Texas Mechanic's Lien and Bond Claim Law: The Construction Lien


Mechanic's Liens are an effect tool for contractors and subcontractors to use when seeking payment for private construction projects. But what about a public works project? It seems inconceivable that a public project would not pay a contractor or subcontractor, but it does happen. What tools are available to the contractor when seeking payment for such projects?

Texas Public Works Projects

The legal framework for public construction works in Texas is different than that for private work. Liens are not allowed on public lands, so a different scheme involving claims against bonds has developed. Whether a contractor working on a public job in Texas may bring a claim against a payment or performance bond depends on where the contractor falls in the "food chain."

A prime contractor is one who has a contract for work directly with the governmental body. A prime contractor must furnish a payment bond for the benefit of subcontractors and suppliers. The performance bond protects the governmental body from a defaulting prime contractor.

Payment Bonds -- Protection for Subcontractors and Suppliers

Because no liens are available, the best source of protection for subcontractors and suppliers to public work prime contractors is the payment bond. The prime contractor, for any Texas governmental job over $25,000.00, is required by law to post a payment bond. Tex. Gov't Code § 2253.021(a)(2) (formerly known as the McGregor Act). School districts are considered governmental bodies under the Texas Government Code.

A payment bond does not create an independent entitlement; rather, it is a mechanism to assure payment. Chilton Ins. Co. v. Pate & Pate Enterprises, Inc., 930 S.W.2d 877, 886 (Tex.App--San Antonio 1996, writ denied). Because the Texas Government Code is to protect mechanics and materialmen, it is to be construed liberally to accomplish that purpose. The statute has been applied to allow recovery by a defaulting subcontractor's surety, where the surety contracted with the prime contractor to complete the project and the prime contractor failed to pay all amounts due. Id.

Coverage and Bond Amounts

For public jobs under $25,000.00, the Texas Property Code provides for a limited sort of lien on the project, but since most public works jobs are for more than $25,000.00, this provision is rarely used. The amount of the bond the prime contractor is required to obtain for jobs over $25,000.00 is the amount of the prime contract. The amount of the bond limits the amount available to claimants who properly perfect their bond claims. If the total claims exceed the limit of the bond, the claimants share pro rata.

Not All Parties Protected

Bond claims may not be available to lower tier subcontractors and suppliers, i.e., those who do not have contracts with a subcontractor of the prime contractor or with the prime contractor. The old McGregor Act allowed anybody who could prove their work or materials made it into the job to make a bond claim. The recodification of the McGregor Act in 1993 was not supposed to change the law, but in fact, it may have. "Subcontractor" is defined in the Texas Government Code as "a person, firm, or corporation that provides public work labor or material to fulfill an obligation to a prime contractor or to a subcontractor for the performance and installation of any of the work required by a public work contract." Tex. Gov't Code § 2253.001(9). Texas courts have not told us yet whether this definition excludes from bond protection anybody more distant from the prime contractor than a sub-subcontractor.

It is critical that the claimant timely file its claims in proper form. The claim forms must be sent to the correct parties; otherwise, a valid claim can be lost and left unpaid.

Time Limitations

To file a bond claim, the claimant must file notices with the prime contractor and with the surety which provided the bond. The addresses of the prime contractor and the surety may be obtained from the governmental entity for whom the work is being performed. The governmental unit may charge a reasonable fee for a copy of the bond.

For a subcontractor with a direct relationship to the prime contractor, the notices must be mailed on or before the 15th day of the third month after each month in which any of the labor was performed or any of the materials supplied.

A third-tier subcontractor or supplier (one whose contract is with a subcontractor of the prime contractor) must send an earlier notice in addition to third month notice. A third tier subcontractor must send a notice to the prime contractor on or before the 15th day of the second month after each month in which the labor was performed or the material was delivered.

A third-tier contractor who has a potential retainage claim must also send a 15th day of the second month notice to the prime contractor after entering into the subcontract, indicating that its contract provides for retainage, and generally stating the nature of that retainage. This is a "front end" notice requirement.

Eligible contractors who provide specially fabricated material must also send a 15th day of the second month notice. In addition, specialty fabricators must provide a "front-end" notice to the prime contractor. On or before the 15th day of the second month after the specialty fabricator has received and accepted an order for specially fabricated material, it must send the prime contractor notice that it has received and accepted the order. Accordingly, this notice may be required before anything is delivered to the project.

All second and third month notices must be sent by registered or certified mail.

Notice Requirements

The third month notice must be accompanied by a sworn statement of account that states that the amount claimed is just and correct and that all just and lawful offsets, payments and credits have been allowed. Subtract out the retainage or include it, but make it clear what you are claiming. A copy of the contract showing what parts have been completed or the value of partial completion also will suffice.

