It’s been said that as California goes, so goes the nation.  If so, general contractors throughout the country may soon be taking on more responsibility for the unpaid wages of the workers on their construction projects than they might have expected.  As of January 1, 2018, Assembly Bill 1701 makes general contractors liable for the unpaid wages of any employee who furnishes labor to or through the general contractor in furtherance of the prime contract; no matter the tier.

A.B. 1701 amended Section 218.7 of the California Labor Code so that general contractors on private construction projects “assume, and [are] liable for any debt” of a subcontractor of any tier for unpaid wages, fringe benefits or other employee contributions.  The driving force behind the legislation was the labor unions.  The legislation does not provide for a private right of action to the unpaid employees but instead permits the Commissioner of Labor to file suit on behalf of an unpaid employee(s) and also allows labor unions to sue for unpaid wages or benefits.  There is a one year statute of limitations for such claims.

The law provides the prime contractor with the right to inspect the subcontractors’ payroll records and other information in order to verify payments and limit its liability under the law.  The prime contractor may also withhold payments if the requested information or documents are not provided by the subcontractor.

Opponents of the law say it places an undue burden on prime contractors to police subcontractors of all tiers, and exposes prime contractors to paying “twice” for the same labor.  Also, the burden of having to review substantial payroll records and evidence of payments and the likelihood of delays between requesting and receiving this documentation could result in significant construction delays.  Delays, the potential withholding of payments from subcontractors and the overall increased administrative responsibilities will translate into increased costs.

The State of Maryland passed a similar law called Maryland’s General Contractor Liability for Unpaid Wages Act, which becomes effective on October 1, 2018.  Also sponsored by the labor unions, the Maryland Act applies only to private construction projects and makes prime contractors financially responsible for the unpaid wages of subcontractor employees of any tier.  If an employee is not paid within two weeks of the payment due date, the employee has a private right of action against the prime contractor.  The statute of limitations is three years.  The Maryland law also expressly provides the prime contractor with a right of indemnity against the subcontractor.  The indemnity is ineffective if there is a right of contractual indemnity or if the violation was the result of the prime contractor’s failure to make payment.  Unlike California’s law, the Maryland Act does not provide the prime contractor with the right to audit payroll records or withhold payments.

To mitigate the risks associated with both statutes, prime contractors might strengthen their subcontract forms to include audit provisions extending to all subcontractor tiers; and requirements that subcontractors enter into similar agreements with their sub-subcontractors and so on.  Form subcontracts could also include strong indemnification provisions holding the prime contractor harmless from all such wage claims and providing for a defense and indemnification.  Subcontractors of lower tiers may also be required to indemnify the prime contractor.  Payment procedures can be updated to require the submission of payroll records and evidence of payments to employees as to all subcontractor tiers.  A joint check provision would also provide the prime contractor with the right to pay subcontractors of a lower tier directly if concern arose that wages had not been paid.  Prime contractors could also protect themselves by requiring lower tiered subcontractors to post a payment bond.

A surety’s exposure on a construction project more often than not originates from a payment or performance bond.  Since the two statutes are limited to private construction projects, the surety’s liability under Federal Miller Act and Little Miller Act bonds is not affected.  Oftentimes, sureties write bonds for private construction projects.  Although some states have statutes modifying certain of the surety’s obligations under a private payment bond (e.g. venue for suit, limitation periods, etc.), neither the California or Maryland statutes at issue contain any language extending the surety’s liability for such wages beyond the four corners of the bond or otherwise.

One of the most common payment bonds issued on private construction projects is the AIA A312 form.  The surety’s obligation under the A312 extends to “labor, materials and equipment furnished for use in the performance of the Construction Contract.”  A “claimant” under this bond is defined as:

an individual or entity having a direct contract with the Contractor or with a subcontractor of the Contractor to furnish labor, materials or equipment for use in the performance of the Construction Contract. The term Claimant also includes any individual or entity that has rightfully asserted a claim under an applicable mechanic’s lien or similar statute against the real property upon which the Project is located….

(emphasis added).  In most states, any person who has furnished labor for the improvement of real property has the right to file a mechanic’s lien for unpaid wages.  As such, sureties in Maryland and California may have already been exposed to such claims under the A312 form bond.  In any event, when underwriting public or private construction bonds in these states surety underwriters are well advised to analyze and consider the bond principal’s bonded and non-bonded obligations.