BILL ANALYSIS �
AB 536
Page 1
Date of Hearing: January 14, 2014
ASSEMBLY COMMITTEE ON BUSINESS, PROFESSIONS AND CONSUMER
PROTECTION
Susan A. Bonilla, Chair
AB 536 (Wagner) - As Amended: January 6, 2014
SUBJECT : Contractors: payments.
SUMMARY : Excludes claims for additional compensation from the
definition of a "disputed amount" for purposes of existing law
that authorizes, in the event of a good faith dispute, the
withholding of 150% of a disputed amount from certain payments
to contractors and subcontractors. Specifically, this bill :
1)Prohibits a prime contractor from withholding the amount of a
subcontractor's claim for additional compensation against the
prime contractor from progress payments and retention proceeds
in public and private works, as specified.
2)Prohibits a property owner from withholding the amount of a
direct contractor's claim for additional compensation against
the owner from progress payments and retention proceeds in a
private work of improvement, as specified.
3)Prohibits a public entity from withholding the amount of the
original contractor's claim for additional compensation
against the public entity, and prevents the original
contractor from withholding the amount of a subcontractor's
claim for additional compensation against the original
contractor from retention proceeds in a public works project,
as specified.
EXISTING LAW :
1)Requires, in a public or private work of improvement, a prime
contractor or subcontractor to pay a subcontractor within
seven days after receiving a progress payment, unless
otherwise agreed to in writing, the respective amounts for the
work performed by the subcontractor, to the extent of each
subcontractor's interest in that work. Authorizes the prime
contractor or subcontractor, in the event of a good faith
dispute over the amount due, to withhold from the progress
payment no more than 150% of the disputed amount. Provides
that a prime contractor or subcontractor who violates these
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provisions is liable to the subcontractor for a penalty of 2%
of the amount wrongfully withheld per month for every month
payment is not made. (Business and Professions Code Section
(BPC) 7108.5; Public Contract Code Section (PCC) 10262.5)
2) Requires, in a work of improvement for a public utility,
the direct contractor to pay the subcontractor within 21
days after receiving a progress payment, unless otherwise
agreed to in writing, the respective amounts for the work
performed by the subcontractor, to the extent of each
subcontractor's interest in that work. Authorizes the
direct contractor, in the event of a good faith dispute
over the amount due, to withhold from the progress payment
no more than 150% of the disputed amount. Provides that a
contractor who violates those provisions is liable to the
subcontractor for a penalty of 2% of the amount wrongfully
withheld per month for every month payment is not made.
(Civil Code Section (CIV) 8802)
3) Requires, in a private work of improvement, the owner to
pay the direct contractor, within 30 days after notice is
given demanding payment pursuant to the contract, any
progress payments due for which there are no good faith
disputes. Authorizes the owner, in the event of a good
faith dispute over the amount due, to withhold from the
progress payment no more than 150% of the disputed amount.
Provides that an owner who violates those provisions is
liable to the contractor for a penalty of 2% of the amount
wrongfully withheld per month for every month payment is
not made. (CIV 8800)
4) Requires, in a private work of improvement, an owner to
pay any retention proceeds to the direct contractor within
45 days after completion of the work of improvement.
Authorizes the owner, in the event of a good faith dispute
over the amount due, to withhold from the final payment no
more than 150% of the disputed amount. (CIV 8812)
5) Requires, in a private work of improvement, a direct
contractor to pay any retention proceeds to the
subcontractor within 10 days of receiving all or part of a
retention payment. Authorizes the direct contractor, in
the event of a good faith dispute over the amount due, to
withhold from the retention no more than 150% of the
disputed amount. (CIV 8814)
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6) Requires, in a public work of improvement, a public
entity to pay any retention proceeds to the original
contractor within 60 days after the completion of the work
of improvement. Defines "completion" as, among other
things, the occupation, beneficial use, and enjoyment of a
work of improvement or acceptance by the public agency of
the work of improvement. Requires the original contractor
to pay any retention proceeds to the subcontractor within 7
days of receiving all or part of a retention payment.
Authorizes the public entity or the original contractor, in
the event of a dispute over the amount due, to withhold
from the final payment an amount not to exceed 150% of the
disputed amount. Provides that a public entity or
contractor that violates these provisions is liable for a
penalty of 2% of the amount wrongfully withheld per month
for every month payment is not made. (PCC 7107)
FISCAL EFFECT : None. This bill is keyed non-fiscal by the
Legislative Counsel.
