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Fee Shifting Under Goodrich-Implications for General Contractors and Subcontracts

August 10, 2016adminUncategorized0

Indiana courts must shift attorneys’ fees to prevailing parties in mechanic’s-liens-foreclosure actions.  Prior to the Indiana Supreme Court’s recent decision in Goodrich Quality Theaters, Inc. v. Fostcorp Heating and Cooling, Inc., 29 N.E.3d 124 (Ind. 2015), arguably only those with interests in the property could be liable for attorneys’ fees.  After Goodrich, general contractors with no interest in the property may be required to pay foreclosing plaintiffs’ attorneys’ fees.  Both general contractors and subcontractors must be aware of this decision and its potential consequences.

Goodrich Quality Theaters, Inc. leased property from Spirit Master Funding III, LLC (“Owner”) to construct a movie theater.  Goodrich hired a general contractor (“General Contractor”) to oversee the project.  General Contractor engaged several subcontractors (“Subs”) to provide labor, services, and materials necessary to construct the project.

Problems plagued the project, causing the theater to fall behind schedule.  Owner failed to pay General Contractor the full contract price and, consequently, General Contractor did not pay Subs all payments owed.  Subs timely filed mechanic’s liens against the property and sued Goodrich and Owner to foreclose on their respective liens.  In the same action, Subs sued General Contractor, but only for breach of contract.  The subcontracts did not permit fee shifting, but Subs requested attorneys’ fees by relying solely on Indiana Code section 32-28-3-14.

While the case was pending, General Contractor filed an undertaking and posted a surety bond under Indiana Code section 32-28-3-11.  The bond obligated General Contractor, the bond’s principal, or its surety to pay any judgment recovered in a lien-foreclosure action, “including costs and attorney’s fees allowed by the court.” Approving the bond, the trial court released the mechanic’s liens, with the bond to serve as security in lieu of the property.  Three months later, Owner paid General Contractor in full, and General Contractor and Owner filed a motion to dismiss the claims for attorney’s fees. The trial court denied the motion and ultimately awarded Subs their claimed amounts and attorneys’ fees.  General Contractor appealed, challenging the trial court’s award of attorneys’ fees.

The Court of Appeals agreed with General Contractor, reasoning that Indiana’s mechanic’s lien fee-shifting provision only applies to property owners.  The Supreme Court disagreed, holding that releasing the property in lieu of the bond did not discharge General Contractor’s obligation to pay Subs for their work. Rather, Subs’ liens subsequently attached to General Contractor’s stated obligation in the undertaking to pay the full amount of the judgment plus attorney’s fees and costs.  In other words, the bond released and replaced the property as the liens’ security, and Subs became entitled to foreclose on the bond. This narrow holding makes sense.  If it were otherwise, posting a bond would permit parties to circumvent the mechanic’s lien’s fee-shifting requirements.

But the case contains a potentially broader holding with likely unanticipated consequences. In arriving at its decision, the Court stated “even if [General Contractor] had not posted a bond . . ., the [Subs] still would have been entitled to recover attorney’s fees from [General Contractor] under § 32-28-3-14 . . . .” Id. at 665.  It appears this is a result of the Supreme Court’s adoption of a misstatement of facts from the Court of Appeals’ decision.  The Court of Appeals stated that the Subs named General Contractor in the foreclosure action because General Contractor held an interest in the property.  And the Supreme Court alluded to the same fact in a footnote.  But according to the parties’ briefing the General Contractor held no interest in the property and the Subs’ action against the General Contractor rested on breach of contract rather than mechanic’s lien foreclosure.

The general contractor’s property interest, or lack thereof, is critical because Indiana Code section 32-28-3-1 permits “[a] contractor, a subcontractor . . . [to] have a lien . . . on the interest of the owner of the lot or parcel of land.”  While Indiana courts have interpreted “owner” broadly to include any person or entity holding a legal interest in the property, see Mid America Homes, Inc. v. Horn, 396 N.E.2d 879, 882 (Ind. 1979), General Contractor was not, and could not be, a party to the foreclosure action because it held no interest in the property.  Instead, General Contractor was named in the lawsuit solely for purposes of the breach of contract count.  In the absence of Indiana Code section 32-28-3-11, Subs would be precluded from recovering attorneys’ fees.  Considering the facts of the case as disclosed in the parties’ briefs, the Goodrich decision may indicate that any person or entity can be liable for paying foreclosing plaintiffs’ attorneys’ fees, not just those who hold an interest in the property.

