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Mechanics Liens, Stop Notices and Payment Bonds

I Forgot To File A Legal Action to Foreclose

On My Mechanics Lien Within 90 days: Now What?

Or

My Contractor Recorded A Mechanic's Lien and not Filed A Timely Lawsuit to Foreclose On It: Now What?

By

William C Last, Jr.

Attorney at Law

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California law requires that a lawsuit be filed to foreclose on a mechanic=s lien within 90 days (Civil Code section 3144) after recording it. If the contractor fails to file a lawsuit to foreclose on that lien within 90 days, it is barred from recovering on that stale mechanic's lien. If that happens, the question is what the contractor can do to try re-obtaining its mechanic's lien rights and, alternatively, what can the landowner do to have the stale lien removed. This article will discuss each party's legal rights when there is a stale lien.

The Rights of the Landowner

If a timely lawsuit is not filed, and the claimant refuses to release the lien or cannot be located, the property owner can file a petition, under Civil Code section 3154, to have the court remove the lien. That section basically states that at any time after the expiration of the 90 day period and where no action has been brought to enforce that lien, the owner of the property or the owner of any interest therein may petition the proper court for a decree to release the property from the lien. Such a petition is filed in the Superior Court in the county where the property is located. A hearing is then set not more than 30 days after the filing of the petition and the person seeking to have the lien removed must serve the petition and a notice of the hearing on the lien holder at least ten days before the hearing. Service can be made by registered or certified mail, with service effective five days after deposit. If the lien claimant responds to the petition, the response is limited to the timeliness of filing an action to foreclose on the lien. Neither party can raise any other claims or cross-claims in the proceeding. The prevailing party on the petition is entitled to attorneys' fees not to exceed two thousand dollars ($2,000).

It should be noted that filing a petition under section 3154 does not bar any other claim for relief by the owner of the property, and that the decree canceling a claimant's lien does not bar the lien claimant from bringing any other cause of action or claim for relief, other than an action foreclosing the lien.

The Rights of Lien Holder

Generally, a lien claimant can record a second lien if the first lien was voluntarily removed and the time for recording a second lien has not expired.

In the case of Koudmani v. Ogle Enterprises, Inc. (1996) 47 Cal App 4th 1650 a subcon??trac??tor filed a lien 87 days after the owner recorded a notice of completion. Fifteen days later, the subcontractor filed a second mechanic's lien. Two days after that, the owner's attorney sent a letter to the subcon??tractor, demanding that the original lien be released because the contractor had failed to file a fore??closure action on the first lien within 90 days of recording it. The subcontractor released the first lien, and then filed a timely foreclosure action on the second one. At that point, the owner filed a petition to release the lien, pursuant to Civil Code section 3154, which allows an owner to move the court to release a lien when a foreclosure action has not been filed within 90 days of the recording of the lien. The trial court ruled against the subcontractor, and released the property from the second lien. The appellate court reversed the trial court's decision and allowed the subcontractor to foreclose on his second lien. Civil Code section 3154 provides owners with a simple remedy to remove mechanic's liens when lien claimants fail to file timely actions to foreclose on them. However, if a claimant voluntarily releases a lien before the owner files a petition, the release does not, on its face, bar the claimant from filing a second timely lien.

If a contractor has failed to file a timely foreclosure lawsuit, a contractor should determine if he or she can record a second mechanic's lien in a timely manner. The specific time limitation for recording a lien is based on: (a) whether actual completion is obtained or there is an equivalent to completion obtained; (b) whether or not the owner shortened the deadlines by recording a Notice of Completion or Notice of Cessation; and (c) whether or not the contractor has a direct contract with the owner of the project.

