In the age old conflict between creditors and debtors, a continuing problem confronting creditors is that obtaining a judgment after trial can take years and during that delay the assets owned by the defendants can be spent or seized by other creditors who were faster to file suit. The goal of every creditor is to somehow obtain the right to seize assets of the defendant and to hold them safe ("secured") until the trial has finished and the winning creditor can enforce its judgment.
In the United States, before a creditor or claimant on a debt can seize an asset of a defendant before trial on the matter, the creditor must first schedule a full court hearing in which the defendant is given the opportunity to defend against the claim. This hearing is call a Petition for a Prejudgment Writ of Attachment and no prejudgment relief is normally available to the creditor unless the creditor can prove that the assets are likely to disappear minus prejudgment attachment AND the court concludes that the creditor is very likely to prevail at the later trial.
Often the Court will require the creditor to post a sizable bond even if the creditor is allowed the writ of attachment. Such hearings are expensive and most hearings result in the creditor failing to obtain the Prejudgment Writ. Courts are loathe to grant any relief to a creditor until the debtor has had its full day in court with a trial on the merits.
However, there is one unique exception to this requirement of a pretrial hearing and that exception is The Mechanics Lien and/or Stop Notice. They are, quite simply, the most powerful creditor weapons available under United States law and allow a claimant, who has properly prepared a claim to record a lien on the property of the defendant without a court hearing, without having to prove likelihood of success and without having to post a bond. Before a debtor even gets a chance to defend itself, the creditor can lien property or seize money held by a lender on the construction project.
The Mechanics Lien is a lien on the construction site property that can only be removed if the debtor posts a bond greater than the amount of the claim. Assuming a lis pendis is filed after suit is filed, the lien will stay in effect until after judgment is achieved and the property can be sold.
The Stop Notice, rather than being a lien on the defendants’ property, instead is a document served on the lender (usually a Bank or Savings and Loan financing a construction project) and requires the lender to immediately withhold for the benefit of the creditor an amount greater than the alleged debt and to segregate the sum in a separate account until trial is concluded.
The various Constitutional protections which stopped prejudgment attachments unless there was a full "due process" hearing at which the defendant can defend itself are all suspended for the Mechanics Liens and Stop Notices. These two remedies allow the claimant to seize funds and/or attach property simply by signing some documents and sending them to the Recorder’s Office or the Bank. They allow the claimant to do what normally only the judge is allowed to do-order prejudgment seizure of assets until a trial is completed.
The Payment Bond is an obligation by an insurance company to pay obligations of the named party to valid claimants. On Federal jobs, under the Miller Bond, it is the only secured remedy available since no stop notice or lien rights attach to Federal jobs. It is a powerful collection tool if the paperwork is done correctly. On state jobs, in addition to stop notice rights, the agency in charge can require a payment bond as well and the claimant will have both remedies available, again only if the right paperwork is completed in a timely manner.
If one is involved in construction either as the Owner, Architect, Engineer, Contractor or material man, one must know and prepare for the use (or defense from) Mechanics Liens and Stop Notices and Payment Bonds. To be an owner and to ignore the existence of these weapons is to put oneself at the mercy of the construction professionals; and if one is a construction professional who does not know and use these devices, then one is ignoring a collection tool so powerful that the both the California Supreme Court and the United States Supreme Court were asked to rule them unconstitutional in 1976-and declined. This firm defended the Constitutionality of these remedies in the California Supreme Court, then the United States Supreme Court.
This Article shall briefly outline the characteristics of the Mechanics Lien and Stop Notice and describe how they are created: how they are "perfected"; and how to defend against them. This article shall also discuss payment bonds on construction projects. This article does not go into the myriad details and complex statutes and court rulings involving these subjects, but will give an overview of the basic law surrounding these remarkable collection tools.
Further background on remedies often available in construction projects can be found in our articles on Contracts and Measurement of Damages.
THE MECHANICS LIEN (PRIVATE JOBS)
Any person who incorporates labor and/or materials into a construction project is allowed to file a mechanics lien provided appropriate advance notices are given to the owners and lenders on the project and provided the person is a licensed and legal entity. The lien acts as a claim on the property and once "perfected", the claimant may sell the property at a sheriff’s sale to collect the lien. To perfect a lien means to establish at trial that the lien is validly created and the money owed. One must demonstrate that an agent for the owner hired the claimant to provide labor and/or materials and that said labor or materials were actually used (“incorporated”) in the project.
By law, the general contractor hired by an owner is an authorized agent for purposes of binding the owner and, further, subcontractors contracted to the project by the contractor are the owner's agents to the extent that they act as agents for the owner in purchasing materials incorporated into the project purchased from suppliers “material man.”
Such a powerful tool requires careful compliance with a statutory scheme of notice that gives protection to the Owner as to the liens or stop notices that may be filed. If the claimant is in contract with the Owner (in "privity in contract" with Owner) the courts feel that such notice has been given by entering into the contract, thus a contractor working on the project under direct contract with the owner, or the architect or engineer hired by the Owner, can record a mechanics lien without additional prior notice except to the possible lender on the project.