Both subcontractors and general contractors must be mindful of this development when assessing risks, negotiating their contracts, preparing bid packages, and deciding whether to pursue mechanic’s lien foreclosure actions. Goodrich is a win for subcontractors because it provides another potential avenue for fee shifting.  Subcontractors should be mindful of this when reviewing contract remedy provisions.  Though the subcontract may not contain a fee shifting provision, the subcontractor may be able to rely on Goodrich to obtain its fees so long as it names the general contractor in a breach of contract count in its foreclosure action against the property owner.

General contractors must likewise be mindful of Goodrich’s potential reach.  Despite contractual provisions denying fee shifting, general contractors may be obligated to pay subcontractors’ attorneys’ fees when subcontractors file timely mechanic’s liens and name general contractors in the same action for breach of contract.  Perhaps this provides additional motivation for general contractors to ensure that subcontractors are timely paid.  On the other hand, when general contractors have no influence on owners to timely pay the contract price, they will face two choices:  (1) pay subcontractors out of their own pocket to avoid paying attorneys’ fees later; or (2) defend foreclosure actions and seek indemnification from nonpaying owners for exposure to attorneys’ fees.  To best protect themselves, general contractors need to ensure that their contracts with owners include specific indemnification language covering exposure for payment of subcontractors’ attorneys’ fees in foreclosure actions.  Without this protective mechanism in place, general contractors may need to account for the potential for increased exposure to attorneys’ fees in their bid packages.

By: Charles B. Daugherty

Can the Property Manager of a Retail Center Be Liable For Injuries Resulting from the Acts of Intoxicated Customers?

June 10, 2016adminUncategorized0

The Indiana Court of Appeals recently decided a case involving premises liability in which the plaintiff sought to extend liability to the property manager of a retail center for injuries a customer suffered as a result of the acts of another intoxicated customer.

In Schneider v. Paragon Realty, LLC, the plaintiff had consumed five vodka drinks at her home and then accompanied her friend to Bubbaz Bar & Grill located in a strip mall owned by Heartland Landing II, LLC.  She and her friend consumed additional drinks at Bubbaz and left the bar at 2:00 a.m.; her friend lost control of his car, and as a result of the crash, the plaintiff became a paraplegic.  The blood alcohol content of the driver was .10.

The plaintiff filed suit against Bubbaz, Heartland and the property manager, Paragon, alleging (among other things) that (1) agents or employees of the defendants served the plaintiff and her friend alcoholic beverages with actual knowledge that they were intoxicated, (2) agents or employees of the defendants carelessly and negligently served the plaintiff and her friend alcoholic beverages when they knew or should have known that they were intoxicated and soon thereafter would be driving an automobile, (3) the defendants failed to adequately monitor and supervise their alcohol sales business activities, (4) the defendants and their agents or employees allowed the plaintiff and her friend to drive off, despite their obvious state of intoxication, (5) the defendants are responsible for the acts of their agents and employees under the doctrine of respondeat superior, and (6) the defendants are liable for the plaintiff’s injuries under the Indiana Dram Shop Act and a common law theory of premises liability.

Paragon moved for summary judgment alleging that it did not owe any duty of care to the plaintiff, and following a hearing, the trial court entered summary judgment in favor of Paragon.  The plaintiff appealed, contending that Paragon owed her a duty of care because she was an invitee on the property owned, operated or controlled by Paragon.  In support of that contention, the plaintiff designated evidence showing that the property management agreement between Paragon and Heartland gave Paragon the duty and obligation to maintain, operate, control and supervise the common areas, including the parking lot.  The plaintiff alleged that Paragon should have known the plaintiff’s friend was too drunk to drive and should have stopped him from leaving the parking lot.

The Court of Appeals restated the general law for the plaintiff’s negligence claims:  the essential elements for a negligence action are (1) a duty owed to the plaintiff by the defendant, (2) a breach of the duty, and (3) an injury proximately caused by the breach of that duty; whether a duty exists depends upon (1) the relationship between the parties, (2) the reasonable foreseeability of the harm to the person injured, and (3) public policy concerns.  A landowner generally owes an invitee a duty to exercise reasonable care for her protection while she is on the landowner’s premises; the court recognized that this was an unusual premises liability case, because Paragon is not a “landowner” but a property management company hired by Heartland.

