Payment and Performance Surety Bonds
in Construction Projects: Perspectives of
Owners, Contractors and Sureties
Asserting and Defending Surety Bond Claims and Exploring a Cost Effective Alternative to Protect Rights or Maximize Recovery
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The audio portion of the conference may be accessed via the telephone or by using your computer's speakers. Please refer to the instructions emailed to registrants for additional information. If you TUESDAY, AUGUST 5, 2014
Presenting a live 90-minute webinar with interactive Q&A
Christopher L. McCloskey, Partner, Bricker & Eckler, Columbus, Ohio
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Construction Surety Issues
Bricker & Eckler LLP
Columbus ● Cincinnati-Dayton ● Cleveland ● Marietta
Presents:
Construction Surety Issues –
Performance Bonds
August 5, 2014
Chris McCloskey, Esq.
Construction Surety Issues
Who are the parties to a surety bond?
• Surety
– A company licensed to issue surety bonds.
• Principal
– Contractor whose contract is being bonded.
• Obligee
Construction Surety Issues
The Surety as a silent partner
A surety bond is an obligation by which a company
(Surety) agrees to compensate an owner (Obligee) if its contractor (Principal) fails to perform its obligations
under its contract with the Obligee.
OWNER/OBLIGEE CONTRACTOR/PRINCIPAL
SURETY
SURETY BOND
Construction Surety Issues
RTFB – Read the Fabulous Bond
• Bonds are Contracts
• Terms of the Bond Control
• Notice Provisions
– AIA A312 §5: “When the Owner has satisfied the
Construction Surety Issues
Public Projects Require Surety Bonds
• Public surety bonds are governed by the
provisions of the applicable statute. (See, e.g.,
ORC 153.571.)
• If the terms and conditions of the surety bond
for a public project vary from the statutory form
of bond requirements, the statutory
requirements are read into the bond and prevail
over the bond language. See
Southern Surety
Construction Surety Issues
Bonds Are Not Insurance
• Bond
– Covers the work of the contract.
– AIA A312 §9: “The Surety shall not be liable to the Owner or others for obligations of the Contractor that are unrelated to the Construction Contract….”
Construction Surety Issues
Bonds Are Not Insurance
• Insurance (CGL)
– Typically does not cover the work itself. •Exception: Builder’s Risk Insurance.
– Covers acts or omissions of Contractor that cause injury or damage other than to the work itself.
Construction Surety Issues
Types of Claims against Surety Bonds
• During construction
– Contractor’s failure to perform contract.
• After Construction
– Defective work discovered after completion. •One-year call back period.
•General warranty claims (up to 8 years).
Construction Surety Issues
How is performance guaranteed?
• It is not!!
• Indemnity is the surety’s obligation – it is a financial promise.
• Financial - indemnity
– The Contractor’s furnishing labor, equipment and materials in conformance with the Contract
Documents.
– Warranties – AIA A201, §3.5: “The Contractor further warrants that the Work will conform to the
Construction Surety Issues
What is the surety’s risk?
• “Penal Sum” of the bond in most cases – this is a fixed $$ amount – the amount of the original Contract + authorized Change Orders.
– Exceptions:
•If Surety takes over project.
Construction Surety Issues
When May the Surety Get Involved?
• Contractor declared in
material
default.
• Maybe sooner
– Surety may work in background to help Contractor. – If suppliers or subcontractors file claims and Owner
Construction Surety Issues
When is the Surety Liable on its Bond?
• When the Contractor is in material default under
the bonded Contract,
and
• When the Contractor has been declared by the
Owner to be in default,
and
• When the surety has been properly notified of
the default,
and
Construction Surety Issues
The Surety’s Obligation To Investigate
• Duty to investigate is triggered by Owner’s
declaration and notice of material default.
• Investigation must proceed within a reasonable
time under the circumstances.
• Investigation must be sufficient for the Surety to
decide how to proceed.
Construction Surety Issues
Notice of Default
• Should be sent to both the Contractor and the
Surety.
• Should state the reasons for default.
• Should be sent in accordance with the
Contract notice provisions.
Construction Surety Issues
Factors affecting the Surety’s Decision
• The nature of the default.
• The cost to cure the default.
• Time pressures on performance.
• Bankruptcy of the Contractor.
• Whether the Surety is adequately indemnified
by the Contractor at the time of default.
Construction Surety Issues
Surety’s Options
• Do nothing.
• Finance the Contractor.
• Take over and complete the Contract.
• Tender a replacement Contractor to take over the
Contract.
Construction Surety Issues
Surety’s Options
•
Do nothing.
– Surety loses control of completion/correction costs. – Difficult to challenge costs.
– Obligee has duty to mitigate damages. •Does not mean lowest possible cost.
Construction Surety Issues
Surety’s Options
•
Finance the Contractor
– Is this option better than termination?
