down and rebuilt" of the current LEED system, but rather, a reorganization of the existing system. The USGBC has characterized LEED 2009 as the sum of four parts:

1. LEED prerequisite/credit alignment and harmonization
2. Predictable development cycle
3. Transparent environmental/human impact credit weighting
4. Regionalization

The second part of LEED v3 is an expanded third-party certification program. Currently, all LEED project submissions are reviewed by USGBC with the support of independently contracted reviewers. Beginning in January 2009, however, the USGBC will move administration of the LEED certification process to the Green Building Certification Institute, a non-profit organization established in 2007. This reorganization was done to improve the overall certification process in way that can grow with the demand for green building certification. The other goal was to establish third-party certification that can be audited to determine effectiveness and fairness.

The third part of LEED v3 is the LEED Online management system, which should hopefully make the legwork part of all-things-LEED a little easier.

With 8 years of growing pains out of the way, and over 7,000 comments on LEED 2009, hopefully the USGBC has developed a good sense of what works and what doesn’t. All in all, LEED v3 should be an enhanced, more workable version of what was started in 2000.

Monday, November 3, 2008

Liquidated Damages: Be Sure You Get What You Bargained For

At some point in the life of every construction business, a project will not go as planned. For whatever reason, the project just does not unfold as it was originally designed. Maybe it was because another contractor had to repair its own mistake, maybe it was bad weather, or maybe the work was just slower than what was initially estimated. Despite best efforts, the original schedules become a thing of distant memory.

Anyone who has been in this situation knows that it does not take long before the finger pointing begins, which is quickly followed by damage claims related to the delays. However, delay damages can be very difficult to quantify and calculate. Some elements may be fairly concrete, such as rents lost due to a building opening 90 days late. Other elements are more nebulous, like the value of the extra time office employees spent working on the project (extended home office overhead), lost opportunities of other projects, etc.

One solution to some of the uncertainty of delay damages is the inclusion of a liquidated damages clause in the construction contract. In a nutshell, liquidated damages clauses provide that the non-breaching party is entitled to a certain amount of damages if specified conditions are not met. Probably the most common example is a provision that awards one party a certain dollar figure per day a project is late in completion.

Like so many other provisions, liquidated damages clauses are deal points that are negotiated. If you worked to get a liquidated damage clause included in your contract, you certainly want to be sure it is enforceable.

To be valid, a liquidated damages clause must satisfy a two-part test. First, the damages covered by the clause should be incapable or difficult to estimate at the time of the contracting. Second, the liquidated amount must be a reasonable calculation of expected damages. The key is that a liquidated damages clause must not be a penalty. For example, a provision that provides $5,000 per day that a project is late, when the actual amount of damages relating to the delay is closer to $500, is likely to be struck down. The clause does not provide a reasonable substitute for actual damages but rather, it acts as a penalty.

A liquidated damages clause that is considered a penalty is not enforceable. In other words, that heavy handed damages clause that you traded some deal points to have included in the contract may be worthless.

These clauses can be particularly powerful when used in combination with a provision that specifically states that liquidated damages are the exclusive remedy available for breach of the contract. This essentially eliminates the possibility of recovering consequential damages. From the owner’s perspective, this could create a higher per day amount. From the contractor’s perspective, it provides some limitation on potential liability.

In any event, liquidated damages clauses should be as specific as possible to prevent confusion down the road. If damages are to accrue on workdays only, language to that effect should be included. Conversely, if weekends and holidays are to be included in the damage calculation, that should be explicitly stated. Ambiguity can cost you. Considering the fact that there are around 100 weekend days in a year, not to mention holidays, a twelve month delay could potentially increase (or decrease) damages by almost a third.

Liquidated damages clauses are an effective way to remove some of the uncertainty related to construction delay claims. The specific details are negotiable, but they need to be a reasonable estimate of difficult-to-calculate damages. Should the dispute go to litigation, these clauses can lower expenses incurred in determining the exact amount of damages related to the delay. However, these clauses may also be the sole remedy should a construction project go bad. The specifics of each contract will determine whether a liquidated damages provision is appropriate, but it is always a good item to have in your negotiation toolbox.

Thursday, October 23, 2008

Catastrophe Struck--Now What?

