What to do when a contractor defaults

It is not unusual for companies, even very successful ones, to enter into agreements with contractors for large sums of money with very little or no involvement from knowledgeable legal counsel. A common scenario is to have a fill-in-the-blank form contract that calls for periodic payments which do not relate to any percentage of completion.

Frequently, by the time the client reaches out for legal advice, the contractor has been paid nearly the full amount stated in the contract, plus additional money for change orders, and the project is far from complete and the contractor has stopped showing up at the job. The business must open and the budgeted amount has been spent. Major items may still not be complete including electrical, plumbing, sprinkler systems and city inspections.

Unfortunately, this is an all too familiar scenario. It can happen to anyone working with a contractor, whether it be in your office, store, house, co-op or condominium. Of course, this is not to say that there are not many excellent contractors who do fine work and complete their contractual obligations in a timely fashion. However, there are some contractors in the industry who often wind up in this situation because they: (a) took on too much work and are not able to give your project the time and attention it deserves; (b) do not have adequate financing to pay men to continue the job because they misspent the money; (c) do not know how to manage a job; (d) used subcontractors to do the work and owe them money because they underbid the job; or (e) intentionally tried to take advantage of the client.

Companies use these same contractors over and over again because they do not check their references closely enough and do not get appropriate legal advice before hiring a contractor in the first place.

Whatever the reason is for the default, the end result is the same. Your project is a mess and you need to have a finished space. Knowing what to do about it is the tricky part. Part of the answer to this lies in figuring out what you did wrong to begin with.

What Did You Do Wrong?

The contractor cannot be blamed for everything. Anytime you find yourself in a situation like this, you also have to look at what you may have done to put yourself in that situation. Most clients who are in this predicament have done one or more of the following things: (a) signed whatever contract the contractor gave them; (b) never consulted an attorney for advice about the project or the contract; (c) paid the contractor whatever he asked for, even if it was more and different from the provisions in the contract; (d) had an architect or engineer draw up the plans, but did not use him or her to observe the progress of the work because they were saving money; and (e) let the project go for months beyond the agreed upon completion date without getting any legal advice.

Thus, even though the contractor is to blame, the client may have created the problem, at least in part.

Severing The Ties

One of the worst things you can do is suffer silently. Many people think "Oh, I'll just give him a little more time" or "I'll write him a letter." Occasionally those things work, but more often than not there is a bigger problem the contractor is having and it cannot be remedied so easily. If the contractor has mismanaged your money, he simply may not have any money to pay employees or subcontractors to keep working, even though you have paid him. This is a very real problem. The contractor will not be mortgaging his home without a fight.

Usually the best and most practical solution is to cut your losses, terminate the contractor and find another contractor to complete the project. Focus your energy on getting the project done, then go back and pursue the first contractor. However, these fact patterns are not always so black and white. Sometimes the contractor is not working because he believes you have breached the contract by not paying or by creating delays which have cost him money. Thus, any termination of a contract should always be done with the advice of an attorney, because you do not want to do anything which would put you in breach of contract.

Moving Forward

Next, you must find another contractor. The keys to not making another mistake with the new contractor are: (1) carefully checking the contractor's references; (2) having an attorney who knows the construction industry draft the contract; (3) making certain the contract reflects what is actually being done; (4) paying the contractor based on the percentage of work completed; (5) having an architect or engineer advise you on the quality and quantity of work completed and any defective work; and (6) having an attorney to consult with as the project proceeds.

Time and time again I see clients who pay contractors every time they ask for money and find that they have paid out nearly the full contract amount and have substantial work left to be done. The client should be holding a substantial sum of money for the contractor at the point of substantial completion, and this should be paid to the contractor as certain milestones are achieved, such as: final inspections are completed; a certificate of occupancy is obtained; and waivers of lien are provided.

Getting Damages

Once you have worked out how to get the job completed, you will no doubt want to consider how to get your money and damages back from the first contractor. If you have a contract with an arbitration clause, then the dispute can be arbitrated. If you do not have such a clause, the case will go through the court system and may take a while before it is resolved. You must be prepared for a long fight which may be expensive relative to the amount of in dispute. These types of disputes do not settle as often as other types of litigation because any possible settlement money is usually coming from the contractor directly, and he will claim he does not have it.

Of course, one can never be certain if the contractor will have any assets to collect against, even if you do wind up with a judgment. This goes back to checking references. If you know you are working with a substantial firm that has been in business for a while, you can be confident that even if there is a problem, they will be able to pay the damages without going out of business.

These disputes can get a lot more complicated when the contractor feels that the client is in breach of contract. This will be discussed at greater length in a future article, but the client and the contractor may wind up suing each other and the contractor can file a mechanic's lien against the property for the sum he claims he is owed.

I believe your main focus in these situations should always be on finishing the job. Once the store or business is open, you will have revenue coming in and will be better able to pursue your claim. While the work to complete the job is underway or after it is done, you can get appropriate legal advice and pursue your remedies against the first contractor.

COPYRIGHT 1996 Hagedorn Publication
COPYRIGHT 2004 Gale Group