How Can I Secure Payment If There Are No Lien Or Bond Rights On The Project?

How Can I Secure Payment If There Are No Lien Or Bond Rights On The Project?This blog’s focus is traditionally on mechanics lien and bond claim laws. When providing services, materials or labor to a construction project, I feel it’s best to understand and utilize the lien-like remedy available to those furnishing. It provides security for the credit you’re extending to your customer.

However, when working with folks in the construction industry, we encounter different and unique situations all the time. Sometimes, our clients are faced with situations when there may not be any lien or bond claim rights. While your company can usually find security in your lien and bond rights, what can you do to protect yourself in these situations when there aren’t lien or bond rights?

Examples Of When You May Not Have Lien or Bond Claim Rights

Wait.  What am I talking about? You thought whenever you furnished labor or materials to a construction project, you’re always with bond or lien rights…

Well, unfortunately, the law is never black and white, and if there is one rule to which there is no exception, it is the rule that there are always exceptions.  In the mechanics lien and bond claim world, those furnishing labor or materials to a construction project usually have the right to file a mechanics lien or bond claim.  Here, however, are some circumstances when those rights may not exist:

Special Security Options: Joint Checks, Personal Guaranties, Letters of Credit

If you’re about to furnish to a construction project without bond claim or mechanics lien rights, you should consider additional security devices available to protect your rights to get paid. [pullquote style=”right” quote=”dark”]Unlike mechanics lien and bond claim rights, special security devices do not arise by law, and therefore, you’ll need to negotiate these rights at the time of contracting.[/pullquote]

Unlike mechanics lien and bond claim rights, special security devices do not arise by law, and therefore, you’ll need to negotiate these rights at the time of contracting.

Here are three popular security instruments you can contract into to protect your rights to payment.

Joint Check Agreements

What is a joint check agreement?  It’s simply an agreement between two parties, whereby each agree that any payments to one will be made by issuing a check with both parties names on it.

In the construction industry, joint check agreements are popular.  A typical scenario is when a material supplier and a subcontractor enter into a joint check agreement, and any payments from the prime contractor to the subcontractor will list the material supplier on the check. This ensures that the material supplier isn’t cut out of any payments, and that the subcontractor does not misappropriate any payment funds.

Joint check agreements should always be in writing. While they may be effective in some states if agreed to orally…good luck proving it! Also, while it’s best to enter into joint check agreements at the beginning of a project, these agreements can be entered into at anytime. They very commonly get executed when a material supplier begins to have credit concerns about a subcontractor, well after first furnishing.

To ensure compliance, it is best to get the paying party (i.e. the prime contractor) to sign on and agree to the joint check agreement.  At the very least, make sure the paying party has a copy of your written agreement.  SMC Electric has a great example of a joint check agreement on their website, and appears to be an actual agreement they use with their clients.

How Can I Secure Payment If There Are No Lien Or Bond Rights On The Project?

Personal Guaranty

Doing business with an organization is usually just fine. However, if you’re working with a small closely-held corporation or business entity, you should be cautious because that company can quickly shut down and leave its creditors hanging.

In these situations, you’ll want to consider requiring the company’s shareholders or members to sign a “personal guaranty,” which simply means that if the company doesn’t pay the debt, you can seek payment directly from the shareholder or member individually.  This is not a guarantee for payment, but it can be very helpful when negotiating your debt if a company is tight on cash.

Letters of Credit

Finally, a letter of credit is a terrific security tool if you can get it.  Wikipedia has a great definition:

A letter of credit is a document that a financial institution or similar party issues to a seller of goods or services which provides that the issuer will pay the seller for goods or services the seller delivers to a third-party buyer. The issuer then seeks reimbursement from the buyer or from the buyer’s bank. The document serves essentially as a guarantee to the seller that it will be paid by the issuer of the letter of credit regardless of whether the buyer ultimately fails to pay. In this way, the risk that the buyer will fail to pay is transferred from the seller to the letter of credit’s issuer.

You can furnish materials or labor without much concern if you can get a letter of credit from your customers bank or some other reputable and reliable company.

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  • http://www.nc-construction-law.com Matt Bouchard

    Great post, Scott! A couple quick thoughts:
    (1) Another example of folks not covered by liens or bonds: third-tier and lower subs and suppliers on federal Miller Act projects.
    (2) When it comes to joint check agreements, there’s “security,” and then there’s “SECURITY.” The most commonly used forms tend not make the joint check payee a secured creditor of the party in the middle of the agreement should that party seek bankruptcy protection. In the context of a GC-sub-supplier joint check agreement, that level of “SECURITY” is only likely to be established if the agreement includes an outright assignment of funds, a trust fund provision or a security interest in the accounts receivable due to the sub. Without such language, the supplier is likely just an unsecured creditor in the event of the sub’s bankruptcy filing.
    Cheers!

    • http://www.zlien.com Scott Wolfe Jr

      Matt – Two very good points here. Thanks for checking in and for the comment.

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