We all know that construction can be a dangerous business. Safety is one of the biggest issues any construction business deals with, and rightfully so. Unfortunately, in spite of the best safety programs, training, and precautionary measures, accidents still do happen. And sometimes, they are catastrophic. What do you do when you get the call that one of your employees has been badly injured or, even worse, killed?

First and foremost, the immediate welfare of your employee should take priority. Get them the immediate medical attention they need; when in doubt, error on the side of caution. Then alert their family so that the employee’s loved ones can get involved in the medical decision-making.

"Ok," you say, "my team member has been taken to the hospital. What do I need to be doing back at the job site?" Make sure that the site does not pose a continuing threat to anyone else. You’ve already had one injury, you certainly don’t want more. If it may take some time to determine whether the premises remains hazardous, limit access to the area until you’ve determined the threat is gone.

At this point of the situation, assuming that the employees health is being tended to and the job site no longer poses a danger, it is important to start documenting what happened. Find witnesses, get their account of what happened, and write down their contact information. Take photos of the accident scene; this is the only chance you will have to capture the image of what it looked like at the time of the accident. If your company has a policy in place about creating incident/accident reports, work through that protocol. Memories fade, and no one will ever have a better account of what happened than immediately after the event. Keep in mind, however, that the products of your investigation may be discoverable if litigation ensues.

Hopefully, your documentation began long before the accident. Your company should have a safety plan in effect, and you should have been following it. You also should have some documentation that your employees followed the safety protocol.

"Whew, I’ve taken the immediate response actions, and now I’m gong to head back to the office to catch my breath," you utter after a long day (or night). You plop down in your chair at your desk and then it hits you – things have only just begun. Time to start making phone calls. If the injured person was an employee, your workers comp carrier should be immediately notified of the accident. You should also call your commercial general liability (CGL) carrier as well and advise them of the incident. Depending on the nature of the accident, you may be required to notify OSHA as well.

You should also contact your legal counsel as soon as possible. If there is a fatality, they should be one of the first calls you make. The reality of today’s business climate is that there is a good chance that catastrophic (and even some non-catastrophic) accidents will result in litigation, particularly if the injured person is a non-employee (workers comp statutes provides some relief from lawsuits for employers when their own employees are injured). Because of this fact, you have certain duties to preserve evidence. You should preserve photos, witness statements, accident reports, documentation done surrounding the accident, written policies and procedures...the list could go on. In a nutshell, if the materials (including computer files and e-mails) have any relevance, they should be preserved. This may sound like common sense, but the penalties can be stiff if litigation arises and relevant materials have been altered or destroyed.

The best way to handle catastrophic accidents is to prevent them. The reality, however, is that at some point you will probably have to deal with one. This doesn’t represent an exhaustive list of everything that needs to be done, but it is a good start. By taking the proper steps, both before and after the incident, hopefully you will be able to keep the catastrophic accident from becoming a catastrophic liability for your company.

Monday, October 6, 2008

Indemnity Agreements: What you see (and say) isn’t always what you get

During construction contract negotiations, indemnity agreements tend to be viewed one of two ways. One approach is that they are a critical component that serves to protect the indemnitee and limit liability related to the contract. The other approach is, "eeh, whatever."

The attitudes towards indemnity agreements change drastically on the back end, though. I can tell you that, as an attorney, the first thing I look at when analyzing a construction dispute is the contract that governs the relationship between the parties. And within the contract, I go straight to the indemnity agreement (if there is one) to see if someone else is going to be financially responsible for my client’s liability, including any settlement or judgment.

Like so many other items, indemnity agreements are deal points to be negotiated. However, I personally believe that if you can receive indemnity protection without having to give up too much in return, it is a good idea to ask for it because it can serve as an effective limitation of your liability. In some instances, it may even be worth giving up quite a bit to receive that protection.

Indemnity clauses are a little tricky, though, and if you don’t word yours properly, it can be worthless. A simple, yet important, general rule of contract law is that contracts should be interpreted consistent with a plain reading of the text. In other words, a contract says what it means and means what it says. Indemnity clauses are an exception to this general rule. What may look like a valid, clear indemnity provision may not satisfy the requirements imposed by Texas law.

Texas (among many other states) has adopted the "express negligence doctrine." See Ethyl Corp. v. Daniel Constr. Co., 725 S.W.2d 705 (Tex. 1987). The express negligence doctrine provides that parties seeking to indemnify the indemnitee from the consequences of its own negligence must express that intent in specific terms. Under the doctrine of express negligence, the intent of the parties must be specifically stated within the four corners of the contract.

