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Owner May Assert Contractor's Claim Against Architect Pursuant to Pass-Through Agreement, N.Y. Court Holds
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March 26, 2007
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Thelen Reid Brown Raysman & Steiner LLP
An owner/developer hired an architectural firm to provide architectural and design-related services in connection with the renovation and rehabilitation of its building. The owner also entered into an agreement with a contractor to perform the general contracting services for the project. As the project proceeded, the architect allegedly performed its work negligently and breached its contract. The owner claimed that, as a result of the architect's negligence and breach, both the owner and the contractor were separately and independently damaged.
As the project came to completion, the owner and the contractor entered into two agreements concerning liability for delays and cost overruns. First, the parties entered into a liquidating, or pass-through, agreement. This agreement provided that (1) the owner was liable to the contractor for increased costs due to defective performance by the architect; (2) the amount of such liability would be liquidated to the amount of any recovery by the owner against the architect for the contractor's damages; and (3) the owner would pass through any recovery on such claims to the contractor. Second, the owner and the contractor entered into a completion contract pursuant to which the parties agreed on terms to complete outstanding work on the project and also to waive all claims against each other than those subject to the pass-through agreement.
The owner then sued the architect, bringing separate claims for its own damages and, pursuant to the pass-through agreement, for damages incurred by the contractor. The architect moved to dismiss the owner's claims brought on behalf of the contractor, arguing that because the contractor did not have any valid claim against the architect (because of the lack of contractual privity between them), the owner could not assert damages to the contractor on its behalf.
The trial court granted the architect's motion and dismissed the owner's claims brought on behalf of the contractor. The court reasoned that the owner could not enforce the pass-through agreement because (1) the owner had its own independent claims against the architect, thus precluding it from asserting a claim for the contractor's damages; and (2) the owner did not allege in its complaint that it would have been liable to the contractor absent the pass-through agreement. The appellate court reversed. North Moore Street Developers, LLC v. Meltzer/Mandl Architects, P.C., 23 A.D.3d 27, 799 N.Y.S.2d 485 (2005).
The Appellate Division held that liquidating agreements generally are enforceable and need not take any particular form. It held that the owner could attempt to recover damages allegedly incurred by the contractor resulting from the architect's performance because the pass-through agreement provided a legal basis for the owner's assertion of those claims. The court found that such agreements eliminate duplicative legal proceedings that are wasteful of both public and private resources.
The Appellate Division found that the pass-through agreement at issue contained the three elements present in pass-through agreements previously held to be enforceable: (1) the imposition of liability upon a party for a third party's increased costs, thereby providing the first party with a basis for legal action against the party at fault; (2) the contractor's agreement to liquidate liability in the amount the owner recovers on behalf of the contractor; and (3) the owner's obligation to pass through to the contractor the portion of the award it recovered on behalf of the contractor.
Moreover, the Appellate Division held that the owner could enforce the pass-through agreement even though it had its own independent claims against the architect and regardless of whether it would have had any liability to the contractor apart from the pass-through agreement. This final point was not critical to the judgment because the court found that the owner had, in fact, alleged in its complaint that it had a basis for its liability to the contractor in its initial agreement with the contractor. The Appellate Division held that the trial court's holding to the contrary was based on an incorrect interpretation of the law and a misreading of the complaint.
The Appellate Division further noted that liquidating agreements may be memorialized in a subcontract or a separate written agreement and may even be assembled from several documents executed over a period of years. Claims also may be assessed pursuant to a liquidating agreement even though the party in privity with the wrongdoer did not suffer damages of its own and is not required to play an active role in the litigation.
The Appellate Division also re-affirmed the ruling in Bovis Lend Lease LMB, Inc. v. GCT Venture, Inc., 6 A.D.3d 228, 775 N.Y.S.2d 259 (2004) that there is no need for a prime contractor to have "actual contractual liability" to the subcontractor absent the liquidating agreement as liability can be created by way of liquidating agreements.
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For more information about the issues covered in this report, please contact Richard P. Dyer in our New York office at 212-895-2117 or at rpdyer@thelen.com or contact your Thelen attorney. For more information about Thelen's Construction and Government Contracts Department, click here.
©2007 Thelen Reid Brown Raysman & Steiner LLP
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