– Why is the Contractor in financial distress? – What is the Contractor’s history?
– Is the Contractor capable of performing? – How strong is the indemnity protection?
Construction Surety Issues
Surety’s Options
•
Take over and Complete the Contract
– Is this in the Surety’s best interest? •Maintain control of the costs. •Mitigate the losses of all parties. •Avoid costly litigation.
Construction Surety Issues
Surety’s Options
•
Tender a Replacement Contractor
– Sureties have good contacts in the industry. – Access to qualified consultants.
– Surety will assist with negotiation. – Obligee/Owner must agree.
– Surety will want to be released.
Construction Surety Issues
Surety’s Options
•
Allow Owner to Complete the Contract
– Sometimes no choice when time is critical and not enough time to fully investigate.
– Surety at risk of higher costs.
– Owner/Obligee at risk of litigation.
– Owner must proceed in reasonable manner. – Owner has duty to mitigate damages, but not
Construction Surety Issues
Surety’s Options
•
Tender penal sum of bond to the Owner
– Relieves the Surety of further obligation to the Obligee/Owner.
– May result in Surety’s battle with the Contractor/Principal.
Construction Surety Issues
Christopher L. McCloskey
Bricker & Eckler LLP
100 S. Third St.
Columbus, Ohio 43215
[email protected]
www.bricker.com
P
AYMENT
B
ONDS
: C
OVERAGE
I
SSUES
AND
L
ITIGATION
D
ISPUTES
MICHELE LEO HINTSON
Payment Bonds: Purpose and
Structure
– Protect those supplying labor and/or materials
on a Construction Project
– Surety is bound to make payments to those
that its principal, or the contractor, is bound to
contractually
Payment Bonds: Types of Bonds
• Miller Act Bonds
• Little Miller Act
Bonds
• Statutory Bonds
• Common Law
Payment Bonds: Miller Act Bond
• Product of Federal Statute
• Bonded Contract Must Exceed $100,000
• Contract Must be for a “Public Building or Public
Work of the Federal Government”
Payment Bonds: Miller Act Bond
• Conditions Precedent to Filing Suit
– Cannot File Suit until 90 days after the day on
which the last labor or material performed or
provided
– If no contractual privity with Contractor, must
provide notice of non-payment
Payment Bonds: Little Miller Act
• Every State in the Union has some form of public works law to protect
Consumers
Payment Bonds: Statutory Bonds
• Created by Statute
• Unrelated to Public Contracts
• Provides the Obligee, or Owner, with another
option for managing risk of nonpayment on a
particular project
Payment Bonds: Who is Covered
• A Claimant in Privity
with the Principal is
Always Covered
Payment Bonds: Who is Covered
• Subcontractors
• Suppliers
Payment Bonds: What is Covered
• Labor- including, in some circumstances, a
Professional’s offsite labor
• Materials- including, in some circumstances food
needed for the project, and those not yet
incorporated into the Project
Payment Bonds: What is Covered
• Insurance Premiums or Loans
• Delay Damages
• Lost Profits
• Interest
Payment Bond: Surety Defenses
• Even technically valid
claims may have
Payment Bonds: Surety Defenses
“A Surety Stands in the
Shoes of its Principal”
Payment Bonds: Surety Defenses
Claimant’s Material
Breach
• A payment bond claimant’s material breach is a
Payment Bonds: Surety Defenses
Payment
• Payment is a defense
to a claim, regardless of
who makes the
Payment Bonds: Surety Defenses
Contractual
Conditions
“Pay When Paid”
Clauses in Contracts
Payment Bonds: Surety Defenses
Pass Through Defenses
(the “disputes” clause)
• Only the prime contractor is required to pursue
Payment Bonds: Surety Defenses
No-Damage-for-Delay Clause
• Surety may assert a no-damage-for-delay clause— so long as the delay is not caused by bad faith,
Payment Bonds: Surety Defenses
Change Orders and
Extras
• Surety may assert its principal’s defenses to charges for extra work, and may assert a failure of compliance with contractual
requirements—such as a
Payment Bond: Surety Defenses
Waiver, Estoppel &
Release
• Advance waiver unlikely • Estopped usually requires
fraud or negligence
Payment Bonds: Surety Defenses
Unlicensed
Contractor
• If local law provides a defense to the prime
contractor based upon the subcontractor’s failure to be properly licensed, that
Payment Bonds: Surety Defenses
Failure to Mitigate
Damages
• A payment bond claimant has a duty to mitigate damages, unless the liable
Payment Bonds: Surety Defenses
Limitation to the
Penal Sum
Payment Bonds: Surety Defenses
• Carefully consider
any potentially
applicable defenses
under local law
• READ THE BOND
QUESTIONS?
MICHELE LEO HINTSON
SHUMAKER, LOOP & KENDRICK, LLP
