Construction lawyers may not ponder the great questions in life.
We leave that to the estate planning attorneys.
But ponder we do.
And the next case, as I’ll explain below, “kind of” answers 10 important mechanics lien questions we construction attorneys toss and turn over at night.
In Palomar Grading & Paving, Inc. v. Wells Fargo Bank, Case Nos. G049907 and G049910 (October 14, 2014), developer Inland-LGC Beaumont, LLC (“Inland”) hired general contractor 361 Group Construction Services, Inc. (“361”) to construct a Kohl’s department store in Beaumont, California.
The Kohl’s department store was to be constructed on one parcel of a three-parcel tract. Inland later sold the parcel on which the Kohl’s department store was to be located to Kohl’s and the two other parcels were later acquired by Wells Fargo who foreclosed on the construction loan for the project.
361 contracted with three subcontractors: Cass Construction (“Cass”), Palomar Grading & Paving, Inc. (“Palomar”) and R3 Contractors (“R3”). Each recorded mechanics liens on all three parcels after they weren’t paid and later obtained judgments after filing suit to foreclose on their mechanics liens.
But it’s a big “it” as I explain below. Ask any experienced California construction law attorney and they will tell you that there are “grey” areas in California’s mechanics lien laws. The California Court of Appeals for the Fourth District focused on “10” of those grey areas. And, while the Court only certified for publication its answer to one of those questions, which I identify as number “1” below, and left unpublished the remaining 9 questions, which I identify as numbers “2” through “10” below (hence, my “kind of” comment), its analysis is informative as courts rarely delve into the murky grey areas of mechanics lien law.
Note: On July 1, 2012, California’s statutory construction payment laws were recodified from Civil Code sections 3082 through 3267 to Civil Code sections 8000 to 9566. Although the case discusses the statutory construction payment laws under the “old” sections, the “new” sections did not substantively change the old sections as applied to the case, and I have cited to both the old as well as new sections for reference.
1. What is the Default Prejudgment Interest Rate on a Mechanics Lien Claim?
As discussed above, Cass, Palomar and R3 successfully foreclosed on their mechanics liens. The question then was what default prejudgment interest rate applied to their judgments? In other words, what interest rate should apply to the amount Cass, Palomar and R3 should have been paid from the time they were owed money though the time they obtained judgment?
California, as I’ve mentioned in the past, is unique among the states in that it is the only state in which mechanics liens are a constitutional right. And, under Article XV, Section 1 of the California Constitution, the default prejudgment interest rate for “things in action,” which includes foreclosure of a mechanics lien, is 7%.
But here’s the rub.
Civil Code section 3289 provides that the default prejudgment interest rate for breach of contract claims is 10%. So, then, what interest rate applies – the constitutional interest rate of 7% – or Section 3289’s interest rate of 10%?
In the case of an “innocent owner,” held the Court of Appeals, the lower constitutional interest rate of 7% applied, because neither Kohl’s nor Wells Fargo, who had acquired their parcels after 361 had contracted with the subcontractors, had a direct contract with the subcontractors and, therefore, did not and could not have breached a contract with the subcontractors.
Note: Although the Court’s decision focused on the fact that neither Kohl’s nor Wells Fargo had a direct contract with the subcontractors, the Court’s decision appears to apply as well to situations where an owner, who while it may not contract directly with a subcontractor, contracts directly with a general contractor.
2. Who is a “Reputed Owner” Required to be Named in a Preliminary Notice
Civil Code section 3097 (new Civil Code section 8202) requires that preliminary notices include the name of the “owner or reputed owner.”
Kohl’s argued that because the subcontractors were aware that they were building a Kohl’s department store that Kohl’s should have named in the preliminary notices, even though Kohl’s did not own the one parcel at the time the subcontractors served their preliminary notices.
The Court of Appeals held that Section 3097’s requirement that preliminary notices name the “owner or reputed owner” did not require that parties who may or, even will own, the property at some later time be named, but rather, only required that those parties who currently own or are reputed to own the property be named in the preliminary notice.
3. Is a Mechanics Lien Void Because Work is Performed After the Mechanics Lien is Recorded?
Civil Code section 3115 (new Civil Code section 8414) provides that a mechanics lien claimant may not record a mechanics lien until “after he completes his contract.”
One of the subcontractors had performed work after it had recorded its mechanics lien on January 26, 2008. As such, Kohl’s argued, the subcontractor’s mechanics lien was premature and, therefore, void. The subcontractor, on the other hand, argued that the work it performed was merely punch list work and that it had substantially completed its subcontract before it recorded its mechanics lien on January 26th.
