Texas Construction Contracts: Pay-When-Paid or Pay-If-Paid?

 There is a big difference between so-called “pay-when-paid” clauses and “pay-if-paid” clauses.

Pay When Paid

A “pay-when-paid” clause relates to the timing of payment, such that the subcontractor gets paid when the general contractor gets paid. The general contractor remains obligated to pay a subcontractor regardless of whether the general contractor is ultimately paid by the owner. If payment by the owner is not forthcoming, the prime contractor must still make payment to its subcontractor within a reasonable time. A typical “pay-when-paid” clause might read: “Prime contractor shall pay subcontractor within seven days of contractor’s receipt of payment from the owner.” Under such a provision, the prime contractor’s obligation to pay the subcontractor is triggered upon receipt of payment from the owner. However, Texas courts hold that this type of clause means that the contractor’s obligation to make payment is suspended for a reasonable amount of time, not indefinitely. In other words, there is no “condition precedent” to the prime contractor’s obligation to ever make payment; such a contractual term does not shift the risk of the owner’s nonpayment to the subcontractor.

Pay If Paid

In contrast, a typical pay-if-paid clause might read: “Prime contractor’s receipt of payment from the owner is a condition precedent to contractor’s obligation to make payment to the subcontractor; the subcontractor expressly assumes the risk of the owner’s nonpayment and the subcontract price includes this risk.” In short, pay-if-paid provisions are intended by the parties to shift the risk of the owner’s nonpayment under the subcontract from the contractor to the subcontractor. Such provisions are not favored under Texas law. And, effective September 1, 2009, the Texas Legislature began regulating these types of contractual provisions. Texas law defines a pay-if-paid clause as one that “provides that [a prime contractor’s] receipt of payment from [the project owner] is a condition precedent to the obligation of the [prime contractor] to make payment to the [its subcontractor] for work performed or materials furnished [by that subcontractor].” See Tex. Bus. & Com. Code § 56.001.

For a contractual provision to be read as a “pay-if-paid” clause, the intent must be clear—the language used must clearly indicate that a condition, rather than a promise. For example, “subject to,” “on condition of,” or “subcontractor assumes the risk of non-payment by owner” might be sufficient to create a valid “pay-if-paid” clause, subject to the limitations of Texas law. Still, pay-if-paid clauses are strongly disfavored under Texas law, and the Courts will strictly construe such provisions. E.g., Gulf Const. Co., Inc. v. Self, 676 S.W.2d 624 (Tex. App.—Corpus Christi 1984), writ ref’d n.r.e. (Mar. 20, 1985). What’s more, even in the case where there is a valid “pay-if-paid” clause, such a provision may be unenforceable against a subcontractor where nonpayment by the owner to the prime contractor is the result of the prime contractor’s failures, e.g., punch-list items or closeout paperwork, instead of some failure on the subcontractor’s part. See Tex. Bus. & Com. Code § 56.051.

No Private Cause of Action Under the Prompt Payment Statute

Grunley, a prime contractor on a public work project, entered into a design-build contract with the federal government.  In the performance of its work, Grunley subcontracted with IES.
Grunley experienced unanticipated changes and delays in the performance of its contract, and these changes and delays led to a dispute between Grunley and IES.  The dispute was not resolved, and IES filed a claim against Grunley’s payment bond sureties under the Miller Act (40. U.S.C. §§ 3131 et seq.). 
Grunley intervened in IES’ lawsuit and filed a breach of contract action against IES.  IES counterclaimed for breach of contract, alleging that Grunley violated the Prompt Payment Act (31 U.S.C.§§ 3901–3907).
At issue before the Court was Grunley’s motion to dismiss IES’ claim under the Prompt Payment Act.

