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By: David Drumm

While the Texas mechanic’s lien laws codified in Chapter 53 of the Property Code can seem byzantine to the uninitiated, they represent a balance between the competing interests of a project owner and providers of labor and materials and present opportunities to an owner to minimize liability by complying with the statutory scheme.

From the standpoint of a provider of labor and materials, the provider just wants to get paid. If the party that provider contracted with and extended credit to doesn’t pay, why not simply pass the buck up the chain to the project owner to make everything right? A project owner, on the other hand, is managing a construction project budget and wants to pay for everything only once and avoid making duplicate payments to a subcontractor because its general contractor didn’t correctly pass on the funds. Why should an owner have to pay twice for the same labor and materials?

Chapter 53 of the Texas Property Code imposes two obligations on a project owner beyond the obligation to pay for labor and materials that it directly contracts for and correspondingly provides two avenues to the project owners to minimize their exposure to such liabilities.

The first obligation involves the concept of statutory retainage. Section 53.101 of the Texas Property Code imposes an obligation on the owner of a construction project to withhold 10% of the value of completed work out of payments to its direct contractors to create a “retainage fund” for the benefit of first and lower tier subcontractors down the line who don’t receive a pass-through of the funds paid to the general contractor. This requirement is commonly misunderstood. It is not satisfied when the project is 90% complete and 90% of the contract price has been paid out. To comply with the retainage requirement, when the contract is 50% complete, the amount paid out should not exceed 90% of 50% (or 45%) of the total contract price and 5% of the total contract price should be held back as retainage. When the project is 90% complete, the amount paid out should not exceed 90% of 90% (or 81%) of the total contract price and 9% of the total contract price should be held back as retainage. Contractors do not like owners complying with statutory retainage requirements because it has the effect of deferring a large portion of their overhead and profit until the end of the job. However, compliance is the way for the owner to avoid liability beyond the contract price because the owner’s liability to retainage claimants is limited to the amount retained under Section 53.103 or the amount which should have been retained under Section 53.105. The owner gets an additional benefit from the retainage in that if a large portion of the profit and overhead to the contractor is withheld until the end of the job, the contractor is much less likely to walk off of the job prior to completion. A contract with a contractor who will allow the owner to comply with statutory retainage may be more advantageous to the owner than a contract for a lesser sum which does not permit statutory retainage.

After waiting 30 or more days after final completion of the general contract (note that this is final completion, not substantial completion), the owner may disburse the retainage funds to the general contractor in the absence of mechanic’s lien claims lodged by subcontractors and properly perfected under Chapter 53.

If the statutory retainage is complied with, the owner can limit its liability for work performed under a general contract to the original contract sum, at least in theory. In practice, if there are mechanic’s lien claims exceeding the amount of the retainage fund, the proper procedure for an owner is to interplead the retainage funds in an interpleader action naming all of the subcontractor claimants as parties. If this is done correctly, the owner has the ability to recover its attorneys’ fees out of the interplead fund.

The second obligation Chapter 53 places on an owner requires that an owner receiving a notice from a subcontractor pursuant to Section 53.056 (commonly known as a “trapping notice”) must withhold from payments subsequently due the contractor (in addition to the statutory retainage) the amount claimed in the “trapping notice” (although the statute is worded that the owner “may withhold,” the owner is liable for not withholding so, for practical purposes, the “may” should be read as a “shall”). The subcontractor sending the trapping notice is required to send a copy of the notice to the general contractor under Section 53.083. In the absence of an objection properly lodged by the general contractor within 30 days after the general contractor receives such notice, the owner is entitled to pay the amount of the claim in the trapping notice directly to the subcontractor and receive a credit on its account with the general contractor in the corresponding amount. This has much the same effect as a garnishment action, but operating within the prejudgment time frame. If the general contractor does properly dispute the notice, the owner is once again in the interpleader situation with regard to the entitlement to the funds.

By scrupulously complying with statutory retainage and correctly responding to “trapping notices,” an owner can limit its exposure to unbudgeted construction expenses.

The analysis above applies to privately owned real estate projects in Texas. Projects for state or federal governmental entities are outside the scope of this discussion. Other situations outside the scope of this discussion are situations involving contractual retainage arrangements between a contractor and a subcontractor beyond the statutory retainage provisions in the Texas Property Code.