"Great," you say, "but what does that actually mean?" In a nutshell, it means that to be covered by an indemnity agreement, that provision must explicitly state that it includes indemnification for the indemnitee’s own negligence.

Let me illustrate by showing you what not to do. In Ethyl, the owner was sued by an employee of a contractor for injuries related to the owner’s and the contractor’s negligence. The owner sought indemnity from the contractor pursuant to the following provision in their contract:

Contractor shall indemnify and hold Owner harmless against any loss or damage to persons or property as a result of operations growing out of the performance of this contract and caused by the negligence or carelessness of Contractor, Contractor’s employees, Subcontractors, and agents or licensees.
The Texas Supreme Court ruled that this provision did not provide indemnity to the owner for the owner’s own negligence. Because the injured employee asserted negligence against both the owner and the contractor, and the indemnity provision did not provide indemnity to the owner for its own negligence, the owner was not entitled to indemnity from the contractor. The Court stated that "indemnitees seeking indemnity for the consequences of their own negligence which proximately causes injury jointly and concurrently with the indemnitor’s negligence must also meet the express negligence test."

So how do you create a valid indemnity agreement? First, I would recommend working with an attorney on your specific contract, as the difference between a valid and invalid indemnity clause could be thousands, and even millions of dollars. Second, be sure your contract can pass the express negligence test. Include explicit wording that the indemnity extends to cover the negligence of indemnitee. This language may be a harder sell in contract negotiations, but without it, your indemnity agreement may be unenforceable.

Thursday, September 25, 2008

Warranty Claims, Attorney’s Fees, and You

Most transactions have some sort of cost associated with them. The bank charges $2 to use its ATM. Your financial advisor charges his fee to execute your stock trade. Your lender charges interest for the immediate use of its capital to fund your project.

When it comes to breach of warranty claims, those transaction costs often appear in the form of attorney’s fees, and they can frequently be the tail that wags the dog. Texas has strict limitations on when attorney’s fees are recoverable. Generally speaking, they are only recoverable when specifically allowed by statute or if the claim falls into one of eight defined categories:

1) rendered services;
2) performed labor;
3) furnished material;
4) freight or express overcharges;
5) lost or damaged freight or express;
6) killed or injured stock;
7) a sworn account
8) an oral or written contract

Noticeably missing from this list is breach of warranty. "Are you telling me," you ask, "that if I have to file a lawsuit because the widgets I bought and installed into the Taj Mahal II failed, and I WIN, I’m still going to be out my attorney’s fees???" Maybe, but you’re in a better position than you would have been a year ago.

Attorney’s fees have typically been non-recoverable in breach of warranty claims, so lawyers got creative to find other bases to receive them. One of the more common ways has been to bring claims based on consumer protection statutes (most notably, the Deceptive Trade Practices Act, or "DTPA"). The DTPA, which includes breaches of warranty within its scope, does allow for recovery of attorney’s fees.

Not every would-be plaintiff, however, qualifies for the protections created by the DTPA. For example, businesses with assets greater than $25 million are excluded. Does that mean that larger companies cannot recover their attorney’s fees while smaller companies can, even under the same facts? Until recently, that was probably the case.

Earlier this year, the Texas Supreme Court shook things up with the Medical City Dallas, Ltd. v. Carlisle Corporation case. 251 S.W.3d 55 (Tex. 2008). The court ruled that attorney’s fees are recoverable for claims of breach of an express warranty. The reasoning behind this decision was that breaches of express warranties sound in contract, and attorney’s fees are recoverable for a breach of contract. The court did not address whether attorney’s fees were recoverable for breach of implied warranties.

What does all this mean for you? First, it means that your transaction costs for bringing a claim for breach of warranty may have just gone down. But it also means that best practices dictate that you get that warranty written down. The law is still fuzzy on whether attorneys’ fees are recoverable for implied warranties, so make sure the warranty you get is express.

Friday, September 19, 2008

The Birth of a Contract

The construction industry is driven, to a large degree, by contracts (just consider the name "contractor"). The AIA has its standard forms, and many companies have their own models that they prefer to use. But when is a contract formally created? Does it happen with a handshake? What about when forms get faxed back and forth, with each new round creating new modifications to the terms?