Paragon maintained that it had no control over Bubbaz’s premises or the events that led to the plaintiff’s injury.  Paragon showed that its duties under the property management agreement were to: (1), collect rents and fees, (2) maintain the property in good condition and make repairs as necessary, (3) plan and manage capital improvements, (4) select and employ workmen for the maintenance of the property, (5) contract with utilities for the property, (6) pay taxes and mortgages, (7) deposit monies received on behalf of the owner, (8) negotiate lease agreements, and (9) render advice to the owner regarding property taxes and eminent domain.  Accordingly, Paragon maintained that it did not owe any duty of care to the plaintiff to prevent the car accident that resulted in her injuries.

The Court stated that in premises liability cases, whether a duty is owed depends primarily upon whether the defendant was in control of the premises when the accident occurs.  The defendant will be subjected to liability if that defendant could have known of any dangers on the land and could have acted to prevent foreseeable harm.  The court noted that under the property management agreement, Paragon was a limited agent of Heartland, Bubbaz’s landlord.  Paragon’s duties to Bubbaz’s customers were explicitly limited to maintaining the physical integrity of the common areas, and the court surmised that had the plaintiff tripped over uneven pavement in the parking lot and been injured, Paragon might have been liable.  The Court of Appeals affirmed the trial court’s summary judgment in favor of Paragon finding that Paragon did not exercise any control over or have any responsibility for the way Heartland’s tenants conducted their business.

By George H. Abel, II

When Trespass Claims and Negligence Claims Collide in Developing Real Property

February 9, 2016adminUncategorized0

A recent decision by the Indiana Court of Appeals involving trespass by one property owner and negligence by another (which resulted in damages from surface water drainage) led to a split decision for the parties who had been granted a significant monetary award. In Liter’s of Indiana, Inc. v. Earl E. Bennett and Daniel Bodine,  Liter’s developed its property for a residential subdivision in Jefferson County, Indiana, and Bennett and Bodine owned property adjoining the subdivision.  In the course of developing the subdivision, Liter’s discovered that the eaves of the home located on the Bennett and Bodine property and a driveway serving the home encroached upon the Liter’s property.  In order to provide drainage for the subdivision, Liter’s requested an easement from Bennett and Bodine to construct a storm water detention basin on their property; in exchange, Liter’s would grant them an easement so the encroachments could remain.  Bennett and Bodine rejected the request, and Liter’s erected a chain link fence on the property line between its property and the adjoining property, in very close proximity to the home.

Liter’s filed a lawsuit seeking to enjoin the trespass onto its property in connection with the encroachments and to recover damages. Bennett and Bodine filed a counterclaim contending that the fence constituted a nuisance and that Liter’s had negligently designed its subdivision, resulting in surface water from the development flooding their property.

A jury trial was held on the trespass, nuisance and negligence claims. An expert witness retained by Bennett and Bodine testified that, based on calculations that he would have used, the detention basin was too small, resulting in storm water being released from the detention basin at a faster rate; this caused erosion and flooding on the adjoining property.  Liter’s expert witness contradicted that evidence and testified that he had inspected the detention basin and had determined that it was adequate for the subdivision being constructed.  Bodine testified that after Liter’s drainage facilities were constructed and development of the subdivision begun, storm water drained across their property, resulting in erosion underneath their driveway and water ponding against the exterior walls of the home.  A licensed appraiser testified that if such flooding occurred three times a year, Bennett and Bodine would suffer damages in the amount of $134,500.00 as a result of the devaluation of the home.

In addition to testimony designed to contradict the testimony of the expert retained by Bennett and Bodine that the drainage facilities were inadequate, Liter’s sought to rely on the “common enemy” doctrine applied to surface water drainage. The common enemy doctrine provides that surface water which does not flow in defined channels is a common enemy, and each landowner may deal with the water in any manner that best suits its needs; accordingly, it is not unlawful for a landowner to improve its property in a way that accelerates the flow of surface water by limiting ground absorption or changing the grade of the land.  However, there is an exception to the common enemy doctrine where a landowner, by artificial means, collects storm water and casts into onto a neighbor’s property.  The jury negotiated for nine hours and awarded $51,150 each to Bennett and Bodine for damages resulting from the devaluation of their property due to flooding; the Indiana Court of Appeals found that the jury had properly considered the evidence and reasonably determined that, under the exception to the common enemy doctrine, Liter’s undersized detention basin led to casting water onto the adjoining property, supporting the award for the negligence damages.

