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California Appellate Court Holds That Contractor Must Return All Payments When Qualifier is Not Acting as a Manager

Both California statutes and appellate courts have clearly set forth that if your contractor license is not in effect at the time you perform work you are not going to recover amounts that are due from the owner. In recent decisions, the California appellate courts have been expanding the definition of when a contractor's license is not in effect.

In a case which should be a caution to many contractors, the Fifth District Court of Appeal recently held that where the Responsible Managing Officer was no longer actively managing the business, the contractor's license was automatically suspended and the contractor was required to repay all money collected on a contract without deduction for the value of labor or materials.

The Case

The facts of the case, White v. Cridlebaugh 2009 WL 2245823, 09 Cal. Daily Op. Serv. 9586 (5th Dist. 2009) http://www.courtinfo.ca.gov/opinions/documents/F053843.PDF involved a time and materials contract between the plaintiffs and JC Master Builders, Inc. to build a new house in Kern County. The contract was entered into in March of 2006. Within a few months, the relationship soured both over White's concerns about the quality of the work and the contractor's failure to document its costs. White terminated the contract and JC Master Builders recorded a mechanic's lien against the property. The Whites reacted by suing JC Master Builders, its officers, and its license bond surety for breach of contract, breach of warranty, negligence, strict liability, fraud, and license violations. JC Master Builders filed suit for breach of contract, for the reasonable value of goods and services, and to foreclose its lien. The two suits were consolidated and went to trial before a jury.

Contractors State License Board records showed the responsible managing officer ("RMO") for the contractor as Robert Paul Diani. At trial, however, Mr. Diani testified that in 2004 he had turned over all dealings and daily work of the business to Terry E. Harper Cridlebaugh. Since that time Mr. Diani had been living in Peru. Diani also testified that he had given all the stock to Cridlebaugh. Cridlebaugh had never held a contractor's license.

The trial court granted the Whites' motion for a directed verdict under Business and Professions Code section 7031. Section 7031 provides that an unlicensed contractor is barred from recovering any payment for contracting work and further requires the unlicensed contractor can be sued for a refund all payments it does receive for such work.

The court's ruling terminated all the contractor's claims and ordered the contractor to repay all money collected from the Whites. The jury returned verdicts for the contractor on all the remaining claims against it. After trial, however, the court partially granted the contractor's motion for judgment notwithstanding the verdict. This order vacated the award of money to the Whites. The Whites appealed.

The court of appeals reversed and reinstated the award to the Whites. The court noted that under Business & Professions Code section 7068, a corporation must qualify for a contractor's license through a "responsible managing officer" (RMO) or "responsible managing employee" (RME) who is him/herself eligible for the same class of license. The court went on to note that under section 7068.2, if the qualifier leaves the corporation, the corporation has 90 days to replace the qualifier; otherwise, the license is automatically suspended. The court found that Diani had not been actively engaged in the business since August of 2004 and that no replacement had been qualified in his place.

Because JC Master Builders' license was automatically suspended, the court ruled that it was not only barred from suing to recover for its work, but that under section 7031, it must repay "all compensation paid to the unlicensed contractor..."

Discussion

Before 2001, section 7031(a) prevented contractors from suing to recover for their services without proving that they had been duly licensed at all times of performing the contract, but the courts would still allow them to raise the reasonable value of services as an offset against suits against them. In 2001, however, the Legislature added subdivision (b) to section 7031. Subdivision (b) provides that anyone who uses an unlicensed contract can recover all compensation already paid to the unlicensed contractor. An Assembly committee report on the bill explained that under the existing statute, unlicensed contractors could avoid the effect of the law by collecting money before performing their work. The report noted that the new provision would prevent this by allowing consumers to recover payments.

The stated reason for the amendment was to place the owner who had paid in the same legal position as the owner who had not.

In 2005 the California Supreme Court held that the statute would be enforced according to its terms and that a subcontractor who began performance before receiving its license was barred from recovery even for work performed after it was licensed. (MW Erectors, Inc. v. Niederhauser Ornamental and Metal Works Co., Inc. (2005) 30 Cal.Rptr.3d 755, 36 Cal.4th 412, 115 P.3d 41).

In Goldstein v. Barak Construction (2008) 164 Cal.App.4th 845, 79 Cal.Rptr.3d 603, the Court of Appeal extended this rule to subdivision (b) by holding that owners suing a contractor who had obtained a license after beginning work, could recover not only payments made before the contractor was licensed, but those paid after the contractor had been licensed despite the fact that the "at all times" provision is only contained in the provision relating to the contractor's ability to recover.

Business and Professions Code section 7068.2 provides that a licensee must replace an RMO or RME within 90 days after the RMO or RME "disassociates" from the licensee. Replacement requires filing a form designating a new qualifier. If the form is not filed, the license is automatically suspended 90 days after disassociation whether or not the CSLB has received notice. Failure to give notice, however, can result in disciplinary action against both the licensee and the qualifier. Moreover, the qualifier remains responsible for violations of the licensee.

A qualifying individual is responsible for exercising "direct supervision and control" of the licensee's construction operations as needed to assure compliance with the license law. (Bus. & Prof. Code § 7068.1). In White it was obvious that Mr. Diani's prolonged absence from the country resulted in disassociation and triggered the need for a new RMO or RME.

Conclusion

All too often contractors believe the licensing regulations are "technical" matters with little effect on their day-to-day business. This is apparent in the White case in which Mr. Diani basically abandoned the business to Mr. Cridlebaugh without informing the CSLB in order that Mr. Cridlebaugh could make a living from it.

It is fairly common for a licensed person to "loan" the license by using it to qualify a partnership or corporation as an RMO or RME without actually intending to supervise its activities. The courts, however, view the licensing laws to be consumer protection statutes and will allow owners to look beyond the bare fact that a license was issued to examine whether it was properly issued and maintained. It is a violation of the license laws to "loan" a license and such a license has no effect. (Buzgheia v. Leasco Sierra Grove (1997) 60 Cal. App. 4th 374, 386, 70 Cal. Rptr. 2d 427, reh'g denied; Rushing v. Powell (1976) 61 Cal. App. 3d 597, 605-606, 130 Cal. Rptr. 110 (5th Dist. 1976).

This issue may also arise in partnerships and "family" businesses where the qualifying individual becomes sick, incapacitated, or enters into a semi-retirement. Even if not fully "disassociated" from the business, once the qualifier is no longer supervising the work, a court is likely to conclude that the license has been suspended.

The White case demonstrates that the courts will interpret the technical requirements of the licensing laws strictly and will readily impose harsh results on contractors who fail to adhere to them regardless of the equities between the parties. On that point it is notable that the jury found that JC Master Builders, though negligent, had caused no damage to the Whites and that, in fact, the Whites had breached their contract with the company. Nevertheless, the Court of Appeal determined that section 7031 applied and that the company would have to refund them everything they paid. Contractors should be prepared to show that their qualifying personnel are properly licensed and actively engaged in supervising operations in case their bona fide status is questioned in litigation.

©2009 Frederick Northrop and William C. Last, Jr. wrote this article. Mr. Last is an attorney who has been specializing in Construction Law for over 30 years. In addition to belonging to a number of construction trade associations, Mr. Last holds a California "A" and "B" license. He can be contacted at 415-764-1990 or 650-425-4679. A number of his past articles can be found on his website (lhfconstructlaw.com). Mr. Northrop is an attorney at Last & Faoro who specializes in construction law. 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.

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