Generally speaking, a valid contract is formed when an offer is made, it is accepted, and there is a meeting of the minds. There is no acceptance when there is an attempt to change or qualify the terms of the offer. If there is such an attempt, the offer is rejected. A purported acceptance that adds conditions not contained in the offer is not actually an acceptance–it is a rejection of the offer. Additionally, a qualified or conditional response to an offer does not create a contract because there is no meeting of the minds. This is actually a counter-offer.

A counter-offer must be accepted by the party who made the original offer to constitute a contract. An acceptance takes effect only when the acceptance is communicated to the offeror. When an offeror/counter-offeror does not specify the manner of acceptance, the offeror impliedly authorizes acceptance by the same manner used to present the offer.

Meeting of the minds, or mutual assent, is the essence of a contract, and it is judged objectively on the basis of what the parties actually said and did.

"OK, that sounds like a bunch of legalese," you say, "and I’m still not sure when a contract is formed when I’m going back and forth with the owner/general/sub."

The Texas Supreme Court has provided some guidance, and the case of Capital Bank v. American Eyewear is instructive. That case involved a question of whether a lease was valid and contained an acceptance of an offer. The plaintiff, American Eyewear, prepared a proposed lease and submitted it to the Bank. The Bank’s president then made several changes in the document, signed and delivered it. An officer of American Eyewear then, in turn, initialed the changes made by the Bank’s president, but made three additional changes before signing the document. The court held that when American Eyewear made changes in the lease form executed by the Bank and sent it back to the Bank, that action acted as a counter offer, which was not binding on the Bank without the Bank’s acceptance of the counter offer.

These are some basic guidelines, but the actual formation of a contract is a very fact driven analysis. There will, however, always be three elements: 1) offer, 2) acceptance, and 3) a meeting of the minds.

Examining whether a formal, binding contract is formed may seem like a rudimentary question, but it is actually very important–particularly if there have been back-and-forth changes to forms. If no actual contract was ever formed, then those terms and conditions that you thought were going to guide the transaction may not be applicable. Or, those modifications you thought you made may be worthless.

Friday, September 12, 2008


Everyone knows at least one mediation joke. My favorite is that the sign of a successful mediation is when everyone leaves equally unhappy (which, by the way, is partially true).

Despite the sometimes negative reputation mediation has gained over the years, it can be a very effective, every economical way to resolve disputes. The specifics of mediation may vary a little depending on the forum, but the basics are this. All parties get together in one room and provide a brief opening statement. The parties then break up into separate rooms. The mediator will typically visit with the party seeking relief first. He or she will find out a little about the claims being made and the relief being sought. The mediator will then visit each of the other parties and find out about their defenses or counter-claims. Anything told to the mediator is completely confidential. Depending on the complexity of the case, dollars and cents may not even be discussed in this first round. The mediator is simply trying to learn in an hour or two what you’ve lived with for some time.

At some point, the claimant makes a formal demand (typically a monetary amount, but sometimes it could be specific performance). That demand is relayed to the other party(ies), who explain to the mediator why they believe that figure is incorrect. If everyone is there is good faith, a counteroffer is usually given and taken back to the claimant. This process repeats itself until either a settlement or stalemate is reached.

"Why," you ask, "should I spend a morning or whole day sitting in the office of some mediator (and pay them for their time) when we could just send offers back and forth over the phone?" Well, there are several reasons.

First and foremost, if you are working under an AIA contract, there is a good chance that you will have to mediate. The AIA General Conditions of the Contract for Construction (Form A201-2007) states that "Claims, disputes, or other matters in controversy arising out of or related to the Contract except those waived....shall be subject to mediation as a condition precedent to binding dispute resolution."

Secondly, mediation really can be a cost-effective way to resolve disputes. Compared to the potential costs of extended litigation or arbitration, the time and expense related to a mediation is not very high. It is useful to have a neutral third party provide his or her honest assessment of a case. They hear all the facts and arguments the way a jury or arbitrator would hear them. And they will offer their disinterested assessment of how a case might turn out if it is not resolved.

A mediator can also be a much more effective messenger of the strengths of your case than you are. Even if they are just relaying the arguments you have already made directly to the other party over the phone (or face-to-face), the fact that the messenger is a neutral third party will often times give those same arguments a little more weight.