The fence had been removed, and while the jury found for Bennett on Bodine on their nuisance claim, it awarded no damages. The jury also found in favor of Liter’s on its trespass claim but awarded no damages.  At trial, Liter’s presented evidence that its property had been devalued by $18,000.00 as a result of the trespass by the adjoining property owner.  The Court of Appeals upheld the jury’s decision to not award any damages to Liter’s, noting that it can only consider the evidence that supports the award; because appellate courts are unable to actually look into the minds of the jurors, the courts will not reverse an award if it falls within the evidence.  The Court presumed that the jury followed the court’s instructions that it could award damages and then determined that Liter’s was not entitled to any such damages, even though a trespass existed.  However, the Court also found that, since the eaves of the home still extended over the Liter’s property, Liter’s was entitled to a permanent injunction requiring Bennett and Bodine to remove the portion of the roof that extended over the Liter’s property.  Accordingly, while Bennett and Bodine did receive a substantial monetary award, they will end up spending at least a portion of that amount to alter the home on their property to remove the portion of the roof extending onto the Liter’s property.

By George H. Abel, II

 

ON THE ROAD TO TETON: WAIVER OF SUBROGATION IN CONSTRUCTION CONTRACTS – A NEW TWIST ON AN OLD THEME

January 14, 2016adminUncategorized0

By:  Charles B. Daugherty

Introduction

Insurance companies are in the business of assessing risk and compensating insureds when the unexpected arises, but payment is not necessarily the last step in the claim process. As a general rule, upon payment of a loss, an insurer may step into its insured’s shoes and assert any right of action which the insured may have against a third person whose negligence or wrongful act caused the loss. This is the definition of subrogation. Subrogation is an instrument of economic efficiency because it forces negligent actors to bear the costs of their actions, which avoids externalities—the imposition of an activity’s costs upon others. When subrogation is precluded, externalities result because innocent actors bear the costs associated with the negligence of others.

The subrogation concept applies across many types of loss in many industries, including the construction industry. Subrogation in the construction context, however, is unique. Construction projects are complex endeavors. This complexity has posed a dilemma for many courts. Subrogation lawsuits delay valuable construction projects and result in costly and lengthy litigation. Commentators have noted that “in the construction setting, [an insurer’s subrogation action and] recovery can frustrate the intention of the participants and the participants’ insurers.”Consumers ultimately suffer from (1) delayed use of new facilities and (2) increased costs passed on by construction litigants. In response to this, many construction contracts, including the AIA’s standard forms, include subrogation-waiver clauses.

But precluding subrogation leads to externalities and economic inefficiency because negligent parties are not forced to bear the loss arising from their own negligence. These costs too are ultimately shouldered by the consumer. Like many states, Indiana has also grappled with these conflicting policies. Over the years, Indiana’s courts have upheld waivers of subrogation in the construction industry. Along the way, the subrogation-waiver landscape has been shaped by several construction disputes.

In its most recent announcement on the topic, Indiana’s Supreme Court took an expansive approach to subrogation-waiver clauses by holding that, under the language at issue, an insurer was precluded from recovering for losses to both “work” and “non-work” property. This short article Teton’s impact on the construction industry.

Teton and Its Impact

The Indiana Court of Appeals has addressed a “work” versus “non-work” distinction that has divided courts across the United States. Until this year, the Indiana Supreme Court had not weighted in on the issue. Teton changed that.

In 2004, the Indiana Court of Appeals adopted the “minority approach” by holding that subrogation waivers in standard AIA agreements are only effective to waive damages sustained to property that is subject to work under the contract, even if an insurance policy covers damages to other non-work property. But, in 2014, a different circuit adopted the “majority approach” by holding that subrogation waivers in standard AIA agreements are effective to waive damages sustained to any property covered by insurance, whether property that is subject to work under the contract or other non-work property. The Indiana Supreme Court granted transfer to address the split between the circuits

Teton arose out of a renovation and remodeling project at the Jefferson County courthouse. The first phase of the project involved repairs to the courthouse roof, flashing, gutters, and downspouts at a price of $87,280.00. The parties’ contract required Jefferson County to obtain separate property or builder’s risk insurance for the project.Instead, Jefferson County relied on its existing property insurance. The construction contract contained the following language:

   11.3.5 If during the Project construction period the Owner insures properties, real or personal or both, adjoining or adjacent to the site by property insurance under policies separate from those insuring the Project, or if after final payment property insurance is to be provided on the completed Project through a policy or policies other than those insuring the Project during the construction period, the Owner shall waive all rights in accordance with the terms of Subparagraph 11.3.7 for damages caused by fire or other perils covered by this separate property insurance. All separate policies shall provide this waiver of subrogation by endorsement or otherwise.

