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U.S., Hawaii Can Enforce Surety's Undertaking That Subcontractor Would Pay Taxes


September 30, 2002


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


By James E. Acret

Surety issued a "subcontractor's performance and payment bond" covering a subcontract to provide landscaping services on a city and county golf course project. The bond named the prime contractor as obligee and was for $2,698,787, which was the subcontract price. Surety sought declaratory relief that it is not liable under the bond for payroll taxes owed to the United States and to Hawaii. The District Court found that the governments were not intended beneficiaries of the bond and granted surety's motion for summary judgment. Reversed. Island Insurance Company, Ltd. v. Hawaiian Foliage & Landscape, Inc., ___ F.3d ___, 2002 DJDAR 4849 (9th Cir. 2002)

The subcontract required the subcontractor to "pay in full for all labor, material…, taxes, and other items…" and further required the subcontractor to "pay any taxes which may now or hereafter be imposed by the United States or any state or local government upon wages, salary, or remuneration." The bond states that subcontractor shall duly perform the subcontract, and the subcontract document is incorporated into the bond.

Thus, the subcontract required the subcontractor to pay its payroll taxes, and the bond guaranteed that the subcontractor would do so. Therefore, the federal and state governments were intended beneficiaries of the surety contract. "Parties are free, of course, to create surety bonds that do not insure for tax liabilities. They need only embody their intentions in the language of their contracts." The dissent asserted that the bond clearly was meant to protect the prime contractor and not the governments and that the governments were incidental beneficiaries.


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