A California Appellate Court Holds That A Conditional Lien Release Is Enforceable Even If the Lien Claimant Is Not Paid

A California Appellate Court Holds
That A Conditional Lien Release
Is Enforceable Even If the Lien Claimant Is Not Paid

By
William C. Last,Jr.
Attorney at Law

On October 12, 2004, a California Appellate Court published an opinion, Tesco Controls v. Monterey Mechanical Company, that held that a statutory conditional lien release waives the claimant's lien rights through the date set forth on the release, whether or not the lien claimant actually receives compensation for the services and materials provided through that date. The lawsuit sought to have the general contractor, Monterey Mechanical, pay a subcontractor's supplier the sum that it had already paid the subcontractor.

This decision is important since no prior appellate court had published an opinion that interpreted the conditional lien release language that is found at Civil Code section 3262. The Tesco Court also enforced a joint check agreement between a general contractor and subcontractor which was made for the benefit of a supplier. This article will discuss the Tesco holding, statutory lien releases and the court's holding relative to the joint check agreement.

Statutory Lien Releases

In order to obtain a valid and enforceable mechanic's lien, stop notice or payment bond release, the lien claimant must sign a document that "substantially" contains language that is set forth in California Civil Code section 3262. That section proscribes the mandatory language that must be included in four types of releases: (1) a conditional waiver and release upon progress payment; (2) a conditional waiver and release upon final payment; (3) an unconditional waiver and release upon progress payment; and (4) an unconditional waiver and release upon final payment.

The statutory language was created in 1983 as a result of a holding in a 1982 California appellate court case, Bentz Plumbing & Heating v. Favaloro, which invalidated all lien releases. The scope of the statutory releases came under review by the appellate court in a case entitled Halbert's Lumber v. Lucky Stores. The Halbert court concluded that the scope of a conditional lien release was determined by the date listed on the release, not by the amount actually paid. As a result of the Halbert court's decision, the Legislature modified the lien release language.

The modified lien release language is the subject of the holding in the recent appellate court decision. In fact, the opinion in the Tesco case includes an in depth review of the history of the holdings in the Bentz and Halbert cases and the legislative changes to statutory lien releases. With that background, this article will now discuss the holding in the most recent appellate court case, Tesco, that concerns statutory lien releases.

The Tesco Decision

In the Tesco case, Monterey Mechanical contracted with the City of Chico. Monterey, in turn, entered into a subcontract with Stratton Electric, Inc. Stratton issued a purchase order to Tesco Controls, whereby Tesco was to provide and install certain controls. Monterey and Stratton also entered into a joint check agreement that was for the express benefit of Tesco.

The joint check agreement provided that any Tesco invoice sent to Stratton would be copied to Monterey who would pay Tesco by negotiable check "in the amount of such invoice " made payable to both Tesco and Stratton. Stratton was to endorse the check and make it payable to Tesco "as payment in full of the related invoice." Payments were be made when normal progress payments were due.

The parties all agreed that Tesco had fully performed its obligations under the purchase order and that Tesco remained underpaid by $194,762. However, Monterey asserted that when Tesco signed a March 15th statutory release it released its claims as to that money.

Tesco began shipping equipment to the project site in November 1998 and sent its first invoice, in the amount of $14,980, on November 10, 1998. Despite the terms of the joint check agreement, Stratton paid that invoice in full with its own check. Prior to receiving the first payment Tesco had invoiced additional shipments. As of January 31, 1999, $244,762.13, billed on invoices from December 1998 through January 1999, remained unpaid. Tesco continued shipping equipment in February 1999, but received no payments that month.

By March 11, 1999, Tesco had sent invoices in the amount of $468,946.13. The next day Tesco received a Stratton check in the amount of $194,762.13. However, Stratton asked Tesco not to deposit the check for 30 days. When the check was finally deposited the bank would not honor it.

On March 15, 1999, Tesco gave Monterey a lien waiver and release conditioned upon receiving a progress payment of $50,000 (the balance of that date less the Stratton check Tesco was holding.) The release "cover [ed] a progress payment for labor, services, equipment or material furnished to Stratton Electric through 01/31/99 only." The release included the statutory release and waiver language.

During April and May, Monterey learned that Stratton's $194,762.13 check to Tesco did not clear the bank and that Stratton had not paid Tesco that amount. Monterey then agreed to pay Tesco $370,553.52 in exchange for Tesco issuing a second conditional lien waiver and release form. The form was dated May 11, 1999 and provided that Tesco agreed to release its mechanic's lien rights upon payment from Monterey of $370,553.52. The release covered equipment and services rendered through March 31, 1999, and contained the statutory language release language.