Rather than focusing on whether substantial completion qualifies as completion of a contract under Section 3115, the Court of Appeals focused on an agreement between 361 and the subcontractor that the subcontractor’s remaining work terminated “in mid-to-late January” 2008. Giving the subcontractor the benefit of the doubt between mid-to-late January, the Court held that the subcontractor’s work had terminated before the subcontractor recorded its mechanics lien and that the mechanics lien was therefore valid.
4. Is a Mechanics Lien Void Because it Fails to Name the Current Owner(s) of the Property?
Civil Code section 3084 (new Civil Code section 8416) requires that mechanics liens include the name of the “owner or reputed owner, if known.”
The subcontractors did not name Kohl’s in their mechanics lien even though Kohl’s had purchased the parcel at the time the mechanics liens were recorded. As such, Kohl’s argued, the subcontractors’ mechanics liens were void.
The Court of Appeal explained that the phrase “if known” is a different concept than “if knowable,” whereby, “if knowable” suggests that a mechanics lien claimant would need to conduct a title search prior to recording a mechanics lien. The law, however, explained the Court, does not require that a mechanics lien claimant conduct a title search prior to recording a mechanics lien. But, the Court held, while a mechanics lien claimant need not conduct a title search, if a mechanics lien claimant “actually” knew the identity of the property owner, and did not include the name of the owner in the mechanics lien, the mechanics lien would be invalid. Here, however, each of the subcontractors testified that they did not know that Kohl’s owned the parcel at the time they recorded their mechanics liens and, therefore, they did not have actual knowledge that Kohl’s owned the parcel.
5. Is a Mechanics Lien Void Because it Fails to Correctly Identify the Property Subject to the Mechanics Lien?
Civil Code section 3084 (new Civil Code section 8416) also requires that a mechanics lien provide a “description of the site sufficient for identification.”
One of the subcontractors identified the property being liened in its mechanics lien as “1491 E. Second Street.” However, the address of the parcel was actually “1479 E. Second Street.” As such, Kohl’s argued, the mechanics lien was void.
The Court of Appeal held that an error in description, unless there was an intent to defraud or if an innocent party purchasing the improved property would not have notice of the mechanics lien, does not make a mechanics lien void. As such, and because there was no evidence of an intent to defraud and an innocent third party did not purchase Kohl’s property from Kohl’s, the error in describing the site did not make the mechanics lien void.
6. Does the 90-Day Deadline for Foreclosing on a Mechanics Lien Preclude the Later Naming of a Property Owner?
Civil Code section 3087 (new Civil Code section 8460) requires that a mechanics lien claimant file suit to foreclose on its mechanics lien within 90-days of recording the lien.
The subcontractors timely filed suit within 90-days to foreclose on their mechanics liens. However, the subcontractors did not name Kohl’s or Wells Fargo, although they owned the parcels at the time the lawsuits were filed, within 90-days. Rather, only later, by substituting Kohl’s and Wells Fargo as Doe defendants, were Kohl’s and Wells Fargo named as parties to the lawsuits. Because the subcontractors had not filed suit against Kohl’s and Wells Fargo within 90-days of the date in which the mechanics liens were recorded, Kohl’s and Wells Fargo argued, the mechanics lien foreclosure actions against them were time barred.
The Court of Appeal held that the 90-day deadline only applies if the mechanics lien claimant had actual knowledge of the identity of the property owner, not constructive knowledge. Thus, if a mechanics lien claimant only had constructive knowledge (i.e., imputed knowledge) of the identity of a property owner, say by a recorded deed of trust, Section 3087 does not require that the mechanics lien claimant name the property owner within the 90-day deadline. And because the subcontractors did not have actual knowledge that Kohl’s or Wells Fargo owned the parcels they were not time barred by the 90-deadline from naming Kohl’s or Wells Fargo as defendants.
7. Is a Mechanics Lien Claimant Limited to Recovering the Amount Stated in its Mechanics Lien?
Civil Code section 3084 (new Civil Code section 8416) requires that a mechanics lien state the mechanics lien claimant’s “demand.” Section 3118 (new Civil Code section 8422) further provides a mechanics lien is invalid if it willfully includes amounts “labor, services, equipment, or materials not furnished for the property.” And, finally, Section 3123 (new Civil Code section 8430) provides that a mechanics lien is a direct lien for the lesser of the reasonable value of the work provided or the price agreed to by the mechanics lien claimant and the person that contracted for the work.
One of the subcontractor’s mechanics lien listed $1,835,999.59 as the amount owed. However, at trial, the subcontractor was awarded $2,023,896.21. The difference of approximately $190,000 appeared to be for retention. Because the amount awarded to the subcontractor was higher than the amount stated in the mechanics lien, Kohl’s and Wells Fargo argued, the judgment should have been reduced to the amount stated in the mechanics lien.