Perhaps the most important aspect of mediation is that the parties still control their own destiny. You control how much (if any) you agree to pay or accept. You control what terms and conditions a settlement will have. And you have the right to get up and leave at any point. There is no obligation to settle, and the mediator cannot commit you to a settlement. There is no judge, jury, or arbitrator telling you what you will or will not do. This is a far cry from what happens at a trial or arbitration should the dispute not be resolved. There, you put your company’s fate in the hands of complete strangers over whom you have no control.

At the end of the day, however, mediation only works if all parties are making a good faith effort at resolving the dispute. If a party is not interested in a resolution, it is a waste of time. But if the parties are genuinely interested in trying to work out their differences, then it is certainly a worthwhile endeavor and may prevent bigger headaches down the road.

Monday, September 1, 2008

Prompt Payments to Contractors and Subcontractors -- It's Not Just a Good Idea, It's the Law

My last article discussed the pitfalls of holding and distributing construction payments and loan receipts. But what if you’re on the other end of that equation–what if you’re the party who is seeking payment. What kind of protection is out there for you?

Liens may be an available remedy, and there is always the option of litigation. But what if your company is working on a project and your portion of the job is about half finished, but the company you contracted with is about four months behind on payments. This isn’t the first time they’ve fallen behind, but it’s a lucrative contract for your company (when you’re paid) and you would like to finish out your work. Additionally, it is a high profile project and you would like to use it as an example of what your company can do, but these late payments are creating all kinds of cash flow problems for you. Do you keep working and hope payment comes sooner rather than later, or do you pull your crew from the site? If you pull your crew, are you inviting litigation for walking off the job?

The Texas Prompt Payment to Contractors and Subcontractors Act provides some guidance for this scenario. It states that if an owner receives a written payment request from a contractor for an amount that is allowed under a contract for work or specially fabricated materials, the owner must make payment within 35 days of receiving the request. Unpaid amounts accrue interest at 1½ % per month.

Even more notable about the statute is that it gives contractors the ability to stop working. If an owner fails to pay the contractor an undisputed amount within 35 days, the contractor may suspend its contractually required performance. This can be done ten days after the contractor gives the owner (and possibly the owner’s lender) written notice that (1) payment has not been received, and (2) the contractor intends to suspend performance for nonpayment.

At this point, you’re doing a mental calculation of the costs of pulling your crew off the job site and then sending them back and wondering if it is worth the expense. You’re in luck—the statute provides that a contractor who suspends performance under this provision is not required to supply further labor, services, or materials until it is paid the amounts due (over which performance was suspended), plus costs for demobilization and remobilization.

Obviously, there are many factors to consider before pulling off a job for nonpayment, including the relationship between the parties, potential for future projects, and the amount at stake. However, having the force of the Texas Payment to Contractors and Subcontractors Act behind you will at least provide a little piece of mind.

Monday, August 25, 2008

The Texas Construction Trust Fund Act -- What You Don't Know Can Hurt You

It is pretty universally accepted that construction payments and construction loan receipts should be prudently held and distributed. However, this is more than just a sound business practice–a failure to appropriately hold and distribute construction funds could actually land you in jail and bogged down in litigation.

The Texas Construction Trust Fund Act (the "Statute"), found in Chapter 162 of the Texas Property Code, regulates construction payments and loan receipts. The Statute expressly states that construction payments are trust funds if (1) the payments are made to a contractor or subcontractor, (2) under a construction contract, and (3) for the improvement of specific real property in this state. This also applies to loan receipts. The party who receives these funds is a trustee.

A trustee who, intentionally or knowingly or with intent to defraud, retains, uses, disburses, or otherwise diverts trust funds without first fully paying all current or past due obligations incurred by the trustee to the beneficiaries of the funds, has misapplied the trust funds.

Sounds like common sense, right? It might be, but the penalties for failing to adhere to these requirements can be quite stiff. A trustee who misapplies trust funds over $500 in violation of the Statute commits a Class A misdemenor. If the trustee misapplies those trust funds with intent to defraud, they may be guilty of a third-degree felony.

Since potential felony liability for failing to pay subcontractors sounds pretty harsh, it’s important to know exactly what "intent to defraud" means. A trustee acts with "intent to defraud" when he retains, uses, disburses, or diverts trust funds with the intent to deprive the beneficiaries of the funds.