The general rule is when all the work on the project has actually been completed all possible lien claimants must record their liens within ninety (90) days from the date of actual completion. (Civil Code ???? 3115, 3116). Even if the project is not complete, if there is a cessation of labor for a continuous period of sixty (60) days California law declares that such cessation is deemed an equivalent to the completion of the work. After that sixty day period elapses, all possible lien claimants must record their liens within ninety (90) days from that date. A project is also deemed complete when (1) the owner occupies or uses the property and all work stops; (2) the owner accepts the work; or (3) work ceases for a continuous period of thirty (30) days and the owner records a notice of cessation. (Civil Code ?? 3086)

California law allows an owner to record one of two types of possible notices that, after timely recordation, will shorten the time for recording a mechanic's lien. The two types of notices are either a Notice of Completion or alternatively a Notice of Cessation. By shortening the time within which to record Liens and serve Stop Notices, the Notice of Completion and/or Cessation can be very useful from an owner's or lender's perspective, and from the Lien and Stop Notice claimant's perspective, a fatal trap if the shortened time limits are not met.

A Notice of Cessation is used when work has temporarily halted for more than 30 days. (Civil Code ??3092). A Notice of Completion must be filed after work has actually been completed, as that term is defined in Civil Code ??3086. Listing an erroneous date of completion does not affect the validity of the notice so long as the true date of completion was within 10 days preceding the date of recording of such notice.

The deadlines if a Notice of Completion or a Notice of Cessation are:

i. For a Notice of Completion:

When the owner records a valid Notice of Completion (i.e., a proper Notice of Completion recorded within ten days after actual completion of work on the project). (Civil Code ??3093).

???(1) A prime contractor in direct contract with the owner must record his lien within sixty (60) days of the recording of the Notice of Completion. (Civil Code ?? 3116).

???(2) All others must record their liens within thirty (30) days of the date the Notice of Completion is recorded. (Civil Code ?? 3116).

ii. For a Notice of Cessation:

(1) If the owner, after a thirty (30) day continuous cessation of labor, records a Notice of Cessation, this is equivalent to the recording of a Notice of Completion. (Civil Code ?? 3092).

(2) In that case, the prime contractor has sixty (60) days, and all other claimants have thirty(30) days, within which to record their liens. (Civil Code ???? 3115, 3116).

Trivial work performed after completion or after a notice is recorded will not invalidate it. Within ten days after the owner records a Notice of Completion or a Notice of Cessation, the Owner must give notice to the prime contractor and to any subcontractor or supplier who served a preliminary notice on the Owner. (Civil Code ?? 3259.5) If the Owner fails to do so, the notice is ineffective. However, "owner" for purposes of section 3259.5 does not include lenders or anyone who uses the building as a personal residence so long as there are no more than four units in the building. Co

In conclusion, if a contractor has failed to file a timely foreclosure lawsuit, a contractor should determine if he or she can record a second mechanic's lien in a timely manner (e.g., 30, 60, or 90 days after the project is substantially completed). If so, the first lien should be released the first lien and a new one recorded. However, the lien release should clearly indicate that the original claim remains unsatisfied. Conversely, if the lien has been satisfied the lien release should expressly state that the underlying obligation has been fully satisfied. If the lien release is not clear as to what is being released, the owner may then argue that the contractor has released all its rights to record a new lien.

This article, ??2010 was written by William C. Last, Jr. 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). 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.

Could California Private Works Stop Notice Claims Be Challenged on Basis That State Stop Notice Law is Preempted by Federal Lending Regulations?
Posted by: Jonathan Bowne
August 06, 2010

 

In this era of declining property values, owner abandoned projects, and defaulting developers, the private works stop notice has become a central element in contractor payment claims. The private works stop notice is served on a construction lender along with a bond, and creates a lien on undisbursed construction loan funds. But a recent trial court order in a Federal District Court in Arizona shows that this remedy of last resort may be threatened by a new legal challenge.

While mechanic's liens have traditionally been a primary remedy for unpaid contractors, they have lost much of their value as a reliable source of payment during the Great Recession. A mechanic's lien taps into equity in the improved property. But if the property is "underwater" (i.e. the value of liens exceeds the value of the property) and/or is subject to foreclosure by senior lenders, then a mechanic's lien may be essentially worthless. This scenario has become increasingly common during these turbulent economic times. A recent report by First American CoreLogic states that over one-third of residential properties in California are currently in a negative equity position.

In response many contractors are turning to the previously rarely used private works stop notice. Instead of creating a security interest in the real property in question, the stop notice attaches to any construction loan funds earmarked but not yet distributed by the construction lender. To be effective the stop notice must be timely served upon the construction lender and accompanied by a surety bond in favor the said lender. Once served the lender is required to hold the stopped funds until the contractor's dispute is resolved.

