New Payment Security, Licensing Laws for California Owners, Contractors, Architects, Engineers


January 7, 2002

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(A version of this article will appear in the California Construction Law Reporter, published by the West Group.)

By James E. Acret

Following is a summary of recently enacted legislation that will affect the construction industry in California:

Architects Must Provide Their Addresses

Every architect shall file with the California Architects Board his or her current mailing address and the proper name and address of the business entity through which his or her services are provided. Business and Professions Code §5558, added by Chapter 313, Statutes of 2001, effective January 1, 2002.

State Departments Must Report Racial Information

Section 10116 is added to the Public Contract Code. State departments are required to report to the governor and the Legislature on participation in public contracting according to race, ethnicity and gender. Departments and contractors are prohibited from using the data compiled to discriminate in the award of contracts. Statutes of 2001, Chapter 882, AB 1084, effective January 1, 2002.

Unlicensed Contractors Must Disgorge Compensation

Business and Professions Code §7031 is amended to provide that unlicensed contractors must disgorge all compensation paid to them for construction work and authorizes an action to recover such compensation. Statutes of 2001, Chapter 226, AB 678, effective January 1, 2002.

COMMENTARY

Dandle Hails Fair Contracting Law

SACRAMENTO, Calif., September 4, 2001 (CPS) - The construction law community was electrified yesterday by news that Governor Davis signed AB 678, Papan, called by its advocates the Fair Contracting Law.

This amendment to Business and Professions Code §7031 closes a loophole that had enabled contractors to keep money paid for unlicensed work.

Frederick Dandle, president of Lawyers for Fair Contracting (LFFC), characterized the news as "the most important construction law development in decades. Before AB 678 was passed," he said, "the Contractors License Law gave California consumers limited protection. The consumer had no way of making the contractor disgorge money that had already been paid."

In a related development, LFFC vowed to alert consumers to their newly enacted disgorgement rights. "LFFC is initiating a painstaking review of all contractors license files in order to detect unlicensed construction activity. Quite a few careless contractors let their licenses expire every year. A license expires if the renewal fee is sent in late. Also, if a contractor fails to maintain worker's compensation insurance, the license expires automatically."

LFFC announced a program to check expired licenses against building permits. "This will enable LFFC to alert consumers that they need to hire a lawyer to get their money back even if the license was suspended or inactive for only a few days," Dandle said.

"I can't emphasize too strongly that the consumer can get his or her money back even for good work that was performed on time and on budget." A smiling Dandle added, "These cases are going to be worth millions."

Dandle disclosed that the new law protects not only homeowners, but also oil companies, developers, subdividers and corporations. "Even a contractor can make an unlicensed subcontractor disgorge," he exulted.

Links for checking California contractor license status

License Board Will Disclose Complaints Against Contractors

Beginning July 1, 2002, the Registrar of the Contractors State License Board shall make available to members of the public the date, nature and status of all complaints on file against a licensee after a determination that a probable violation has occurred. Complaints that are resolved in favor of the contractor are not subject to disclosure. Business and Professions Code §7124.6, Statutes of 2001, Chapter 494, SB 135.

False Claims Documents Must Be Served on Attorney General

Plaintiffs in false claims actions are required to serve copies of all papers that they file in the false claims action on the attorney general, directed to the attention of the False Claims Section in Sacramento. Service shall be within three days after the filing of the papers. Government Code §12656, Statutes of 2001, Chapter 69, AB 222.

$2.2 Billion in Housing Bonds Authorized

The California Housing Finance Agency is authorized to issue $2.2 billion in bonds to finance housing developments and residential structures. Government Code §51350, Statutes of 2001, Chapter 202, AB 1044, effective January 1, 2002.

Certain Project Owners Must Furnish Payment Bonds or Other Security

A lengthy §3110.5 is added to the Civil Code. Owners of certain works of improvement are required to provide security for the benefit of original contractors. The requirement applies to projects above a floor of $5 million. If the contracting owner holds less than a "fee simple absolute interest" (including a leasehold interest) the floor is $1 million.

