Lien Releases On Public Projects-Not a Good Idea

By William Coats

The author asserts that public owners should stop including lien-release requirements in their contracts.

Whether due to a lack of understanding of the law or a motivation to see all project bills paid, public owners on Texas projects often insist upon and use contracts that require "lien" releases from subcontractors and suppliers as a condition of payment, final payment particularly, to the general contractor. Insistence on lien releases as a condition of payment in the public work context presents a number of problems for the owner and the general contractor while providing little or no legal and little practical benefits to the public owner. In fact, the practice is likely to unnecessarily involve the public owner in the underlying payment dispute and may precipitate a breach of the contract by the owner vis-à-vis the general contractor. Simply put, the practice is ill advised.

Unpaid subcontractors and suppliers on public works contracts do not have lien rights (excepting cases involving projects of less than $25,000.00). These vendors are protected by a payment bond provided by the general contractor. The law has been long established that the public owner is not liable for the payment of such vendors. The vendor's sole remedy, other than suit against their customer, is a claim under the payment bond. This is true even if the bonding company becomes insolvent. Accordingly, lien releases do not provide any meaningful legal benefit to the public owner, i.e. it is a release of a non-existent right against a party protected from any direct claim.

In addition to the protection of the payment bond, the public works contract documents often require the general contractor to indemnify and defend the public owner from vendor claims. This indemnification and defense obligation is also backed up by the general contractor's performance bond. Hence, any argument to the effect that the public owner, in receipt of a notice of unpaid bills, should withhold money to protect it from the expense of defending itself (in the remote event it is sued) is not well supported. Moreover, the more involved the public owner becomes in the underlying dispute, the more likely it is that the unpaid vendor will try and fashion out a suit against the public owner based on this involvement.

From the public owner's perspective, withholding payment from the general contractor, in reliance on the lien-release requirement, is arguably a breach of its contract with the general contractor (failing to pay in the absence of a material breach). From a practical standpoint, it will also be a self-fulfilling prophecy: people don't get paid, more notices are mailed, reluctance to perform sets in and the project becomes unnecessarily problematic.

So why does the lien-release requirement appear in public works contracts and what should the public owner do about it? Often the presence of the requirement is simply the result of the project consultant's use of standardized industry forms, which do not distinguish between private and public works. Liens are possible on private work, and requiring lien releases is the right thing to do.

In other cases, it may be motivated by the public owner's sincere desire to see all bills paid on their projects, which ignores the reality of the typical payment dispute. Namely, the owner is often insisting that a subcontractor that did not perform be paid, when the general contractor has spent the defaulting subcontractor's contract money and often completing that subcontractor's work. The fairer and better approach is for the public owner with a contract requiring lien releases to waive the requirement and obtain the bonding company's consent to payment--with disclosure to and acknowledgement by the surety that the public owner has received notices of unpaid bills.

The best approach is for public owners to stop including lien release requirements in their contracts and stay out of the contractor-subcontractor relationship.