A contractor that builds a permanent structure on another owner's land under a private contract has the right to a lien on the property for the cost of any labor and materials that were used in the construction and were not paid for by the owner. The lien is known as a construction lien or a mechanic's lien. There are some legal rules for construction contracts and liens.
Duty to Pay Subcontractors
A general contractor cannot legally refuse to pay its subcontractors on the basis that the owner has not paid the general contractor. A pay-when-paid provision of a construction contract which forces the subcontractor to assume the risk that the owner will fail to pay the general contractor is void and unenforceable as contrary to the public policy of state lien laws.
A general contractor's promise to pay money to the subcontractor when the general contractor receives payment from the owner is not a condition precedent to the general contractor's duty to pay the subcontractor. The clause is merely a timing mechanism. Therefore, the owner's failure to pay the general contractor does not relieve the general contractor of its obligation to pay the subcontractor.
Performance Bonds and Payment Bonds
In a construction project, the risk of the owner is that the general contractor will not complete the performance required under the contract. Therefore, owners usually require general contractors to obtain surety bonds to assure complete performance. These bonds are known as performance bonds. If the general contractor fails to complete the construction project, the owner can require the surety to make sure that the project is completed.
A performance bond is designed to benefit the owner. When a general contractor defaults, the owner is a third party beneficiary of the contract between the general contractor and the surety. Although suppliers of material and labor are not usually considered third-party beneficiaries, the surety will pay them to the extent that the surety has to save the owner harmless or protect the owner from any liens that could be filed against the owner's property by subcontractors or suppliers of materials.
General contractors can also be required by owners to obtain payment bonds. In federal construction projects, no mechanic's liens are allowed. Therefore, general contractors are required to furnish performance bonds and payment bonds. The payment bonds are for the protection of all persons supplying labor and material provided for under a federal contract. In private contracts, suppliers of labor and materials can obtain mechanic's liens for unpaid labor and materials. With the remedy of mechanic's liens available to subcontractors, a court could interpret the terms of a payment bond given under a private construction contract as only providing protection to the owner, and not to third parties.
In order to obtain payment on construction liens or mechanic's liens, the contractor has to perfect the lien and file a lawsuit against the owner. When the lawsuit results in a favorable judgment for the contractor, the contractor will have a judgment lien against the owner. If there is more than one creditor, there may be a dispute as to which creditors get paid first. State law determines which creditors have priority and which judgment liens get paid before other liens.
If you have questions about construction liens, you should contact a business attorney. Finding out about the law that applies to liens and about deadlines before you run into a problem can help you protect your interests if the parties to your construction contract fail to meet their respective obligations.
Questions for Your Attorney
- Can a subcontractor sue the general contractor for payment even if the general contractor has not been paid?
- Can the surety on the general contractor's performance bond pay the subcontractors?
- How does a contractor obtain payment on a construction lien?