Fee Simple Absolute Interest

An owner may be deemed to have a fee simple absolute interest even if the property is subject to mortgages, deeds of trust, ground leases or other liens, encumbrances or rights of occupancy.

A lessee under a lease that runs for 35 or more years is considered to own a fee simple absolute interest if the lease covers one or more parcels of a subdivision "in their entirety."

The $1 million floor apparently would apply to the following interests, which could be less than fee simple absolute interests:

Amount of Security

The amount of security is 25 percent of the contract price if the work is to be completed within six months; otherwise, it is 15 percent of the contract price. If there is no fixed price, the amount of security shall be determined from the guaranteed maximum price, and if there is no guaranteed maximum price, the amount shall be determined by a good faith estimate of the total anticipated cost.

Nature of Security

The contracting owner shall provide security for "…the contracting owner's payment obligations under the construction contract." The security is to be "used" only when the contracting owner defaults on "… contractual obligations to the original contractor." Security shall be provided by a payment bond, an irrevocable letter of credit or money in escrow. Specifically:

Failure to Maintain Security

If an owner fails to maintain security as required, the contractor after 10 days of notice may suspend work until security is provided.

Exemptions

The new law does not apply to single-family residences, residential subdivisions, public works or housing developments that qualify for a density bonus under Government Code §65915. Publicly traded companies and their wholly owned subsidiaries are exempt provided the obligations of the subsidiary are guaranteed by the parent. "Publicly traded company" means a company listed on the New York Stock Exchange, the American Stock Exchange or NASDAQ, but only if the company's nonsubordinated debt is rated "investment grade." If the debt is downgraded, the owner no longer is exempt. Also exempt is a "qualified private company" that maintains a net worth in excess of $50 million.

If two or more parties have an ownership interest in real property and one is, and the other is not, the owner of a fee simple absolute interest, then a non-contracting owner is exempt. Conversely, if two or more owners each own a fee simple absolute interest or if each owns less than a fee simple absolute interest, the non-contracting owner is not exempt. (These exemptions are superfluous since the section only applies to an owner who contracts for a work of improvement, and, therefore, there is no reason to provide an exemption for a non-contracting owner, whether of a fee simple absolute interest or not.)

Copy of Construction Loan

A contracting owner is required to provide the original contractor with a copy (certified by the county recorder) of any recorded construction loan "…that shall disclose the amount of the construction loan." No sanction is provided for failure to supply a copy of the recorded construction loan. Owners who are exempted from the obligation to provide security also are exempted from the obligation to provide a copy of the recorded construction loan.

No Waiver

It is against public policy to waive the provisions of this section. The new law does not affect mechanic's lien, stop notice and bond remedies or prompt payment rights.

Statutes of 2001, Chapter 823, AB 1534, Longville, effective January 1, 2002.

COMMENTARY

Unwarranted and Unintended Consequences of AB 1534

Dilution of Security

AB 1534 establishes as one form of security the §3096 payment bond, which is for the benefit of all claimants: contractors, subcontractors, laborers, material suppliers and equipment renters alike. Thus, the security afforded to the prime contractor could be diluted by other claims.

A letter of credit and an escrow account established under AB 1534 would be subject to stop notices, so the security provided to the prime contractor could likewise be diluted by other claims.

Section 3087 defines the term "construction lender" to include any escrow holder or other party holding any fund from which to pay construction costs. It is the duty of a "construction lender" to withhold out of the construction fund sufficient money to answer a bonded stop notice. As a result, financial institutions that issue an Irrevocable Letter of Credit and escrow holders that hold a Construction Security Account are "construction lenders" subject to stop notices. It would be a rare financial institution or escrow agent that would be willing to serve as such a fund holder because it would become a target for stop notice litigation.

"Original Contractor"

It was seemingly the intention of the author of the bill to require contracting owners to post security for the prime contractor's progress payments, but the term "original contractor" also includes trade contractors who deal directly with owners. So a bond, a letter of credit or an escrow must be provided for each original contract that is above the floor.