2019 Real Estate and Construction Issue

CONSTRUCTION DEFECTS: THINGS TO REMEMBER TO MAKE SURE YOU CAN GET THE PROBLEM FIXED

By: Joshua Kipp

Construction projects take a lot of time, cost a lot of money, and often result in more than a few headaches along the way. When the project closes out, most people are relieved. The business finally gets to use the new facility and enjoy the benefit of all of that time, money and headache. Then it happens. The business starts to notice problems. Good contractors typically address the smaller problems with slight inconvenience to the owner. But more significant problems resulting from construction or design defects must be managed correctly to ensure that the problems get fixed by the contractor or the owner receives compensation. Here are some things to remember when you discover a potential problem.

1.  Don’t destroy anything relevant. Notify any parties who may be responsible for the problem and allow them the opportunity to inspect before you change the conditions as a part of an investigation or repair. Failure to do so could result in a court entering a spoliation instruction. Spoliation is the destruction or failure to preserve evidence in your possession when a party knew or should have known that a claim would be filed and that evidence would be material. A spoliation instruction is a statement from the judge to the jury that it may presume the destroyed evidence would have been unfavorable to the party who destroyed it. Even in the rare instances when you need to immediately repair the problem to avoid a shut down or further damage, a simple email notifying the other parties can help avoid a spoliation instruction.

Retaining experts early will also ensure that they have the opportunity to observe the conditions as they exist at the time the problem is uncovered. Savvy experts will also provide invaluable guidance in the investigation and preservation of evidence. It may make sense to have legal counsel retain a consulting expert with responsibility to coordinate the work of other experts who are likely to testify. Communications between the legal team and a consulting expert may remain protected, unlike communications with those experts who are designated later as testifying experts.

Of course, you also need to notify employees to preserve anything related to that project. Remember to include IT folks to stop any automatic deletion programs until after emails are preserved.

2.  Document the problem and send appropriate notices. Take photos and videos immediately to preserve a visual record of the condition. With assistance of counsel to ensure privilege, prepare a written description of the problem and interview key people to capture information about when the problem arose and the impact. Review the contract and provide notice to the construction and design professionals. Most contracts, including industry forms such as the AIA general conditions, include contractual notice provisions. Failure to provide the notice may waive your right to require correction or to make a claim for breach. Prompt notice also positions you best to get the problem fixed quickly. Consider whether notice should be sent to manufacturers or suppliers under warranty provisions. Evaluate whether any carriers should be put on notice of a potential claims, including under any policies that many cover business interruption.

3.  Time is of the essence. In addition to contractual deadlines for warranty repair claims (often one year), you need to watch the statute of limitations for asserting claims. Construction defects typically give rise to claims for breach of contract, breach of express warranty, breach of an implied warranty, or professional liability. The limitations period and when the claim accrues differ based on the claim and also by jurisdiction. In Texas, for breach of contract or breach of express warranty, a four year statute of limitations applies. For breach of an implied warranty, limitations may run in either two or four years depending on whether it is predominately an issue of tort or contract. When exactly the timeline begins to run will also depend on the type of claim and type of injury. Generally, limitations for contract claims starts at the time a breach occurs. In other words, you could have less than four years from when you discover the problem to pursue a claim if the discovery rule does not apply. The discovery rule applies when an injury is inherently undiscoverable and objectively verifiable and sets a different start date for limitations running—when you did or should have discovered the problem. Determining exactly when limitations started and whether the discovery rule applies can be tricky. If the claim arises many years after substantial completion, pay attention to the statute of repose. In Texas, for example, you must bring claims within ten years of substantial completion of a construction project regardless of whether the discovery rule applies, although that timeline can be extended by sending a notice within the ten years. Although public owners are exempt from certain statutory limitations periods, the statute of repose does apply to both public and private owners. If you think you have a claim, acting fast and reaching out to a lawyer, if necessary, may be the best thing you do to make sure you preserve your claims stemming from a construction defect.

Preserving evidence, properly documenting the problem, providing appropriate notices, and being conscious of timing considerations will go a long way in helping to preserve your rights and ensure you get the problem fixed or get compensated. While this overview provides an outline of steps and considerations, the devil is in the details. Engaging an attorney and consulting experts early will help you to navigate these details. Attention to detail when you run into a construction or design defect very well may be the difference between getting your problem fixed by the contractor or design professional instead of having to dig into your own pocket to fix it.