Litigation on Payment Bonds

If the surety refuses to pay the bond claim, a lawsuit against the surety and the prime contractor must be initiated before the expiration of one year after the date of mailing the claim. Reasonable attorney's fees may be recovered.

Damages Recoverable

Bond claimants may recover for those items of work for which notice has been given properly, but never for more than the amount of the bond. The claim may not exceed the proportion of the subcontract price that the work done bears to the total of the work covered by the subcontract. The Texas Supreme Court affirmed that recovery on a Texas Government Code payment bond is limited to the subcontract price. When a jury awarded more than the remaining contract balance, the court reduced the award. Green International, Inc. v. Solis, 951 S.W.2d 384 (Tex. 1997).

Items not covered in the subcontract, like non-contractual extras and delay claims, are not covered by the bond. Pre-judgment interest and attorney's fees may be recovered. In Chilton, the court allowed the surety to recover for amounts due and for pre-judgment interest from 60 days following the day on which the last claim was filed. The Chilton Court also held that the surety for the defaulting subcontractor was entitled to attorney's fees on the payment bond action, even though there was a counterclaim by the prime contractor against the surety.

Defenses to Bond Claims

You can bet that the surety will raise every possible defense to a bond claim. These defenses most often include lack of timely notices and lack of proper notices, even if the notices were sent on time. The notices and what they contain are crucial or the subcontractor will be left with a lawsuit against a prime contractor which may be broke. The surety also has all of the defenses that the bonded contractor has.

Obtaining Contract Retainage

If the subcontractor's claim is for retainage, special rules apply.

First, the lower tier subcontractor must provide the prime contractor written notice that the subcontract calls for retainage and describe generally the nature of the retainage. This notice must be sent on or before the 15th day of the second month after the date of the beginning of the delivery of public work material or the performance of public work labor.

Before filing suit on a contract for retainage, written notice of the claim must be provided to the prime contractor and the surety on or before the 90th day after the date of final completion of the public work contract. The notice must state the amount of the contract; the amount paid; and the outstanding balance.

A retainage claim is never valid for more than ten percent of the amount of the contract.

Enforcement

What can the prime contractor do to collect money from the public owner? Enforcing a public works contract can be tough from the prime contractor's perspective. Public work by definition is for a governmental entity that has sovereign immunity and cannot be sued without legislative consent. Getting the Texas Legislature to pass a bill allowing a contractor to sue an arm of the State of Texas is not easy, although it happens occasionally.

Although two Texas courts of appeals have recently provided a ray of hope to contractors who fully perform public contracts and sue a sovereign for breaching a contract, the Texas Supreme Court recently held that contractors cannot sue the State without legislative consent. In Federal Sign v. Texas Southern University, 951 S.W.2d 401 (Tex. 1997), the court disallowed a contractor's claims on a public works job regarding a score board. Federal Sign had been awarded a contract by Texas Southern University to build scoreboards. After starting on the work in its shop and incurring significant costs (but before installation had begun), TSU canceled the project. Federal Sign sued for breach of contract, seeking the value of the work that already had gone into building the scoreboard. The court held that the TSU was entitled to sovereign immunity because it was a state agency. The contractor could only sue the State if it had received legislative permission to do so. Because the Texas Legislature had not consented to waiving the State's sovereign immunity, Federal Sign's claim was dismissed. Federal Sign was not paid, even though TSU breached the contract. Public work thus has its own special risks.

Under the Texas Government Code, if a prime contractor walks the job or gets fired, it does not get any contract funds it is owed until all costs of completion are paid from the contract balance and the surety has been reimbursed. If any money is left over, it is available to be paid to the prime contractor. If not, the owner may have a claim against the prime contractor. The prime contractor is also liable to the owner for the difference between its bid and the next low bidder, if it is awarded, but does not accept, the contract.

A subcontractor is not allowed to bring suit on a bond claim until 61 days after the unpaid claim has been made. Note that this time frame, combined with the one year statute of limitations, means that a subcontractor has only about a ten month window to sue on a bond claim.

Federal Projects

The Miller Act, 40 U.S.C. §§3131-3134 (formerly 40 U.S.C. §§270a-270f), provides protection to subcontractors and suppliers on federal jobs, similar to the protection provided by the Texas Government Code. As with Texas public work projects, no liens are allowed on federal property, meaning that subcontractors and suppliers must look to a payment bond for satisfaction, should their contractor not pay them. The notice requirements are not quite so elaborate. The Miller Act does not extend as far as the old McGregor Act and only reaches suppliers to the prime contractor, first tier subcontractors and second tier sub-subcontractors. Second tier materialmen are not covered. MacEvoy Co. v. United States, ex. rel. Calvin Tomkins Co., 322 U.S. 102 (1944).