In addition to potential criminal prosecution, misapplication of trust funds can also create civil liability–and hence, litigation. Because the holder of the construction payment or loan receipts is a trustee, there may be a fiduciary relationship with the beneficiary–at least with respect to the trust funds. Fiduciary relationships bring with them heightened duties, including loyalty and the utmost good faith, candor, integrity of the highest kind, and fair and honest dealing.

By failing to pay, the intended beneficiary could bring a lawsuit asserting, among other claims, breach of fiduciary duties. This is notable because an intentional breach of fiduciary duty opens up the possibility for punitive damages.

The Statute does establish affirmative defenses to claims of misapplication of trust funds. It is a defense that the trust funds not paid to the beneficiaries were used by the trustee to pay its actual expenses directly related to the construction or repair of the improvement or have been retained by the trustee, after notice to the beneficiary, as a result of the trustee’s reasonable belief that the beneficiary is not entitled to the funds.

It is also a defense that the trustee paid the beneficiaries all trust funds they were entitled to receive no later than 30 days following written notice to the trustee of the filing of a criminal complaint or other notice of a pending criminal investigation.

The Texas Construction Trust Fund Act underscores the need for good business practices with respect to construction payments. This Statute increases the potential penalties that may arise for failing to appropriately manage these funds. The key is to handle construction payments and loan receipts with great care.

Wednesday, August 13, 2008

The Wizard Behind the Curtain

One of the most memorable scenes in the Wizard of Oz was when we finally got to meet the notorious Wizard himself. When Toto pulled the curtain back, we saw that he wasn’t the brooding, intimidating figure that his image and reputation led us to believe he was. Instead, we saw a small, mild mannered gentleman who looked incapable of harming a fly. With a simple tug of a curtain, the grand image was blown.

Now, what does the Wizard of Oz have to do with construction and, for that matter, any business? A lot. As paperwork has evolved into computer-work, there has been a shift from focusing solely on paper documents to investigating electronically stored information ("ESI"). In litigation and arbitration, attorneys are not limiting discovery to paper documents. They are investigating electronic versions of e-mails, Word documents, spreadsheets, voicemails, and other forms of ESI.

Why? Because just like Toto pulled back the curtain on the Wizard, ESI allows the curtain to be pulled back on your paper file. There’s a lot more to every document, spreadsheet, and e-mail than just the words on the page. Buried in every file is data about who created it, who modified or accessed it, when it was created, who was bcc’d, etc. ESI reveals spreadsheets formulas that would otherwise generate raw numbers on paper. And those redline changes and comments on your Word document? Well, just read this business plan to find out how not to get a project funded. Then imagine reading a contractor’s bid that unknowingly included all the comments about the corners they can cut.

This isn’t meant to scare you back to a stone tablet and chisel, but it is a cautionary tale. Before you send that contract to the other side, be sure you’re not including your own personal commentary. That e-mail you thought you deleted–it’s still resting comfortably on the company’s server. You make efforts (and probably spend good money) to keep your confidential information confidential. Don’t accidentally hand over the keys to your file room. When it comes to ESI, what you see isn’t always what you get.

Wednesday, August 6, 2008

Pay When Paid Clauses

"Pay When Paid" contract clauses have become a fairly common tool used by general contractors to limit financial liability to subcontractors in the event of an owner’s insolvency. In a nutshell, they provide that a GC’s obligation to pay the sub is contingent on the GC being paid by the owner. If the GC isn’t paid by the owner, the GC has no obligation to pay its sub. Though the wording will vary from contract to contract, Pay When Paid clauses generally look something like this:
Notwithstanding anything to the contrary herein, payment by the Owner to the General Contractor is a condition precedent to the ubcontractor’s right to payment from the General Contractor.

Partial payments for or on account of Work performed will be made by Contractor to Subcontractor as the Work progresses, provided however, that as a condition precedent to any such payment, like payment has been made by Owner to Contractor.
These clauses are pretty heavy handed since they are an attempt to shift the risk for nonpayment from the general (who contracted directly with the owner) to a sub (who might have little or no relationship with the owner). As such, the question is this: Are Pay When Paid clauses actually enforceable?

In Texas, Pay When Paid clauses are typically enforceable IF they create a condition precedent and not simply a covenant to pay. A condition precedent is an act or event, which occurs after the making of the contract, that must occur before there is a right to immediate performance and before there is a breach of contract. They basically create a contingency, where a party has no obligation to perform X until condition Y occurs first.