COMMENTS :
1)Purpose of this bill . Under existing law, property owners,
public entities and contractors may withhold 150% of a
disputed amount from the progress payments or retention
proceeds otherwise due to a contractor or subcontractor. This
bill would prohibit property owners, public entities and
contractors from including "any claim for additional
compensation" in the disputed amount subject to the 150%
withholding. The aim is to clarify existing law in light of a
2009 court case as to what may be treated as the "disputed
amount."
This bill is sponsored by the Engineering Contractors'
Association, California Fence Contractors' Association,
California Chapter of the American Fence Association, Marin
Builders Association, and the Flasher Barricade Association.
2)Author's statement . According to the author, "The Prompt Pay
statutes are turning into a mess of loopholes. They provide
no relief to contractors against a sophisticated owner or a
prime contractor against his subcontractors. Worse, they
provide those owners/prime contractors (or even upper tier
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subcontractors against lower tier subcontractors) with excuses
for withholding more money due to a loophole within the
existing statute [that authorizes contractors to withhold 150%
of a disputed amount from the retention proceeds].
Unfortunately, 'disputed amount' is not defined in the
statute.
The intent of the proposed amendments in AB 536 is to clarify
the law."
3)Prompt payment statutes and disputed amounts . Progress
payments represent a percentage of the amount of a contract
that is paid by a property owner or public entity to an
original contractor as the work proceeds, in lieu of paying
the full contract price up front or only after the work is
completed. After receiving a progress payment, the original
contractor typically pays subcontractors, if any, a portion of
that progress payment. Retention proceeds represent a
percentage of the amount of a contract that is withheld from a
progress payment by the property owner or public entity from
the original contractor, or the original contractor from one
of its subcontractors. By withholding a percentage of a
contract payment while the work progresses, the payor
maintains a degree of financial control over an incomplete
project.
Existing law requires these upper tier parties (property
owner, public entity, or prime contractor) to pay progress
payments and retention proceeds to lower tier parties
(contractor or subcontractor) within specified periods of
time, and in certain instances, imposes penalties for
violating those requirements, including a penalty of 2% of the
amount wrongfully withheld per month for every month payment
is not made.
Existing law also provides a "safe harbor" exception to these
provisions: in the event of a good faith dispute on the amount
due for progress payments or retention proceeds, upper tier
parties are authorized to withhold from the lower tier parties
up to 150% of the disputed amount from those progress payments
or retention proceeds. While the intent of the prompt payment
statutes are to ensure timely payment for work, the purpose of
the 150% withholding is to ensure satisfactory completion of a
project and that funds are available to correct defective or
incomplete work until the dispute is resolved. There is
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nothing in statute, however, that defines a "disputed amount"
or limits the types of disputes that authorize the 150%
withholding.
4)Bill responds to lawsuit regarding meaning of "disputed
amount" . The sponsors assert that ambiguity over the precise
meaning of a "disputed amount" has resulted in legal action
over withheld amounts. For example, in the case of Martin
Brothers Construction, Inc. v. Thompson Pacific Construction,
Inc. (2009) 179 Cal App. 4th 1401, a subcontractor, Martin
Brothers, filed claims directly with the general contractor,
Thompson Pacific Construction, for extra work and change
orders valued at roughly $400,000. Martin Brothers later
filed with the court an initial complaint, seeking over
$900,000 in damages, interests, penalties, and attorney fees,
although the amount was later reduced to roughly $630,000.
Thompson Pacic initially disputed Martin Brothers claims for
extra wo5)rk, but eventually paid more than $630,000 for all
outstanding progress payment retention and all extra work. At
trial, Martin Brothers sought only statutory late payment
penalties, interest and attorney fees.
Thompson Pacific contended that "prompt payment" penalties
should not apply because the amount it withheld was a
"disputed amount." Martin Brothers alleged that a "disputed
amount" applied only to "honest" disputes, such as when a
general contractor has a good faith belief that it does not
owe money because the subcontractor's work was substandard,
incomplete, or completed improperly, and did not apply to
disputes over change order work. The court sided with
Thompson Pacific, reading the statute to be clear on its face
and inferring no restriction on the kinds of disputed amounts
covered by the statute. The court affirmed that Thompson
Pacific was legally entitled to withhold payment from Martin
Brothers for a good faith dispute pursuant to existing law,
including for change orders and claims for additional or extra
work, even though there was no allegation that the change
orders and extra work were faulty.