Stopping the Work

Many project owners who are required to provide security would have difficulty establishing bonding capacity other than by posting collateral. Owners unable to post collateral or fund a letter of credit or escrow account will have to consider violating the law or abandoning their projects.

Chapter 823 was filed with the Secretary of State on October 13, 2001, and goes into effect on January 1, 2002. There is no exemption for works already in progress. Many project owners will be caught off base and unable to make the required deposits.

The sanction for an owner's failure to provide security is that the contractor may suspend work. Absent AB 1534, a contractor would hesitate to suspend work because a wrongful suspension could make the contractor responsible for severe economic damage sustained by the owner and subcontractors. When an owner violates §3110.5 (as many inevitably will), the contractor will have an ace in the hole, legally empowered to stop work at any time that suits its strategic and tactical interests. Owners will be left to deal with mechanic's liens, stop notices and foreclosures with little hope of getting the job started again except by the grace of the prime contractor.

Incompetent Drafting Absolute

Bad drafting is midwife to bad law. A legislature is more likely to pass a law that is incomprehensible than one as clearly mischievous as AB 1534.

Many construction lawyers thought that no legislative drafting could be worse than §3097 (preliminary 20-day notice) which, having been amended 14 times since it was adopted in 1969, has grown from a few simple paragraphs to a legislative monstrosity. Section 3110.5, sadly, is worse. The language is prolix, confusing, ambiguous, contradictory and absurd. Virtual unintelligibility tends to conceal the badness of the law.

Section 762 of the Civil Code defines a "fee simple absolute" as an estate of inheritance that is not defeasible or conditional. AB 1534 grossly corrupts and distorts the meaning of the term.

The reader is invited to consider, as a melancholy example of incompetent drafting absolute, the following two sentences of 73 and 76 words quoted from the end of Subdivision (a) (1):

When the owner contracting for the work of improvement is an owner of an interest in the property, which is less than a fee simple absolute interest, nothing in this section shall require the owner of the fee simple absolute interest who does not contract for the work of improvement to provide any security pursuant to this section or to comply with any of the other obligations of an owner under this section. When the owner contracting for the work of improvement is an owner of the fee simple absolute interest in the property, nothing in this section shall require the owner of an interest in the property which is less than a fee simple absolute interest who does not contract for the work of improvement to provide any security pursuant to this section or to comply with any of the other obligations of an owner under this section.

Since the security requirement is imposed only on contracting owners, these 149 words are nothing more than useless and confusing surplusage!

Unintended Consequences

It is predictable that the market will respond to AB 1534 by placing the burden of providing security on the prime contractor. Given an owner without, and a contractor with, bonding capacity - the contractor will supply the bond! A sense of schadenfreude is irresistible. A measure intended to protect prime contractors at the expense of owners will in practice protect subcontractors at the expense of prime contractors!

Links for checking Circular 570 (Department of the Treasury Financial Management Service), A.M. Best ratings and California Department of Insurance

Joint Committee May Sue Employers Who Fail to Pay Prevailing Wages

Section 1771.2 is added to the Labor Code to authorize a joint labor-management committee established under federal law to sue any employer that fails to pay prevailing wages. The action must be commenced not later than 180 days after the recording of a notice of completion or 180 days after the acceptance of the public work, whichever occurs last. The court may award restitution to an employee and may award to the committee reasonable attorney fees and costs. Statutes of 2001, Chapter 804, SB 588, effective January 1, 2002.

Prevailing Wage Requirements Are Broadened

Labor Code §1720 is amended to broaden the definition of public works to include "installation" as well as "construction, alteration, demolition and repair." Statutes of 2001, Chapter 938, SB 975, effective January 1, 2002.

For an Architect, to Certify Is Not to Guarantee

Section 5536.26 is added to the Business and Professions Code. It provides:

The use of the words "certify" or "certification" by a licensed architect in the practice of architecture constitutes an expression of professional opinion regarding those facts or findings that are the subject of the certification, and does not constitute a warranty or guarantee, either expressed or implied. Nothing in this section is intended to alter the standard of care ordinarily exercised by a licensed architect.

