ConstructionPro Week, Volume: 5 - Issue: 24 - 06/17/2016

Should Public Project Owners Be Liable for Worthless Bonds?

By Bruce Jervis

 

Public works payment bond statutes require prime contractors to furnish payment bonds for the protection of parties that provide labor or materials to the project. For subcontractors and suppliers, which are unable to lien public property, these bonds are the only effective form of payment assurance.

 

The bond statutes generally require the public project owner to examine and approve the payment bond submitted by the prime contractor. What happens, however, when that payment bond proves worthless?

 

In a recent Georgia case, a municipal project owner took all the prescribed statutory steps before approving a payment bond. The surety later became insolvent and the bond worthless. An unpaid subcontractor argued that the municipality was liable for payment because it received the benefit and value of the sub’s work. It was ruled, however, that the payment bond was the sub’s exclusive form of payment security. The municipality was not liable.

 

What do you think? Should public project owners be required to pay for the value of the work they receive from subcontractors? Or, should the payment bond be an exclusive remedy, leaving the subcontractors without recourse when a bond proves worthless? Your comments are welcomed.

 

COMMENTS

At the Federal level US Treasury reviews, establishes a single bond limit and certifies sureties annually per Circular 570 as acceptable surety on Federal contracts. States should be establishing a statutory minimum surety carrier quality requirement such as Circular 570 listed and A-/Financial Size Category X or higher rated by A.M. Best, for example. In all states bonds are required over certain levels on public works but few states address quality of surety and if they do the quality levels are inadequate.
Posted by: Gary Kohan - Friday, June 17, 2016 2:21 PM


I agree with the subcontractors view that the owner is benefiting from the subcontractors completed work and that they should not be indemnified from any non payment claims should the surety company become insolvent. The owners should be obliged to settle the non payments to the subcontractors and bring suit against the GC for resolution.
Posted by: Ralph Doucette - Friday, June 17, 2016 3:04 PM


1. A surety bond was required by the municipality for the work to be done by the contractor.

2. The contractor chose a surety company and the bond apparently was reviewed and vetted by the municipality.

3. The case supplied does not indicate whether the contractor defaulted on the contract or became insolvent therefore requiring the surety company to step forward and make payments to the subcontractors and other claimants.

4. If both the contractor and surety became insolvent, then it is up to the municipality to assume responsibility for payment to claimants depending on remaining funds set aside for the project.

6. If the contractor signed a pay request and certified that all monies owed to subcontractors and vendors had been paid and if the contractor failed to make payments, then the contractor should be held accountable and possibly prosecuted for submitting a falsified document to the owner or owner's representative.

7. Any responsible owner should include in the contract documents with the contractor a signed affadavit from vendors and subcontractors that they have been paid in full all monies billed up to date minus retainage if applicable.

8. I have personally witnessed an owner trusting a contractor's pay request that has been signed by an authorized representative that declared all monies owed to subcontractors and vendors have been paid and the pay request notarized. The contractor did not pay the subcontractors and vendors but used the monies for other purposes and in the end, the subcontractors lost due funds into the millions of dollars.

9. Eventually all of the claims by the subcontractors went to arbitration and some received a percentage of what was owed, others received nothing. One defense by the contractor was that the owner interferred with the contractural relationship between the contractor and subcontractor by making payments when the contractor was in arrears by months to the subcontractors and the contractor used the excuse that the owner then became responsible and the contractor ceased overseeing the construction of the project even though the contractor had a job trailer, a superintendent, a safety officer, and a project manager still assigned to the project.

10. If the owner receives the benefit of the work produced by the subcontractors and the contractor and surety become insolvent and abdicate their legal responsibility, the owner should be held liable for payment to the claimants.

Last observation. If the owner enters into a contract with a contractor and the contractor issues subcontracts with no other means of redress if the contractor does not pay is arbitration, I would recommend not signing the subcontract. What most subcontractors do not know is that an arbitrator is a member of a group of lawyers working together and if the arbitration is held in the offices of the contractor's attorney, the subcontractor is playing on an uneven field. The attorney has home court advantage and he or she is familiar with the arbitrating attorney and knows how the system works much better than an attorney who is not familiar with the process. It was my personal experience that when the hearing was to close and final arguments put forth, the contractor's attorney who was also a member of the arbitrator's group brought forth several documents at the very last minute and the subcontractor's attorney had no time to review or have time to provide a defense.

Thank you for reading.
Posted by: Barden Rogers - Friday, June 17, 2016 3:59 PM


The municipality should definitely be liable. I lost money when working as a sub on an NY DOT project. The contractor and bonding company went bankrupt. The NYS insurance fund paid 50%. That was close enough to pay for materials and labor and took over a year. In the mean time the state got it's bridge. I wasn't responsible for checking the solvency of the contractor or bonding company.
Posted by: Dominic - Monday, June 20, 2016 7:04 AM


The project owner is always liable to pay for the value of work installed but not twice. If the owner paid the prime and the prime's surety becomes insolvent, then the subcontractor will have to sue the prime. Although the owner received value, there is no contractual relationship between the owner and the sub. If both the prime and the surety become insolvent, the sub cannot force the owner to pay for the work twice (assuming the prime was paid). If a sub signs a contract with a prime, the sub should be paying attention and be extra diligent if there is anything shaky that appears in the relationship or the work. Many subs wait too long hoping to get paid since they are fearful of damaging a relationship. If the prime is not paying you, there is no relationship to damage. Go after them and call attention to the lack of payment to the owner. They want to know when subs and suppliers are not being paid.

As to arbitration, not all arbitrators are in the pocket of one side or the other. Make sure you have American Arbitration Association clauses in your contract. That way each side has a say in who the arbitrators will be.
Posted by: Elizabeth Bowers - Monday, June 20, 2016 3:28 PM


 









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