Consider this scenario: Your client is the owner of a construction project nearing completion when she is approached by her general contractor and told that he owes more money to his subcontractor than she owes (or will owe) to him. To add to the distress, a mechanic's lien has been filed by one of his subcontractors and your client is concerned that additional liens may be filed. What are your client's options if she does not wish to increase the contract sum and continue working with the general contractor?

Addressing your client's concern regarding existing and future liens, it must first be noted that while the unpaid subcontractors can file notices of lien for the full amount owed by the general contractor, the owner's liability for such liens is limited by the amount unpaid to the general contractor at the time of the filing of the liens. This unpaid amount is known as the “lien fund.” Thus, in the absence of a lien fund, a lien by a subcontractor is invalid against an owner. In our scenario, however, your client has exposure to the previously filed lien because, at the time of the filing, monies were due to the general contractor.

A Successful Approach

An approach we have successfully followed in these circumstances involved the consensual termination of the general contractor and the payment in full of all monies then due to the general contractor, subject to an escrow payment to its counsel to cover the cost of satisfying the existing lien. This approach allowed for a clean break with the general contractor and provided substantial funds—trust funds under the Lien Law—for payment to the subcontractors and to cover permissible reimbursement for fee and general conditions to the general contractor. The general contractor, of course, remained liable to its subcontractors for any shortfalls due to the subcontractors.

In following this approach, we relied on the Lien Law and ancient common law principles that, in the absence of fraud, an owner cannot be compelled to pay any greater sum for the completion of a project than he has agreed to pay his general contractor, and that such payments cannot be attacked by subsequent lienors. Some two months after the owner settled in full with the general contractor, and extinguished the lien fund, a notice of mechanic's lien was filed by a subcontractor, followed by a lien foreclosure action which included claims for trust fund diversions against the general contractor. After extensive discovery, we moved to dismiss the action against the owner.