It’s not long ago when a very interesting decision was handed on enforcement of pay if paid provision by appeals of the third circuit court in Pennsylvania. It was between liberty mutual insurance company v Sloan and company. It was found that liberty mutual insurance Company does not need to pay the payment bond claim to the Sloan, a subcontractor. It was because there was a pay if paid provision in the subcontract which was finalized between the Sloan and shoemaker, the contractor who secured the bond. After an intense hearing proceeded between the contractor lawyers, the court concluded with a decision that shoemaker does not have to pay Sloan in full payment because they were also not paid in full by the owners of the project. This was also because the shoemaker was not liable to get fully paid under the contract, so the court claimed that surety on the bond claim could not be liable.
A lot of things are pretty much clear about the pay if paid provision and other liquidating agreements after the Sloan case. But the changing lien laws in the region definitely question the lasting impact such a case and its conclusion could bring along.
Regions public policy in favor of subcontractor’s right to secure payment
As far as the Sloan case is concerned, the agreement contract between the two parties, the Sloan and the shoemaker claimed that the right to file a mechanic lien is waived by the Sloan. The Sloan on the contrary did put up an argument against it; they claimed that on the Sloan bond claim if there was any surety to rely on as stated about the pay if paid provision in the contract, now this would be very much different from the policy of the region of right to secure payment, favoring the subcontractors.
There was an amendment in the lien law spelling out this policy. There is a section 1401(b) in the lien law which makes it invalid to forward lien waivers and unenforceable, but only valid when they are provided in place of the payment after subcontractors have completed their work. It could also be valid in the case when the guaranteed payment bond is issued by the contractor for the labor and also for the material. This provision serves a very important purpose of providing an alternate avenue to the subcontractors in order to recover the payment in place of waiver for lien rights. A subcontractor if once receives the security bond protection is more than willing to give up the liens protection. In the case of Sloan, the pay if paid provision takes away the protection. Though what’s important in the whole case stands with the fact that the lien law did not stand effective when Sloan made an entry in the subcontract.
Surety’s ability to rely on pay-if-paid provision may be contrary to public policy
There was a footnote released by the court stating that the ruling which was given in favor of surety did not deny any of the public policy as it was very clear that the Sloan have entered the contract way long before the important lien law was enforced and came in affect. The Sloan never relied on this policy and was quick to accept what was arguably a trade-off between a surety bond and mechanic’s lien.
But two very important questions were put forward in the footnote
1) The first one stated that if the court would have come on to a similar decision and given the same ruling if the lien law was enacted and the Sloan would have entered the contract after it.
2) What will the courts do now, if they will allow the surety to have relied on pay if paid provision in their contract which has been agreed upon after the lien law amendment where the contractors were expected to waive the lien rights.
The court didn’t end up clearing their opinion on the questions above. But there is definitely a space to have a good argument after the lien law amendment of 2007 was made. Wouldn’t it go against the public policy if sureties are allowed to have relied on pay if paid provision and act as a solid defense against the bond claim of the subcontractors?
What’s next?
The decision on Sloan has done almost nothing in order to prevent the subcontractors, who ended up waiving their lien rights after the lien law amendment, to argue that surety reliance on pay if paid provision has been against the public policy. The subcontractors have a valid reason to make an argument that the amendment of the lien law was to ensure that all those contractors who were expected to waive their lien rights will get the protection in the payment bond. When the surety has relied on the pay if paid provision in order to deny payment for the bond claims, has kept the purpose on surety bond at a very fine line. And thus has denied the very purpose of the lien law amendment.
The contractor lawyers argue that after the Sloan decision the sureties will rely on them and other in line principles from the surety law which states that the liability of surety will only be triggered after the maturity of the principal debt. There also stands an argument for the sureties that the bonds are being provided in order to benefit and protect the obligee which is usually the owner and not the contractor. Therefore the reliance stated by the subcontractors on the bonds is misplaced.
The decision on the Sloan has been important without any doubt as the dealing of the inline cases is concerned but is also much clear that the impact it will have will certainly be limited and subject to arguments and changes. A lot of tough questions likely remain unanswered. It will be upon other courts to answer these vital questions and make a much clear understanding of this vital topic.
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