 Specifically, Grunley argued: 

(1) that there is no private right of action under the PPA; 
(2) that the parties’ payment-related dispute rendered the PPA inapplicable; and 
(3) because the federal government had not yet paid Grunley, the monies sought by IES were not yet due, thereby rendering IES’ claim premature.
Citing other jurisdictions that have found no private cause of action to exist under the Prompt Payment Act, the Court dismissed IES’ Prompt Payment Act claims.  See In re Thomas, 255 B.R. 648, 654 (Bankr.D.N.J.2009); United States ex rel. King Mountain Gravel, LLC v. RB Constructors, LLC, 556 F.Supp.2d 1250, 1252–53 (D.Colo.2008); U.S. ex rel. Virginia Beach Mech. Servs., Inc. v. SAMCO Constr. Co., 39 F.Supp.2d 661 (E.D.Va.1999); Transamerica Premier Ins. Co. v. Ober, 894 F.Supp. 471 (D.Me.1995). 
In finding for Grunley by dismissing IES’ Private Payment Act claim, the Court observed that Congress did envision “the PPA’s protections to be enforced in the same manner as other contractual disputes.”  However, “neither the text of the PPA nor the legislative history reveal an intent to create a private right of action.”  
Reconciling these statements, the implication appears to be that the Prompt Payment Act may be included as part of a breach of contract action, but not an independent claim/private cause of action.

U.S. ex rel. IES Commercial, Inc. v. Cont'l Ins. Co., Inc., CIV. A. 11-0985 ESH, 2011 WL 4526018, --- F.Supp.2d --- (D.D.C. Sept. 30, 2011).


Construction Law Update: Liability of Texas Design Professionals Who Remain Engaged in Construction Observation and Contract Administration Work

The Maxfields (“Owners”) contracted with Black & Vernooy Architects (“Architects”) and Nash Builders, Inc. (“Builders”) for the design and construction of a vacation home.  

Under the Owners’ contract with the Architects, the Architects were required to design the residence, to perform various post-design contract administration services, and to keep the Owners informed about the progress of the work—esp., to guard against defects and deficiencies in the work; and to determine if the residence was generally constructed in accordance with the contract documents.  However, the contract also included a provision indicating that the Architects were not responsible for the Builder’s means and methods and that the Architects would not be liable for the Builder’s failure to construct the building according to plans and specifications.

During the construction of the vacation home, the Builder’s framing subcontractor used nails to attach an elevated balcony to the side of the house rather than the bolts required by the contract documents.  While the Architects visited the site periodically, they failed to notice that the balcony was not constructed in accordance with plans and specifications.  And, consequently, the Architects never informed the Owners of this defect.  After the completion of the construction, the Owners had some friends over for a visit.  When the house-guests stepped out onto the balcony, the balcony collapsed.  One of the house-guests was rendered a paraplegic from the collapse.  

The plaintiffs sued the Owners, the Builder and the Architects.  After settling with the Owner and the Builder, the plaintiffs proceeded to trial solely against the Architects.  The jury ultimately concluded that the Architects’ negligence caused the plaintiffs’ injuries, and that the Builder, its framing subcontractor, and the Architects were 70%, 20%, and 10% responsible, respectively.  On this basis, the trial court entered judgment for plaintiff for over $400,000 against the Architects.

On appeal, the Architects (with an amicus brief from the Texas Society of Architects and Texas Council of Engineering) argued that the Architects owed no duty to the plaintiff, and that the Architects’ contract with the owners did not impose a tort duty to detect the framing subcontractor’s defective construction. 

On December 8, 2010, the Austin Court of Appeals issued an opinion disagreeing with the Architects’ position and affirming the lower court’s ruling.  In its opinion, the appeals court noted that that because the defects in question were “open and obvious” and because the Architects had reviewed photographs demonstrating the defects, there was more than a scintilla of evidence of the Architects’ negligence.  

However, after an en banc rehearing, the Austin Court of Appeals withdrew its December 8, 2010 opinion and, on August 5, 2011, issued a new opinion holding that the Architects did not have a contractual or common-law duty to the house-guest plaintiff.

The withdrawn opinion can be found at:  http://bit.ly/ojAugy.
The updated opinion can be found at http://bit.ly/mVjr3t.  
The legal citation for this opinion is:  Black + Vernooy Architects v. Smith, 03-09-00518-CV, 2011 WL 3435679 (Tex. App.—Austin Aug. 5, 2011, no. pet. h.)