In response to that finding, this bill would exclude from the
calculation of a disputed amount "any claims for additional
compensation", which is intended to exclude such things as
extra work that is not otherwise substandard, incomplete, or
completed improperly.
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6)Ability to withhold disputed amounts for legitimate disputes .
Under this bill, the amount of a "claim for additional
compensation," or claim for compensation above what is
included in a contract or contract modification (such as a
change order), could not be withheld from progress payments or
retention proceeds. Because these claims are for additional
compensation, and not for payment for work or compensation
that was already agreed to, there would be no associated
progress payments or retention proceeds due for them from
which to withhold.
As a result, the sponsors contend that this bill would only
prevent upper tier parties from withholding 150% of the amount
of these disputed claims from unrelated progress payments or
retention proceeds to prevent the mere existence of such a
claim from justifying a withholding. In addition, upper tier
parties would still be able to use the safe harbor provisions
under the prompt payment statutes to withhold from lower tier
parties 150% of any other disputed amount from money that
would otherwise be due in a progress payment or retention
proceeds.
7)Question for the Committee . While the phrase "claims for
additional compensation" may be understood to apply to claims
for compensation that are in addition to the amount within a
contract or contract modification, the exact meaning of the
term may not be obvious to all parties. The author may wish
to consider whether it may be beneficial to further clarify
the term so there is no potential for confusion within the
contracting profession as to what types of payments would be
included or excluded.
8)Arguments in Support . According to the sponsors, "[The] long
standing loophole [in Prompt Pay statutes] has now created an
even more untenable and highly unfair situation due to the
recent Martin Brothers [d]ecision.
The losers in the recent court [c]ase, Martin Brothers, argued
good faith withholding cannot include undisputed retention
amounts. The court disagreed because in their 'logic' the
extra 50% [an] upper tier contractor is allowed to withhold
necessarily has to come from undisputed retention based upon
current law. Martin Brothers also argued retention can be
withheld only when the good faith dispute is over the amount
of retention owed and not over the amount owed for change
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order work. The court disagreed because the statute does not
use language restricting the word 'dispute.' Therefore,
according to the court, any dispute, including a dispute over
extra work, may support withholding retention.
This case is troubling for general contractors and
subcontractors alike. Although Martin Brothers deals with a
subcontractor's claims to a general contractor, the statutes
and the case's reasoning apply equally to a general
contractor's claims to an owner. If the paying party in 'good
faith' disputes the claims for extra work or change orders,
the paying party may withhold from retention the claimed
amount plus 50% until the matter is resolved or judgment is
entered; thus essentially giving the paying party an
interest-free loan for an extended period of time!
This is absolutely a wrong interpretation which, if allowed to
prevail without clarification and guidance of the Legislature,
will result in the potential demise of many legitimate
contractors who employ thousands of workers statewide. Now
more than ever, this is something that California cannot
afford to do for myriad reasons."
9)Previous Legislation . AB 2021 (Wagner) of 2012 would have
revised the amount that an owner can withhold from a
contractor, and a contractor from a subcontractor, for
disputed private works of improvement. AB 2021 limited the
total amount of withholding based on a formula that included,
among other things, the amount of liquidated damages assessed
against a contractor and 150% of the estimated cost to repair
or replace contract work that was not performed. AB 2021 was
held on the Senate Floor.
AB 2549 (Pacheco) of 2004 was similar to AB 2021 (Wagner) of
2012, and also limited the total amount of withholding for
public and private works of improvement based on a formula
that included, among other things, the amount of liquidated
damages assessed against a contractor and 150% of the
estimated cost to repair or replace contract work that was not
performed. The Governor vetoed AB 2549 with the following
message:
"Existing law, including lien protections and other
prompt pay requirements, afford most contractors with
sufficient protection to ensure payment on disputed
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payments. Additionally, I believe this bill will
only further complicate the various disparate statutes
regarding disputed payments between contractors and
owners. This area of law that is very important to
both the consumer and contractor has been amended
piecemeal for far too long."
10)Double-referred . This bill is double-referred, and if passed
by this Committee will be referred to Assembly Judiciary
Committee.
REGISTERED SUPPORT / OPPOSITION :
Support
Engineering Contractors' Association (sponsor)
California Fence Contractors' Association (sponsor)
California Chapter of the American Fence Association (sponsor)
Marin Builders Association (sponsor)
Flasher Barricade Association (sponsor)
California Landscape Contractors Association
Opposition
None on file.
Analysis Prepared by : Eunie Linden / B.,P. & C.P. / (916)
319-3301