Payment Bonds on Federal Projects

Payment bonds are required for any federal construction project over $25,000.00. However, for contracts less than or equal to $1,000,000.00, the bond need only be for half of the contract amount. For jobs over $1 million, but less than $5 million, the bond is 40 percent of the contract. For jobs over $5 million, the bond is capped at $2.5 million.

Notice Requirements

Giving someone upstream notice of an unpaid claim is not required under the Miller Act except for someone who has contracted with a subcontractor. A sub-subcontractor must give the prime contractor notice of a claim within 90 days from the date the sub-subcontractor performed the last of the labor or furnished the last of the materials for which the claim is made.

Time Limitations

A suit on a Miller Act bond must be brought no sooner than ninety days after the last of the claimant's work is done and no later than the expiration of one year after final completion of the claimant's work. The lawsuit must be brought in a United States federal district court located in a district where the contract was performed.

Note that "final completion" is often vague. Warranty work comes after final completion, but what if an inspection reveals that contractual obligations have not been met? At least one case held that the time limit to sue was extended until the contract was completely performed. United States v. Sun Engineering Enterprises, Inc., 817 F. Supp. 1009, 1016 (D. Puerto Rico 1993).

What is Recoverable

The general rule under the Miller Act is that if the claimant in good faith believed that the labor or material was intended for the bonded project, the claimant will be entitled to recover, even if the materials were not delivered to the job site. However, the terms of the bond must be examined to see what, if anything, legally has been excluded from coverage.

One important difference between the Miller Act and the Texas Government Code scheme is that on a federal project, attorney's fees are not recoverable from the surety unless the contractor acted in bad faith, vexatiously, wantonly or for oppressive reasons. It is important to understand that an award of attorney's fees under this exception arises from the federal district court's inherent power to sanction abusive behavior and not from any substantive provision of the Miller Act. Tacon Mechanical Contractors, Inc. v. Aetna Casualty and Surety Company, 65 F.3d 486, 489 (5th Cir. 1995). Accordingly, while a district court may sanction a party by awarding attorney's fees, it is solely within the district court's discretion to do so. Id. There is no "vexatious failure to pay" cause of action. Id.

The subcontractor may still seek to recover attorney's fees from the prime contractor. Other damages recoverable under a Miller Act bond are similar to those under the Texas Government Code, i.e., contractual work and/or materials. A few federal district courts have allowed delay damages to be recovered under Miller Act bonds, while others, following state law, have not; the law can vary from state to state.

In the Fifth Circuit, of which Texas is a part, delay damages have been allowed on a Miller Act bond claim. United States ex. rel. Lochridge-Priest, Inc. v. Con-Real Support Group, Inc., 950 F.2d 284, 287 (5th Cir. 1992). The court cited to United States ex. rel. T.M.S. Mechanical Contractors, Inc. v. Millers Mut. Fire Ins. Co. of Texas, 942 F.2d 946, 952 (5th Cir. 1991), for authority to award "out-of-pocket costs of delay" from a Miller Act surety. The contractor was not allowed to recover profits on out-of-pocket delay costs, because the "profits" were not an actual expense. Id. If the contractor wants to recover overhead or general administrative out-of-pocket expenses, the expenses must be demonstrated with reasonable certainty. Id. Out-of-pocket costs of delay are recoverable only after the court has assured itself that the contractor did not cause the delay. United States ex. rel. Wallace v. Flintco, Inc., 143 F.3d 955 (5th Cir. 1998). However, one court affirmed the denial of recovery of delay damages under the Miller Act where the contract provided that the sole remedy for delay was time. United States ex. rel. Straus Systems, Inc. v. Associated Indemnity Company, 969 F.2d 83, 85 (5th Cir. 1992).

Generally, damages for "bad faith" are not recoverable, unless they are provided for in the contract. There is no Texas cause of action for bad faith, either statutory or under common law, against a Miller Act surety for delay in payment. Tacon Mechanical Contractors, Inc. v. Aetna Casualty and Surety Company, 65 F.3d 486, 488 (5th Cir. 1995). There is no cause of action for vexatious failure to pay, nor can a litigant create a cause of action for slow pay by calling it tortious interference. Id. See also Associated Indem. Corp. v. CAT Contracting, Inc., 964 S.W.2d 276, 280 (Tex. 1998), holding that the surety on a Texas Government Code payment and performance bond did not owe its principal a fiduciary duty.

Conclusion

While a traditional Mechanic's Lien is not available for a public project in Texas or on a Federal project, performance bond can take their place. Recovery is possible under the Texas' McGregor Act and the Federal Miller Act. However, contractors and subcontractors need to pay special attention to the time limits and the procedural requirements in order to recover under a performance bond scheme.