The California Legislature recently enacted Civil Code '3260.2, providing prime contractors with a new remedy in the event of non-payment by an owner on a private work of improvement. This remedy is commonly referred to as the "10-Day Stop Work Order." In general, the 10-Day Stop Work Order allows a prime contractor who has been unpaid for 35 days to stop work on a project and cut off any further liability to subcontractors and material suppliers for labor, services, equipment or materials to be furnished to the project. The remedy also insulates the prime contractor from certain claims for damages or delays incurred by the owner as a result of the cessation. The new law acts as a safety net to protect prime contractors from owner insolvency or the clear and wrongful withholding of payment. From the owner's perspective, however, given the contractor's unilateral right to stop work and the owner's lack of satisfactory recourse, this new law is ripe for abuse. This article provides a brief summary of the history that led to enactment of the statute, a guide to the remedy, procedures and effect of the 10-Day Stop Work Order and a look into the future issues that are almost certain to arise from the statute.
The History
The stop work law was one of two California assembly bills introduced in response to the 1997 California Supreme Court decision, Wm. R. Clarke v. Safeco Ins. Co. (1997) 15 Cal.4th 882. In that case, by a four to three decision, the Supreme Court ruled that a "pay-if-paid" provision in a prime contractor's agreement with its subcontractors was void because it resulted in an indirect forfeiture of the constitutionally protected mechanic's lien right. As utilized by prime contractors, "pay-if-paid" provisions condition the prime contractor's obligation to pay subcontractors upon receipt of payment from the owner. If the prime contractor does not get paid, neither do the subcontractors. As a result of the Clarke decision, a prime contractor is obligated to pay its subcontractors within a "reasonable time" whether or not the prime contractor received payment from the owner. In an attempt to limit prime contractors' responsibility for guaranteeing payments to their subcontractors even if the owner delays, refuses or is unable to make payment, two assembly bills were introduced in the California legislature. Assembly Bill 2280 required property owners who entered into construction contracts for more than $1 million to post financial security for the project in the form of a surety bond equal to 50% of the contract amount, or a letter of credit equal to 15% of the contract, or a cash deposit of three months worth of payments. Although AB 2280 was passed by both houses of the legislature, Governor Wilson vetoed the bill. AB 2627, the 10-Day Stop Work Order bill, was passed, signed by the Governor and enacted into law as new Civil Code §3260.2.
The Remedy
The 10-Day Stop Work Order remedy of Civil Code § 3260.2 is available to original contractors who are not paid all monies owed, pursuant to a written contract for a private work of improvement, within 35 days from the date payment is due under the contract, provided there is no dispute as to the satisfactory performance by the contractor. Unless all amounts then due are paid within ten days of the date of the notice, the original contractor has the right to stop work on the project. In California, an "original contractor" is one with a direct contractual relationship with the owner (Civil Code §3095). The 10-Day Stop Work Order statute applies to all contracts entered into on or after January 1, 1999. Retentions withheld by a lender in accordance with a construction loan agreement are not subject to Civil Code § 3260.2.
The Procedure
Before an original contractor can actually stop work under Civil Code §3260.2, there are certain conditions and specific procedures which must be satisfied. First, the original contractor must be owed monies pursuant to a written contract and 35 days must have elapsed since payment was due. Second, there must be no dispute as to satisfactory performance of the work or materials furnished by the contractor. Third, at least five days prior to the service of the 10-Day Stop Work Order, the prime contractor must post, in a conspicuous location at the jobsite and at the jobsite's main office, if one exists, a notice that the prime contractor intends to file a 10-Day Stop Work Order. Fourth, a copy of the written notice must be served upon all subcontractors with whom the original contractor has a direct contractual relationship at the same time the notice is served upon the owner. Specific requirements to effectuate service are set forth in the statute.
Within five days of receipt of a 10-Day Stop Work Order, the owner must forward a copy of the notice to the construction lender by first-class mail. If the original contractor is not paid within ten (10) days of the date of the notice, then the original contractor has the right to stop work on the project. Once the dispute is resolved or the 10-Day Stop Work Order is canceled, the original contractor must post a notice in a conspicuous location at the jobsite and the main office and serve a copy of the notice on all subcontractors with whom the original contractor has a direct contractual relationship informing them that the dispute has been resolved or the notice canceled. Original contractors should develop forms and calendering procedures to comply with the statutory requirements.
The Effect
The original contractor's right to stop work under this statute is in addition to any other rights that the original contractor may have under the law. If all of the requisite notice requirements are met, the original contractor, its surety, subcontractors, and their sureties, are not liable for any delays or damages that the owner may suffer as a result of the notice and subsequent work stoppage. A prime contractor's liability to a subcontractor or material supplier resulting from the cessation of work is limited to the amount of monetary damages the subcontractor or material supplier could recover under the mechanic's lien law for goods and services provided up to the date the subcontractor stops furnishing work and/or materials, including the ten-day notice period, however, this provision does not apply to limit monetary damages for custom work, including materials which have been fabricated, manufactured, or ordered to specifications which are unique to the job. If payment is not made within ten (10) days from the date the notice was served, the original contractor or its surety may seek a judicial determination of the liability for the amount not paid in an expedited proceeding in the Superior Court in the county in which the project is located.
The Future
In the "clean" case of owner insolvency, the statute is clear and works well to prevent an unjust result by allowing the original contractor to limit its liability for payment to subcontractors to 50 days of labor and materials furnished to the project (i.e., payment outstanding for 35 days plus 5 days for initial notice period plus 10 days for owner to cure). However, in those cases where the owner has withheld payment because it alleges that the contractor (1) is behind schedule; (2) has performed defective work; (3) has failed to repair defective work; (4) has wrongfully substituted inferior or defective materials from that called for in the plans and specifications; or (5) disputes that certain work constitutes a change, the statutory procedure provides great potential for abuse by the contractor. In essence, the statute seems to permit the contractor to determine, unilaterally, whether "there is no dispute as to the satisfactory performance" of the contractor. It is unlikely that the original contractor will exercise this discretion in a manner to protect the owner. Moreover, if the contractor complies with the statutory procedure, it can stop work and insulate itself from potentially disastrous damages arising from the work stoppage. The owner's sole remedy for wrongful work stoppage seems to be to answer and defend an amorphous "expedited" judicial proceeding in Superior Court filed by the contractor or its surety. In counties suffering from overcrowded dockets the "expedited" proceeding may take months to resolve.
It is against public policy to waive the provisions of the statute in any written contract for a private work. Thus, owners must utilize other contractual measures and project administration procedures to minimize the impact of wrongful work stoppage. Owners should require contractors to submit a preliminary payment application or "pencil draw" in order to identify and resolve disputes before the date for submittal of payment applications. For unresolved items, owners should immediately document all disputes in writing.
Only time and litigation will tell whether the 10-Day Stop Work Order actually becomes a reasonable and acceptable alternative to the "pay-if-paid" clause or whether the legislature or judiciary will attempt to craft a more balanced response to the Clarke decision.
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