Statutes of 2001, Chapter 728.

Local Agencies May Grant Preferences to Small Businesses

Section 2002 is added to the Public Contract Code to permit local agencies to provide for small business preferences and to require bidders to make good faith efforts to meet small business participation goals. The preference for a small business bidder may be up to 5 percent of the lowest responsible bid, to which may be added a preference of up to 5 percent to bidders who meet subcontractor goals. Statutes of 2001, Chapter 882, AB 1084, effective January 1, 2002.

Public Agencies Must Verify That Bonds for Public Construction Projects Are Issued by Admitted Sureties

Under the Bond and Undertaking Law, bonds may be executed by personal sureties. Section 995.311 is added to the Code of Civil Procedure to provide that bonds required for public works contracts shall be executed by an admitted surety insurer. A public agency approving the bond has a duty to verify that the bond is executed by an admitted surety insurer. The agency may fulfill that duty by printing out and attaching to the bond information from the Web site of the Department of Insurance confirming the surety is an admitted surety insurer or by obtaining and attaching to the bond a certificate from the county clerk that confirms the surety is an admitted insurer. Statutes of 2001, Chapter 182, AB 263, effective January 1, 2002.

COMMENTARY

This amendment to the Bond and Undertaking Law resolves a problem presented to public agencies by Walt Rankin and Associates, Inc. v. City of Murrieta, 84 Cal.App.4th 605, 101 Cal.Rptr.2d 48 (2000), which held a city liable to a subcontractor for accepting a payment bond that was issued by an insolvent and elusive offshore surety company. Under the amended statute, the procedure to be utilized by a public agency in approving a bond is radically simplified.

Links to the California Department of Insurance

Public Contract Code Applies to Charter Cities Absent Conflicting Charter or Ordinance

Section 1100.7 is added to the Public Contract Code to provide that the code applies to charter cities absent a conflicting city charter provision or ordinance. The Legislature also states that the Public Contract Code is "… the basis of contracts between most public entities in this state and their contractors and subcontractors." The Legislature further declares that this enactment is declaratory of existing law as set forth in Howard Contracting, Inc. v. G.A. MacDonald Construction Co., 71 Cal.App.4th 38 (1998). Statutes of 2001, Chapter 832, SB 974, Torlakson, effective January 1, 2002.

Certain Public Contracts May Be Awarded to Certified Disabled Veteran Business Enterprises Without Formal Competitive Bidding

Government Code §14838.5 is amended to permit state agencies to award contracts to certified disabled veteran business enterprises without complying with competitive bidding requirements as long as the agency obtains price quotations from two or more certified small businesses or certified disabled veteran business enterprises. The procedure applies to contracts with an estimated value of less than $100,000. Statutes of 2001, Chapter 183, AB 737, effective January 1, 2002.

Ceiling for Awarding Public Contracts According to Informal Procedures Is Raised from $75,000 to $100,000

Under existing law, public agencies may elect to become subject to the Uniform Construction Cost Accounting Procedures established by the Public Contract Code, and the competitive bidding procedures of such agencies are then established by the Uniform Public Construction Cost Accounting Act. Under that act, public projects of $75,000 or less may be let by informal procedures, and public projects costing more than $75,000 are subject to formal bidding procedures. Public Contract Code §22032 is amended to increase the $75,000 limit to $100,000. Statutes of 2001, Chapter 176, SB 210, effective January 1, 2001.

"Or Equal" Requirements Are Liberalized in Public Contracts

Existing law requires contractors to submit data supporting a request for a substitution of an "or equal" item before the award of the contract. Public Contract Code §3400 is amended to permit the submission of data at a time provided in the specifications or, if no time is specified, any time within 35 days after the award of the contract. Public Contract Code §10129, applicable to state contracts, is similarly amended. Statutes of 2001, Chapter 267, AB 1442, effective January 1, 2002.

