January 19, 2016
Construction Law Alert
Author(s): Matthew A. Richards
A recent California Court of Appeal decision raises more questions about the circumstances under which California owners and general contractors may withhold retention on construction projects.
United Riggers, a recent decision from the California Court of Appeal, Second District, limits the circumstances under which prime contractors on private construction projects may withhold retention payments from their subcontractors. In doing so, the court extended its East West Bank  decision from the public works context to private projects, and continued its project of rewriting what had been considered a well-established area of construction law.
Under California’s “prompt payment” statutes, private owners and government entities may withhold payment to general contractors (and general contractors may withhold such payments to their subcontractors, if a “good faith dispute” exists between the parties.
Until 2015, California case law held that retention payments could be withheld if the good faith dispute related to any aspect of the project at issue. In 2009, the California Court of Appeal, Third District, expressly stated as much in an opinion authored by California’s current Chief Justice, Tani Cantil-Sakauye. Martin Brothers was left undisturbed and treated a precedent until the Second District’s East West Bank decision six years later. In a sharp critique of Martin Brothers, the Second District held that in East West Bank that a public entity may only withhold retention payments if the good faith dispute involves the retention itself. In United Riggers, the Second District reiterated its East West Bank holding—in order to justify withholding retention, the good faith dispute must relate to the retention itself—and extended it to private projects.
United Riggers involved a payment dispute between a general contractor and its subcontractor. After completion of the underlying project, the owner released retention to the prime contractor, Coast Iron & Steel Company (“Coast”). Coast asked the subcontractor, United Riggers and Erectors, Inc. (“United”), for its final change order log as well as any outstanding change order requests. In response, United demanded compensation for damages that allegedly resulted from Coast’s mismanagement of the project, as well as additional change order requests. Coast refused, and United sued. For over ten months, Coast refused to release a portion of the retention owed to United and, once the retention was released, declined to pay interest.
After a bench trial, Coast prevailed on all claims, including its right to withhold retention. The basis for the trial court’s decision was that there was a good faith dispute between the parties, and thus Coast was permitted to withhold retention. Because Coast was the prevailing party, Coast was awarded its attorneys’ fees and costs.
United appealed, arguing that: (1) Coast was not entitled to withhold retention; and (2) because United should have prevailed on its claim for retention, the fee award should be reversed. The Court of Appeal agreed with United that Coast improperly withheld retention from United. Concluding that Martin Brothers was wrongly decided, the court in United Riggers held that East West Bank “found the proper balance between the broader remedial purpose of the prompt payment statutes and the right of contractors to insist on satisfactory performance from subcontractors prior to final payment.” According to the court’s opinion, the approach taken by East West Bank “allows primary contractors to withhold retention payments to protect themselves from substandard or inadequate work by subcontractors” while ensuring that “subcontractors receive prompt payment of money that they are undisputedly owed.”
The court reasoned that permitting Coast to withhold retention when there was no dispute that it was owed to United “would unduly increase the leverage of owners and primary contractors over smaller contractors and subcontractors by discouraging subcontractors from making legitimate claims for fear of delaying the retention payment.” The court of appeal thus reversed the trial court’s holding in favor of Coast on United’s retention claim, remanding the issue back to the trial court. The court of appeal also reversed the trial court’s award of attorney’s fees to Coast and ordered the trial court to “determine and award attorney's fees to United, including attorney's fees for this appeal as it relates to the retention claim.”
United Riggers is another blow to the Third District’s holding in Martin Brothers. The California Supreme Court may opt to take up East West Bank to resolve the present split within the courts of appeal and determine, once and for all, when a party may withhold retention payments under the “prompt payment” statutes. Until then, public and private owners and prime contractors should be cautious before deciding to withhold retention payments that are not themselves in dispute.
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