As often discussed in this column, a gap in payment protection exists for contractors and subcontractors on projects developed on public land by private developers utilizing private sources of financing (the so-called public/private “hybrid” project). Contractors on hybrid projects cannot file mechanic’s liens against the land, which is public land, nor against the developer’s leasehold interest in that public land.
In the early 2000’s these hybrid projects began to be utilized with increasing frequency and on larger construction projects (for example, Hudson Yards and Barclays Center). In order to bridge this gap in lien rights and provide some level of protection to those who actually perform the labor and furnish the material, the New York State Legislature sought to amend Section 5 of the Lien Law.
However, the amendment, after review by the Court of Appeals, the highest Court in the State of New York, proved not to provide contractors and subcontractors with any effective security for payment for their labor and materials on hybrid projects. Now, however, there is pending legislation which will close the loophole in the 2004 amendment of Lien Law Section 5 and which would provide contractors and subcontractors with the long promised and sought-after rights and remedies on these hybrid projects.
MECHANIC’S LIEN AND PAYMENT BOND RIGHTS ON HYBRID PROJECTS
Mechanic’s lien and payment bond/security rights and remedies in New York depend upon whether the project is a private or public improvement. In the case of a mechanic’s lien on a private improvement project, the security interest afforded by a mechanic’s lien attaches to the real property to which the labor and material was furnished by the general contractor or subcontractor. On a public improvement, the mechanic’s lien creates a “security interest” in the unpaid contract monies due from the public owner to the general contractor, but not to the public property itself.
But with respect to the hybrid private improvement on public land, it is long settled law that there are no mechanic’s lien rights either with respect to the land or the private developer’s leasehold interest. And while, with respect to public improvement projects, State Finance Law 137 requires that a contractor provide performance and labor and material payment bonds, there are no statutory requirement for a performance or labor and material payment bond on a private improvement project.
THE 2004 AMENDMENT TO SECTION 5 OF THE LIEN LAW
A 2003 proposed amendment to Section 5 would have required the private developer for which the improvement has been performed to post a “payment bond” guaranteeing the payment due the contractor, subcontractor, and materialmen. This bill however was vetoed by then Governor Pataki, who found fault in the language of the Bill in that it mandated the use of a payment bond and would not allow a developer to post a letter of credit or other form of security.
In response to the Governor’s veto of the bill, the Legislature introduced an amended version in 2004. The 2004 bill, instead of requiring a payment bond, provided for either a payment bond or “other undertaking”. This bill was passed by both Houses of the Legislature and signed into law by Governor Pataki. The new law provided in relevant part, “that where there is no public fund to finance a public improvement with an estimated cost in excess of $250,000, the chief financial officer of the public owner shall require the private entity for whom the public improvement is being made to post, or cause to be posted, a bond or other form of undertaking guaranteeing prompt payment of moneys due to the contractor, his or her subcontractors and to all persons furnishing labor and materials.” (Lien Law §5).
THE JUDICIALLY DETERMINED “FLAW” OF THE 2004 AMENDMENT
Unfortunately, what was thought to be the solution to the gap in the lien law created by hybrid projects proved to offer no protection to the general contractor or subcontractors who furnished labor and material to a hybrid project. In practice developers have, in lieu of a bond or “other undertaking”, taken to posting a “completion guarantee”. This practice of posting a “completion guarantee” was upheld by the Court of Appeals in its decision in Skanska USA Building, Inc. vs. Atlantic Yard B2 Owners LLC.
The Skanska decision found that the “completion guaranty” satisfied the mandate of Section 5, as an “other form of undertaking” within the meaning of the statute. However, the courts have refused to read into the construction contract or the completion guarantee the payment protections intended by Lien Law Section 5 to be afforded to contractors, subcontractors and materialmen. Thus, while this completion guarantee protects the public owner by ensuring that the project would be “completed”, under the Skanska decision and subsequent decisions following Skanska, it does nothing to guarantee payment to those who actually furnish labor and material to the hybrid project.
THE LEGISLATIVE INITIATIVE TO CORRECT SECTION 5 OF THE LIEN LAW
The STA (in coordination with the Empire State Subcontractors Association (ESSA)), as part of its legislative agenda for 2021 has supported the introduction of another proposed amendment to Section 5 of the Lien Law to provide real payment protection for contractors and subcontractors working on hybrid projects. This bill, which was introduced on March 8, 2021 and is pending in both houses of the legislature, would replace the problematic “bond or other undertaking” language in Lien Law Section 5 with “[a] Surety Bond issued by a Surety duly licensed in the State of New York or an Irrevocable Letter of Credit in the amount equal to the cost of the construction work.”
If passed by both Houses and signed by Governor Cuomo this proposed amendment would finally put into effect the protection which was intended in 2004, that contractors and subcontractors who furnish labor and material on the hybrid projects will be paid, protection intended in the place of their ability to file mechanic’s liens on hybrid projects.
We commend the STA (and ESSA) for its continuing efforts in spearheading the legislative initiative to correct this unfortunate gap created by the language of the 2004 amendment of Section 5 of the Lien Law and the 2018 Court of Appeals’ Skanska decision which, in essence, nullified or stripped away the intended protection for contractors and subcontractors of the 2004 amendment by allowing a “completion guarantee” to the public owner to satisfy the requirements of Lien Law Section 5.
It cannot be said better than Justice Judith Gischan, in her dissenting opinion in the Appellate Division decision in Skanska, that, “[i]n order to achieve the objective of the Lien Law, and consistent with the legislative history of the amendment, any alternative undertaking must provide substantially equivalent protection to that provided by a bond. The alternative undertaking should be a financial arrangement that would afford an unpaid contractor, subcontractor, laborer or provider of materials, a fund of money or an asset, available for predictable and prompt payment…”
We trust that the Governor will carefully consider the revision of Lien Law Section 5, if presented by the legislature, and recognize that such amendment would have no direct impact to the public fisc with respect to these public/private hybrid improvements on public lands. Moreover, the proposed amendment would finally provide the long-promised payment security and protection on hybrid projects for the economically vital New York State construction industry, which has been extremely hard hit by the Covid-19 pandemic in 2020-2021, with its effects still to be fully felt and realized.
If you have any questions or concerns regarding this topic, please do not hesitate to contact us.
Mr. Goldberg is Special Counsel for Infrastructure and Private Sector Construction at Moritt Hock & Hamroff LLP. He can be reached at firstname.lastname@example.org or (516) 265-1165. Mr. Fryman is a Partner and Chair of the Construction Practice Group at the firm and can be reached at email@example.com or (516) 265-1168.
Brian P Craig, Of Counsel at Moritt Hock & Hamroff LLP, assisted in the preparation of this article.