For those claimants that may be unknown to the Owner (material man, subcontractors, persons hired by the Contractor rather than the Owner) then the Owner (and if there is a lender, the lender as well) must be given statutory notice of the involvement of these possible claimants or no lien may be filed. This notice is called the PRELIMINARY NOTICE and must be sent by certified mail to the Owner (and lender) and to the Contractor if appropriate within twenty days of commencing work or first supplying materials to the job site. Failure to send the Preliminary Notice may bar lien rights to the labor and material supplied for those particular claimants.
The actual MECHANICS LIEN must be recorded in the county in which the property is located by the unpaid claimant once the claimant has ceased supplying materials or labor to the project. The time period for filing the Lien varies depending on whether the job is complete, whether a NOTICE OF COMPLETION has been recorded and whether the claimant is a contractor, material man, or other professional. The time limit varies between thirty days and ninety days predicated on these variables. Failure to record the Lien within the time period eliminates the Lien right for all time, thus a potential claimant should obtain legal advice if unpaid within twenty five days to ensure timely recordation.
Within ninety days of recording the lien, a legal action to foreclose the lien must be filed in Court or the lien is extinguished automatically by operation of law. Concurrent with filing the action, a LIS PENDIS is recorded in the county recorder’s office to give notice to all persons that the lien exists. These time deadlines are rigidly enforced by the Courts. The rights are eliminated if the deadlines are missed by even one day.
Thus, it is absolutely critical to move quickly and file the requisite documents or this tool is forever waived. Likewise, if you are the Owner, you should immediately record a Notice of Completion as soon as the project is finished to cut off the period available for claimants to record liens. Further, one can only record a Notice of Completion within fifteen days of when the job is completed or that defense may not be available. Again, timing is everything.
Normally a property can not be transferred and financing can not be easily arranged if liens are recorded on the property. As such, many property owners file a bond for the claimed amount plus twenty five percent and that security replaces the lien to protect the claimant and the property is freed from the lien. The claimant still has sufficient protection, however, since if the claimant prevails the bond will guaranty payment.
THE STOP NOTICE (PRIVATE JOBS; STATE JOBS)
In some respects the Stop Notice is an even more powerful weapon in the hands of the claimant. If served on the lending institution which has yet to disburse all the funds from the construction loan, the Lending Institution is required to withhold the claimed amount or the lending institution, itself, is liable for the claim. The amount to be withheld exceeds the total amount of the claim by twenty five percent.
Like the Mechanics Lien, a Preliminary Notice must be sent by certified mail by those not in privity of contract with the owner and sent also to the Lending Institution. Even the contractor, who is in privity of contract with the owner, is required to serve the notice to the lending institution. Instead of recording the lien, the Stop Notice is sent by certified mail to the lender, copy to Owner, with a relatively small bond (if a private job). In public job, in which there is no lending entity but the State funds the project, the Stop Notice is served upon the contracting officer of the State.
While the Owner can schedule a hearing to challenge the Stop Notice, the money must be withheld until after the hearing and until judgment if the Owner can not prove at the hearing that the Stop Notice is clearly invalid.
It is vital to note that a Stop Notice, served on the lender or State in the midst of a construction project, can cause disruption to an ongoing job. The contractor and owner, dependent on continued funds from the lender to keep the project going, suddenly face a total disruption in their cash flow once the material man or subcontractor files the Stop Notice and quite often will pay even a challenged claim to get the money moving once again. On state public jobs, (schools, playgrounds, municipal buildings or the like) there is no Mechanics Lien available, only the Stop Notice which is served on the public agency.
On a private job, a bond must accompany the Stop Notice to be binding on the lender. On a public job, an unbonded Stop Notice is valid.
If the Stop Notice arrives after all the money has been disbursed, it is of no use. It is thus critical to move quickly to file the Stop Notice while the project is still ongoing or while there is a retention fund with moneys still available.
One can file both a Mechanics Lien and a Stop Notice on the same private job, using the same Preliminary Notice, and file suit to foreclose on both the lien and enforce the Stop Notice at the same time. The same time limits that apply to filing suit to foreclose on the Mechanics Lien apply with equal strictness to the suit to enforce the Stop Notice. To utilize either or both of the remedies, suit must be filed within ninety days of recording the Lien or filing the Stop Notice.
PROOF REQUIREMENTS FOR STATE LIEN AND STOP NOTICE ACTIONS:
In addition to proving that one was properly hired to provide labor or materials on the construction project by an authorized agent, the claimant must prove that the labor and/or materials were actually "incorporated" into the project, thereby adding to the value of the project. It should be remembered that the lien or stop notice action is not a suit for breach of contract (which is a separate action often brought at the same time by the claimant against whoever executed the contract) but is an equitable cause of action directly against the owner of the property or the lender seeking to seize assets based on improvement to the property.
Often the Owner will never have seen or communicated with the claimant except for the Preliminary Notice. The Courts have thus held that the Owner must have "benefitted" from the claimants work or materials to be subject to the lien or stop notice and a key element of proof is to prove that labor or materials went into the project and remain on the project.