Contractors Who Reduce Traffic Congestion During Construction May Receive Extra Compensation

Under existing law, public agencies may pay contractors 50 percent of the savings attained by value engineering proposals submitted by the contractor and accepted by the agency. Public Contract Code §7101 is amended to award to the contractor 60 percent of the net savings from changes that significantly reduce or avoid traffic congestion during construction. Statutes of 2001, Chapter 166, AB 1530, effective January 1, 2002.

COMMENTARY

The Legislature Designates an Official State Tartan

SACRAMENTO, Calif. - Sources have informed California Construction Law Reporter that the Legislature is close to solving the state energy crisis. Sacramento insiders pointed out that the legislative deadlock over adoption of the official state tartan had delayed the consideration of matters deemed less important. The deadlock finally was resolved when the governor signed AB 614, handing a historic legislative victory to Senate Republicans. As a service to its readers, California Construction Law Reporter reproduces the entire bill, as chaptered on July 24, 2001:

Existing law designates the state's flag, motto, nickname, flower, dance, song, tree, reptile, bird, colors, insect, animal, mineral, rock, gemstone, marine mammal, marine fish, soil, fossil, and prehistoric artifact.

This bill designates the official State Tartan.

The people of the State of California do enact as follows:

SECTION 1. The Legislature finds and declares all of the following:

(a) The Scottish people and their descendants have traditionally utilized woven fabrics, called tartan, as emblematic of their family and cultural heritage.

(b) The oppression of Scots included the Dress Act of 1747, which was suppressive legislation that forbade wearing the kilt, playing the bagpipe, or even displaying a swatch of tartan. The penalty for breaking this law was six months in jail on the first offense, and on the second offense deportation to the colonies in America or Australia for seven years of indentured labor.

(c) The tartan is a symbol of Scottish courage in the face of adversity, of loyalty to family and friend, and of the human qualities of perseverance in a just cause and strength in the resolve that freedom is for the many, not the few, which may serve as a continuing inspiration for all people today.

(d) California is the most culturally diverse state in the nation. Californians of Scottish, Scots-Irish, and other Celtic descent have made major contributions to the history and development of the state.

(e) The state's natural splendor and history have been symbolized in the pattern and colors of the California Tartan based on the family tartan of the revered John Muir, but with sufficient originality as to be independently recordable with the Scottish Tartans Society and the Scottish Tartans Authority as a unique tartan. The tartan's blue reflects the sky, the ocean, and the state's rivers and lakes, while the green stands for the state's mountains, fields, and parks. The red, gold, and blue seams signify the arts, sciences, agriculture, and industry of California.

SEC. 2. Section 424.3 is added to the Government Code, to read:

424.3. (a) The tartan defined in subdivision (b) is the official State Tartan, and may be claimed by any resident of the state.

(b) The official State Tartan is generally described as a pattern or set consisting of alternate squares of meadow green and pacific blue that are separated and surrounded by narrow charcoal bands. The squares of meadow green are divided by a gold seam that is supported by charcoal lines on each side. There are three redwood stripes, the middle of which is broader, that are added to each side of the gold seam. The pacific blue square is divided by a sky blue stripe, which is supported on each side by charcoal lines.

The tartan is specifically defined by the following weave code:

Y..B..G..S..G...S..G..S..G..B..A..B..K... Ancient Colors
8..2..20..4..40..8..20..4..20..32..56..2..8... Full Pivots

This weave code means that the threads begin with 8 threads of yellow, followed by 2 threads of black, 20 threads of green, 4 threads of scarlet, 20 threads of green, 8 threads of scarlet, 20 threads of green, 4 threads of scarlet, 20 threads of green, 32 threads of black, 56 threads of azure, 2 threads of black, and 8 threads of sky blue. At that point the weave pivots and returns, beginning with 2 threads of black, and continuing the sequence in reverse order through 8 threads of yellow, at which point it pivots back again.

Government Code §424.3, Statutes of 2001, Chapter 100, AB 614.

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