Lenders are hostile to these stop notices because it forces them to hold and distribute funds on loans which are likely already in default. In response it appears that at least one lender is testing a new legal defense to private works stop notices, and that a Federal District Court in Arizona is validating its theory.

The case in question is Jeffery C. Stone, Inc. d/b/a Summit Builders v. MidFirst Bank, U.S. District Court of Arizona, Case No. CV-09-01218-PHX-ROS. In MidFirst Bank, general contractor Jeffery C. Stone, Inc. ("JCS") entered into a contract with a developer to construct condominiums. The developer then secured construction financing from MidFirst Bank to fund the project. During the pendency of the project the developer defaulted on the loan and the stopped paying JCS. JCS alleged it was owed approximately $1.5 million for already work performed and served a bonded stop notice on MidFirst Bank pursuant to Arizona state law (A.R.S. §33-1058). After JCS filed a lawsuit relative to the stop notice MidFirst Bank had the case removed to Federal District court, and then challenged the stop notice in a Motion for Summary Judgment.

In the motion MidFirst Bank challenged the stop notice on the grounds that Arizona's state private works stop notice laws were unenforceable because they were preempted by Federal lending statutes and regulations.

The Supremacy Clause (Article VI, §2) of the U.S. Constitution, provides that, "The Laws of the United States ... shall be the supreme Law of the Land; ... any Thing in the Constitution or Laws of any state to the Contrary notwithstanding." The US Supreme Court has interpreted this clause to bar states from regulating subject matter within the purvey of federal regulation. In other words, states cannot regulate a given subject matter already governed by federal government legislation. This ensures that the federal government remains the supreme governing authority in the areas it chooses - and is authorized by the Constitution - to regulate

In practice, if a litigant can show that a particular law is preempted by federal regulation then the court cannot enforce the said law. That is what MidFirst Bank succeeded in doing in this case.

MidFirst Bank argued that it was a federally charted saving association and therefore subject to exclusive federal regulation by the Office of Thrift Supervision ("OTS"), as mandated by The Home Owner's Loan Act of 1933. MidFirst Bank cited OTS regulations proclaiming that the OTS "occupies the entire field of lending regulation" for federal savings associations and case law stating that there is "no room for state regulatory control" of these lenders. More specifically, MidFirst Bank cited an OTS regulation specifically providing that any state law "purporting to impose requirements regarding ... disbursements and payments" be preempted. 12 C.F.R. 560.2(b)(11).

The court in MidFirst Bank then examined the Arizona private works stop notice statute in light of these clear preemption limitations. The court noted that the relevant Arizona law provided that lenders served stop notices "shall withhold from the borrower ... out of the construction fund sufficient monies to answer the claim." The court then concluded, "Absent this Arizona statute, however, MidFirst would not be required to disburse any funds. Thus, the Arizona statute is a straightforward attempt to control MidFirst's actions regarding disbursements of loans. Because laws regarding "disbursements" are explicitly identified in the preemption regulation, the analysis ends here; the law is preempted." Based upon this conclusion the court granted MidFirst Bank's motion for summary judgment.

Notwithstanding other considerations, it should be noted that the theory used in MidFirst Bank should not be applicable in cases when a stop notice is served on a state-charted savings associations. These thrifts are not subject to exclusive OTS regulation and therefore in theory should clearly be subject to state stop notice laws.

The question for California contractors is whether or not a similar defense is possible in California courts. California private works stop notice provisions are set forth in Civil Code §3156 et seq. Section 3159 and 3162 provides that when served a bonded stop notice a "construction lender shall withhold funds pursuant to the bonded stop notice..." On its face the California scheme appears similar to the Arizona scheme in that it could be construed as an attempt to control a lender's actions regarding the disbursement of loans. Therefore California statutes may also be susceptible to a preemption challenge.

In sum, California contractors and their attorneys should be prepared to face these arguments when litigating private works stop notices. If California courts (or federal courts interpreting California law) are similarly receptive to preemption arguments then the landscape for contractor payment claims will become even more difficult for contractors.

 

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