Protect your right to get paid:

All electrical contractors want to be paid for the work they perform; as developers, owners and general contractors become more sophisticated, electrical contractors need to be aware of the sources of funds and other assets that are available to them to secure payment under their contracts.

There are many things that electrical contractors can do to protect their right to get paid. First and foremost, you should know your clients. Spend time researching each client before you execute a contract. This includes knowing the client’s assets and the client’s track record with other contractors and subcontractors. Look at the client’s history of performance over time. It is important to know whether you are dealing with a new entity or an entity that has been in business for many years. It is always helpful to obtain a Dun & Bradstreet or other financial report on your client. Know the principals involved, their background and experience, and their work history if possible.

Large companies often have many subsidiaries. It is important to know with which entity you are contracting. It is not enough to know that the entity is part of a larger organization since recourse likely will be limited to the entity itself, not the parent or an affiliate. Many developers and owners establish project-specific companies that have no prior track record. Such companies tend to be thinly capitalized to accomplish one purpose, which is to construct the project. In such instances, be particularly cautious about the sources of funds that will be used to pay for your performance. Project-specific companies often have non-recourse financing. The lenders for the project will have mortgages and security interests in place before you arrive on the job. Should the project fail for some reason, expect that the lenders will be first in line to reach project assets. In that case, you could find yourself having fully performed but unable to recover amounts rightfully yours because there are no assets left.

Contract stipulations

The time of contracting is a critical juncture. Read the contract carefully and negotiate the provisions to protect your interests. Avoid clauses such as “pay-if-paid,” clauses that set a condition in which a subcontractor’s right to receive progress payments is dependent upon the prime contractor receiving payment from the owner. Similar provisions, known as “pay-when-paid” clauses, attempt to condition a prime contractor’s obligation to pay its subcontractors when the prime contractor first receives payment from the owner. Pay-if-paid clauses are particularly dangerous since, if enforced, they leave a subcontractor with no remedy for nonpayment if the owner does not pay the general contractor. Similarly, pay-when-paid clauses, although designed merely to postpone payment to the subcontractor, can result in long periods of no payment causing serious financial harm. Fortunately, most courts that have addressed pay-when-paid clauses have held they only postpone payment to the subcontractor for a reasonable period of time sufficient to allow the prime contractor an opportunity to collect the funds from the owner.

Nevertheless, depending upon the language involved, such clauses can impose conditions precedent to the prime contractor’s obligation to pay a subcontractor for work performed. Other contract provisions that affect a contractor’s right to get paid include the following:

  • Lien waiver clauses that attempt to bar a contractor’s right to file a mechanic’s lien on a project
  • No-Damages-for-Delay clauses that are intended to prevent a contractor from recovering damages for an excusable delay

Unduly restrictive notice provisions that are designed to prevent a contractor from recovering additional costs and/or time if notice of an event is not given promptly When negotiating a contract, look at the payment security that is available and bargain for additional security if needed. For example, surety bonds are required to be posted on most public projects. These bonds secure payment to subcontractors and others providing labor, materials and services to the project. Obtain copies of such bonds and be aware of the legal requirements for preserving your rights and recovering from the surety. Many private owners or developers also require general contractors to furnish surety bonds. Determine whether your project is protected by a bond. If you are concerned with the ability of a client to pay, request some form of payment security. Surety bonds, letters of credit and parent guarantees are customary forms of payment security in the construction industry.

Preserve your right to stop work for nonpayment. This right should be spelled out in your contract. Many construction contracts contain suspension of work and termination provisions. Such provisions usually address the customer’s remedies for contractor failure but also should address the contractor’s remedies if the customer doesn’t pay. Use these provisions to protect your rights.

Local laws and other legal matters

Make sure you are properly licensed and registered in all jurisdictions where you perform work. Many contractors are unaware that the failure to be properly licensed or registered can prevent them from enforcing their contracts. The law often limits or precludes a contractor’s ability to enforce its payment rights if the contractor is not properly licensed or registered.

It is critical to give your client timely notice of changes, delays, late payments and other events that impact your performance. Be diligent in preserving and protecting your rights. This means understanding the lien statutes in those jurisdictions where you perform work and making sure that you file the appropriate documentation (e.g., notices of contract, statements of claim, etc.) that the law requires. If a surety is involved, write to the surety when it becomes clear that you may need to look to the surety for payment. Moreover, if your customer has a change in financial condition and you become concerned that the customer may not have the ability to pay for the work, consider consulting an attorney. You may be advised to request adequate assurances of payment as a condition to completing your work. In any event, take appropriate steps to enforce your rights and to limit your company’s exposure should a customer get into financial difficulty.

There are numerous other remedies that can be employed by a contractor who is not being paid on a project. In addition to filing a mechanic’s lien or making claim on a bond, such remedies include the following:

  • Requesting payment by joint check (i.e., where the owner issues a check made out to the prime contractor and a subcontractor for work performed by the subcontractor)
  • Prejudgment attachment of customer assets to secure payment for work performed
  • Trustee process to reach assets held in trust by a third party (such as a bank) for the customer
  • Reach and apply actions (i.e., a statutory remedy in some states where accounts receivable owed by third parties to a customer can be attached and held as security)
  • Injunctive relief, which can take many forms, including requiring the customer to preserve its assets and restraining a customer from transferring assets pending resolution of a payment dispute

Electrical contractors must be particularly careful at the time of project closeout. Many construction contracts provide that the acceptance of final payment operates as a waiver of any claims for additional amounts due. Scrutinize all project close-out documents carefully. Make certain that the written record is clear as to amounts that remain owed. Be aware of the statutes of limitation in your jurisdiction, which can bar you from recovering on a legal action to collect on a debt. Once the applicable statutes of limitation have run, you may have no legal recourse. Similarly, many states have what are known as statutes of repose, which are similar to statutes of limitation but run from a specific milestone or event (e.g., substantial completion) and bar all claims after a certain period of time.

Lastly, electrical contractors need to be on watch for potential bankruptcy filings. If a customer files for bankruptcy, it is unlikely that you will be paid in full from the debtor’s estate unless you are a secured creditor. To secure your right to payment, you need a perfected legal interest such as a lien, mortgage, security interest, attachment or other form of security in particular property of the debtor. The property held as security needs to have sufficient value to pay what you are owed.

Although it is impossible to guarantee payment in every situation, electrical contractors who take preventative measures to protect their interests, and then promptly enforce available remedies, will be in a better position to receive payment in full.     EC

This article is not intended to provide specific legal advice, but instead as general commentary regarding legal matters. You should consult with an attorney regarding your legal issues, as the advice you may receive will depend upon your facts and the laws of your jurisdiction.

FERGUSON is a partner in the Boston, Mass., office of McCarter & English LLP. He is a former electrical contract or with a national practice in construction law. Contact him via e-mail at wferguson@mccarter.com or phone at 617.345.7061.