The Court of Appeal held thatm reading the three statutory sections together, ‘the limit is the contract price, not the lien amount,” and because Kohl’s and Wells Fargo had not argued that the amount awarded was more than the contract price, or that the reasonable value of the work was less than the contract price, that the amount awarded was appropriate.
8. Can a Mechanics Lien Claimant Be Awarded Amounts that the Mechanics Lien Claimant Owes to Others?
One of the subcontractors had a subcontract with a second-tier subcontractor and that second-tier subcontractor had in turn recorded its own mechanics lien. However, by the time of trial, the second-tier subcontractor had had its corporate license suspended and, therefore, could no longer pursue its mechanics lien claim. At the same time, the first-tier subcontractor had included the second-tier subcontractor’s claim of $608,018.39, within its mechanics lien claim, and was awarded this amount. Because the first-tier subcontractor had been awarded $608,018.39, Kohl’s and Wells Fargo argued, the first-tier subcontractor had obtained a windfall and the judgment should have been reduced by $608,018.39.
Civil Code section 3140 (new Civil Code section 8434) provides that “[a]ny original contractor or subcontractor shall be entitled to recover, upon a claim of lien recorded by him, only such amount as may be due him according to the terms of his contract after deducting all claims of other claimants for labor, services, equipment or materials furnished and embraced within his contract.” (emphasis added). Section 3085 (new Civil Code section 8004) provides in turn that “claimant” is defined as “any person entitled under this title to record a claim of lien, to give a stop notice in connection with any work of improvement, or to recover on any payment bond, or any combination of the foregoing.”
While the second-tier subcontractor was “entitled” to record a mechanics lien under Sections 3140 and 3085, held the Court of Appeal, it was not entitled to foreclose on its mechanics lien once its corporate license was suspended. And, while the first-tier subcontractor might have receive a windfall, added the Court, Kohl’s and Wells Fargo were no worse off than if the second-tier subcontractor had not had its corporate license suspended. Moreover, explained the Court, were Kohl’s and Wells Fargo allowed to keep the $608,018.39 awarded to the first-tier subcontractor, it would have been Kohl’s and Wells Fargo who received a windfall, as the trial court had determined that their property had been improved by this amount.
Note: To me, I think it’s much easier to get to the same conclusion without having to make a public policy argument, by pointing out that under Civil Code section 3140 the first-tier contractor was “due [the $608,018.39] according to the terms of his subcontract,” and whether a portion of the first-tier subcontractor’s subcontract was in turn subcontracted to a second-tier subcontractor, to whom the first-tier subcontractor would have owed the $608,018.39, is irrelevant. And, had the second-tier subcontractor’s corporate license not have been suspended, double payment by Kohl’s and Wells Fargo – once under the first-tier subcontractor’s mechanics and against under the second-tier subcontractor’s mechanics lien – could simply be adjusted equitably by the court.
9. Should a Mechanics Lien Judgment Across Multiple Parcels Be Allocated Between the Parcels?
As discussed, the project was built across three parcels. The Kohl’s department store was constructed on one parcel and infrastructure, but no structures, were constructed on the other two parcels. Yet, judgment was awarded, and a foreclosure decree was entered for the full amount of the judgments across all three parcels. As such, Kohl’s and Wells Fargo argued, the judgments weren’t invalid.
Civil Code section 3130 (new Civil Code section 8446) addresses the requirement that mechanics liens be allocated where they are filed on two or more works of improvement. And section 3105 (new Civil Code section 8050) defines “work of improvement” as including an “entire structure or scheme of improvement as a whole.”
Because the trial court held that the work was “one unified project” performed across three parcels, held the Court of Appeal, no allocation was required under Civil Code section 3130 because the mechanics liens, while recorded across three parcels, was a single “scheme of improvement as a whole” under Civil Code section 3105.
10. Is a Mechanics Lien Claimant Entitled to Prejudgment Interest
As discussed in item 1 above, a mechanics lien claimant is entitled to prejudgment interest. However, the final issue addressed by the Court of Appeal was whether the mechanics lien judgments should have been allocated between the three parcels and, because they were not, prejudgment interest should not have been awarded because it was not possible to calculate the prejudgment interest applicable to each parcel.
However, because the award did not need to be allocated between each parcel to begin with, held the Court of Appeal, there was no error in awarding prejudgment interest.
Although only item 1 on prejudgment interest is citable by lawyers and judges, items 9 though 10, provide an interesting and informative look into some of the grey areas of construction law that are navigated (or, sometimes, muddled through) by the courts and lawyers before them and, how in this one instance, the court explained how it reached its conclusions on issues regularly faced by parties in construction litigation.