On May 13, 1999, Monterey and Tesco entered into the following agreement, that was memorialized by a Monterey employee: "5/13/99 Agreed w/Wally @ Tesco Pay $200,000 joint check now and 170 balance from 3/31 Release the first week of June 99." In accordance with the note Monterey issued the two joint checks. Tesco applied the two payments to the oldest outstanding balances, including those for which Stratton's bounced check had been designated.

After receiving the checks, Tesco continued providing product and services. By July 1, 1999. Tesco completed shipping and invoicing its work and was owed $412,024.98. Tesco continued processing and completing change orders through June 2000. Tesco ultimately filed a Stop Notice and then filed a lawsuit to foreclose on the stop notice. Stratton filed for Chapter 11 bankruptcy protection. In June 2001, Monterey issued a check directly to Tesco in the amount of $217,262.98. Upon receipt of that payment Tesco was still owed $194,762, the amount of Stratton's bounced check.

Ultimately, Tesco argued that the March 15 lien release, in the amount of $50,000, released Tesco's lien rights only to that amount. While Monterey argued that when Tesco signed that statutory release, it waived all of its rights to recover for services rendered through January 31, 1999, despite having not been paid for them.

In rendering their decision the Tesco appellate court panel first reviewed the Bentz decision and the legislation that resulted from that decision. The purpose of that review was to determine the Legislature's intent when the lien release and waiver statute was created. The court then reviewed the Halbert decision and the resulting changes to the lien release and waiver statute.

The Tesco court concluded that Legislature "crafted a release that waived mechanic's lien rights, bond rights, and stop notice rights for services rendered and materials provided up to the date stated on the receipt, even if those services and materials were not compensated by the progress payment. However, waiver was limited only to those express lien rights. By executing the release, the subcontractor or materialman did not waive his rights to pursue compensation for unpaid services and materials under the terms of the contract or as otherwise provided by law or equity."

As to lien release statute's language (section 3262(d)(1)) that can be construed to exclude from the release a subcontractor's right to recover compensation for services not compensated by the progress payment, the Tesco court found "that language refers to the subcontractor's right to pursue compensation by means of all available remedies other than the mechanic's lien laws."

It should be noted that the statute provides that a conditional lien release for a progress payment "does not cover any retentions retained before or after the release date; extras furnished before the release date for which payment has not been received; extras or items furnished after the release date." The statutory release does affect "rights based upon work performed or items furnished under a written change order which has been fully executed by the parties prior to the release date ...unless specifically reserved by the claimant in this release."

General Contractor Breached the Joint Check Agreement

The Tesco court held that Monterey breached the joint check agreement by not paying Tesco by issuing a joint checks. The Tesco court reached that conclusion because the joint check agreement provided that Monterey and Stratton agreed that Monterey would pay Tesco's invoices on presentation and to pay those invoices in full at the same time normal progress payments were due. The joint check agreement also stated that it was for the express benefit of Tesco.

The Tesco court also held that Tesco did not breach the joint check agreement when it accepted and deposited a check it received a Stratton check. The Tesco court came to this conclusion since the joint check agreement also stated that it was for the express benefit of Tesco.

Conclusion

The Tesco court required the general contractor to comply with the terms of the joint check agreement. If you are an owner or general contractor who has entered into a joint check agreement to ensure that a subcontractor's supplier has been paid, you must comply with the terms and conditions of that agreement. If you fail to do so and the supplier is not paid, you may be forced to pay the supplier even if the subcontractor has been paid for the materials.

While a conditional lien release for a progress payment does release a subcontractor or materialman mechanic's lien, stop notice or bond through the date specified in the release, whether or not he receives compensation for all of those services and materials, it does not release those rights for: (1) signed change orders that are expressly excluded; (2) extras furnished before the release date for which payment has not been paid; and (3) unpaid retention. In light of the Tesco decision, if you intend to assert contract rights based on breach of contact, recession or abandonment you should expressly state that in the release.

Clearly, the lien release is not effective if the amount that is to be paid pursuant to the release is not paid. As the conditional release states:" Before any recipient of this document relies on it, said party should verify evidence of payment to the undersigned." Thus, if you intend to rely on a release you should verify that the amount set forth in the release was in fact paid. If you issue a joint check you should verify that both payees endorsed the check. If you have entered into a joint check agreement you should also verify that entity for which the agreement was intended to benefit actually received the payment.

©2004 This article was written by attorney William C. Last, Jr. Bill Last has specialized in Construction Law for more than 24 years and represents contractors throughout California. Bill holds a California "A" and "B" license and is active in a number of construction trade associations. He can be contacted at 415-764-1990 or 650-425-7679. A number of his past articles can be found on his website (www.lhfconstructlaw.com). This bulletin is published periodically to provide general information about current legal issues. The articles are not intended to be a substitute for the advice of an attorney as to a specific problem. If you have a specific legal question or need legal advice, you should contact an attorney.