While there are no magic words that are necessary to create a condition precedent, terms such as "if," "provided that," "on the condition that," or some other phrase that conditions performance usually indicate an intent to create a condition precedent. Gulf Const. Co. v. Self, 676 S.W.2d 624, 627 (Tex.App.–Corpus Christi 1984).

It is important that the contract language is very clear on this. Because conditions precedent tend to be fairly harsh, courts do not favor finding them in contracts. For example, in a hospital construction project, a contract between between the GC and a sub included the following provision:

When the owner or his representative advances or pays the general contractor, the general contractor shall be liable for and obligated to pay the sub-contractor up to the amount or percentage recognized and approved for payment by the owner’s representative less the retainage required under the terms of the prime contract. Under no circumstances shall the general contractor be obligated or required to advance or make payments to the sub-contractor until the funds have been advanced or paid by the owner or his representative to the general contractor.
The court of appeals ruled that this clause only created a covenant regarding the terms and manner of payment, not a condition precedent to payment. Id. As such, the general contractor did not limit its financial liability. It was required to pay its subcontractors even though the owner failed to pay the GC.

Pay When Paid clauses are an effective way for general contractors to manage risk and limit financial liability when there is a question about an owner’s solvency. Like so many other terms, they are deal points to be negotiated. You don’t want to lose the protection you worked hard to acquire because of a poorly worded contract. The key to having an effective, enforceable Pay When Paid clause is to make sure it actually creates a condition precedent. Without that, the GC has probably done nothing but re-enforce its own obligation to pay.

Tuesday, July 29, 2008

Lien On Me: Texas Lien Laws

One of the best tools a contractor has to ensure payment on a construction project is the lien. Filing liens may seem like a technical, burdensome legal process, but with a little forethought and by having the right procedures in place, it can be an efficient way to avoid litigation down the road.

The Texas Property Code establishes the requirements for filing mechanic’s lien, contractor’s lien, or materialman’s liens. According to the Code, a person has a lien if (1) the person labors, specially fabricates materials, or furnishes labor or materials for construction or repair of a house, building, improvement, levee, or railroad, and (2) the person labors, specially fabricates the material, or furnishes the labor or materials pursuant to a contract with the owner, owner’s agent, contractor, or subcontractor. In short, if you’ve built or improved a structure, there’s a good chance you can protect your interests with a lien.

The lien extends to the building, house, fixtures, and improvements, and it secures payment for the labor or material furnished. It also secures payment for specially fabricated materials even if they haven’t been delivered.

One of the biggest issues with liens involves properly perfecting them. If your lien is not properly perfected, then you’re probably not going to be able to take advantage of its protections. Even worse, if you file a lien without complying with the statutory requirement, you could face a hefty penalty.

To perfect a lien in Texas, you must file a "lien affidavit" with the county clerk of the county of the to-be-liened property not later than the 15th day of the fourth calendar month after the day the indebtedness accrues. The lien affidavit is fairly simple, but there are a few things that the Texas Property Code requires such as a general description of the work performed and materials furnished (if the claimant did not contract with the owner, this must include a statement of each month in which the work was done or materials furnished for which payment is sought), a description of the property to be liened, the name and last known address of the owner, and a statement identifying when notice of the claim was sent to the owner and how it was sent. You can see all the requirements of the lien affidavit here.

The rules are slightly different for subcontractors that want to place a lien on property. Subcontractors must still file the lien affidavit, but they must also give the original contractor (who contracted with the owner) written notice of the unpaid balance not later than the 15th day of the second month following each month in which all or part of the labor or materials was provided. The owner must be given this notice by the 15th day of the third month.

For subcontractors, the best practice is to send out a notice every month to both the general contractor and owner after payment is late. Make this a regular practice of your billing department. What happens too often is that the sub simply waits and waits for payment. Several months pass and by the time they realize they are not getting paid, it’s too late to file a lien – the notices were not timely sent. If the timing requirements are not satisfied, a lien cannot be filed. This is a rule that simply cannot be bent, and the penalties in Texas for wrongfully filing a lien can be up to $10,000.

Mechanic's liens or materialman's liens on residential construction/homesteads have a few more technical requirements, which will be discussed in future posts.

The key for any contractor seeking to protect its interests via lien is proper perfection. With a little advance planning and good billing practices, you can add this powerful remedy to your toolbox.