Indeed, the usual area of dispute in such actions is proof that material went into the project. Typically, a material man will claim that a now bankrupt subcontractor purchased thousands of dollars of materials for a project and the Owner will claim that the materials, whatever the subcontractor said, actually were used for an unrelated project or sold by the subcontractor to unknown persons.
Proof of such incorporation is often complex, with the parties pouring over blue prints and specifications attempting to determine how much material was needed for what and what amounts of material were actually ordered for the project from the various subcontractors.
Nevertheless, often by use of circumstantial evidence, it is far from impossible to show incorporation even when a subcontractor has "disappeared" and more than one Court has stated to the writer that unless the Owner can show where else material came from, that the Court will assume that if the project was finished, it must have had materials ordered by claimant incorporated.
PAYMENT AND PERFORMANCE BONDS: FEDERAL PROJECT BONDS (MILLER BONDS)
For certain types of jobs (larger State and Federal jobs, many private jobs) the contractors are required to post bonds which guaranty payment to qualified claimants ("Payment Bonds") or guaranty performance for the Owners ("Performance Bonds.") Suits on bonds are a preferred means of relief for claimants since there is an insurance company (the bonding company) available with assets and quite often the bond, itself, provides that the prevailing party will get attorneys fees incurred in bringing the action. Note, however, that if the Bond is not as great as the total claims of the claimants, that the money is divided among those claimants who have perfected their rights and this can result in less than full recovery.
Additionally, for certain types of projects, the payment bond does not require proof of incorporation of materials or labor, simply that an authorized agent ordered the labor or materials. Most notable of this type of bond claim are legal actions based on Federal Projects ("Miller Bond Actions") which are brought in federal courts and Miller Bonds must be posted on all federal projects of any magnitude.
The Miller Bond is the sole protection available to the claimant on federal projects. Unlike State public jobs, there is no Stop Notice actions available for Federal Projects. And, of course, no mechanics liens are ever available on any public job, state or federal, since one cannot foreclose on a public piece of property.
In bond actions the claimant must give notice to the owner and bonding company within ninety days of when the last labor or material was supplied to the job and must bring action on the bond within one year of last supplying labor or materials.
Of course, one can always sue for breach of contract any party in breach such as the owner or contractor, but if one seeks a secured claim, only the Miller Bond provides such on a federal project. However, since incorporation of labor or materials need not be proven, and since attorneys fees are awarded if the claimant wins, Miller Bond actions are quite often the most efficient method of collection on construction disputes. A famous Miller Bond case allowed a claimant recovery for goods shipped to a federal base on Cuba, but never delivered since the ship sank before the goods were delivered to the job site. The federal court allowed full recovery for the claimant since the goods had been ordered. (In a state job, since the goods were not incorporated into the job, no recovery on the stop notice would have been allowed and in a private job, no mechanics lien recovery would have been allowed since the materials were not incorporated.)
PROTECTING THE OWNER
If you are an owner, the best means of protection is to take seriously any Preliminary Notices you receive and make sure the possible claimants are paid in full by issuing two or three party checks ("Joint Checks") to the contractor or subcontractors and material man on the job making sure that the parties who have sent you the Preliminary Notices are on the joint checks since, if they endorse them, they will usually be held to have waived their lien rights to the extent of the endorsed check or checks. A sizable retention fund, not paid until the job is completed and releases obtained from the possible claimants, is often a very good idea.
Remember: whether or not you have paid the subcontractor or contractor for materials, a material man who is unpaid by that subcontractor or contractor can still recover in full from you if the materials were incorporated. It is not unusual for an owner to pay twice for the same materials and the relief available to the owner...suing the contractor for failure to pay the sub or material man...does little good if the contractor is out of business and with no money.
Notices of Completion can cut off the time for filing liens and other claims and a Notice of Non Responsibility at the beginning of the project can also limit recovery for claimants. These protections have strict time limits which are waived if not adhered to strictly. For example, a Notice of Completion, which can cut the time for filing liens from ninety to thirty days in some instances must be recorded within fifteen days of actual completion, etc.
PROTECTING THE CLAIMANT
Assuming you have complied with the Preliminary Notices and strict time requirements for your lien, bond or stop notice actions, you, as the claimant have a secured claim greater in power to that of most creditors. Again, the key element to that protection is accurate and timely recordation and sending of notices, stop notices, liens, and proof of incorporation as well as filing suit. If you have no contract with the owner, you normally need a Preliminary Notice. Even the contractor in privity with the owner must send such notice to the lender. Even if you are under contract, you will need to record the lien or file the stop notice in a timely manner and file suit as required or your rights are extinguished.
There are few areas of law as complex and time sensitive as the enforcement of lien, stop notice and bond rights in construction jobs but it is well worth while to master the techniques and obtain experienced legal advice to enforce rights and protect yourself if you are the owner. This unique area of the law has allowed the small contractor to remain viable in the United States and to allow the great building booms of the last century. It has literally enabled America to transform its economy, its cities and its landscape and provides the professionals who engage in such work with the protection clearly needed to allow such projects.
To ignore the ramifications and protections of this complex set of procedures and laws is to lose a tremendous protection (if you are a claimant) or to expose yourself to tremendous liabilities (if you are the owner.)