11.3.7 Waivers of Subrogation. The Owner and Contractor waive all rights against . . . each other and any of their subcontractors, sub-subcontractors, agents and employees, each of the other . . . for damages caused by fire or other perils to the extent covered by property insurance obtained pursuant to this Paragraph 11.3 or other property insurance applicable to the Work . . . .       

During construction, a roofing subcontractor allegedly caused a fire while soldering downspouts near the courthouse’s wood frame. The fire resulted in approximately $6 million in damages. Jefferson County filed a lawsuit against the contractor and its subcontractors. The contractor raised the waiver of subrogation clause as a defense, but Jefferson County argued that the waiver only applied to damages to the “Work,” as defined in the contract, meaning that Jefferson County should not be precluded from recovering damages exceeding $87,280.00 contract price for the renovation work.

The Indiana Court of Appeals held that Jefferson County waived its right to subrogate all damages claims covered by its property insurance, including damage to “non-Work” property.  Noting that the majority approach furthers the underlying purposes of subrogation waivers by “avoid[ing] the predictable litigation over liability issues and whether the claimed loss was damage to Work or non-Work property,” the court applied the waiver of subrogation provision to all of Jefferson County’s property covered by property insurance. Jefferson County, therefore, could not recover.

On transfer, in a case of first impression, the Indiana Supreme Court affirmed the Court of Appeals and adopted the majority approach. The Court reasoned that “[t]he positioning and plain meaning of the word ‘covered’ restricts the scope of the subrogation waiver based on the source and extent of the property insurance coverage, not the nature of the damages or of the damaged property.”The Court held that “if property damages (of any sort) are “covered” by an insurance policy . . . , the waiver applies.”

Teton will impact construction-project participants, the insurance industry, and, ultimately, consumers. Teton, like cases before it, runs counter to classic economics’ externality aversion by placing the loss on an insurance company whose insured did not cause the loss. After Teton, those externalities are potentially greater because unrecoverable losses can extend beyond the price of the construction contract. What does this mean for the construction industry?

Construction is a contract-driven industry. Drafters are free to modify standard-contract insurance language in attempt to avoid Teton’s result. If the parties intend to restrict the scope of waivers to the value of the construction contract, they can presumably do so. But what incentive have they to take those steps? After all, the reason for laying the loss on insurance companies is to avoid time-consuming litigation and resultant project disruptions. Who is bearing this increased cost? Insurance companies are profit-seeking enterprises. When their exposure increases, premiums increase. Owners and contractors are also profit-seeking entities. When their insurance premiums increase, they attempt to pass the increased cost on to the ultimate users of their products and services. The consumer, therefore, ultimately pays a higher price for the same goods and services, despite playing no role in the negligent actions causing loss. This was true before Teton, but the recent decision appears to have increased that tax.

Teton teaches that Indiana, like the majority of states considering the issue, has determined that the costs to construction participants, the insurance industry, and, ultimately, consumers resulting from construction-project subrogation actions outweighs even the post-Teton era’s increased externalities resulting from shifting unrecoverable loss to insurers. Only time will tell if construction participants, as reflected by their contracts, will agree with this valuation.

 

Landlords Get Some Clarification on Tax Exemptions

October 8, 2013adminUncategorized0

By:  George Abel

Many landlords lease space to Indiana governmental agencies, including offices for the Family and Social Services Administration, Indiana Department of Veteran’s Affairs facilities, Bureau of Motor Vehicles branches, etc.  This is becoming ever more prevalent as agencies seek to maintain the flexibility to close and/or consolidate offices as tax revenues (and their budgets) shrink; leasing space instead of owning real property helps governmental agencies maintain such flexibility.

However, leasing to such agencies creates its own set of challenges, even for landlords who may believe they are receiving the benefit of leasing to a good credit tenant thatwill always pay the rent on time.  In this regard, landlords should be aware that leases with such agencies almost always contain a provision that, even though the lease may be for a specified number of years, the agency has the right to terminate the lease on relatively short notice if appropriations are not made for continued operation of the location.  In addition, rent is paid by such agencies in arrears, rather than being paid in advance each month (such advance monthly payments are standard in other commercial leases), and the landlord’s remedies may be limited to preclude the landlord from accelerating rent in the event of a default by the tenant.  Such provisions are contained in leases with governmental agencies because such agencies cannot pay for goods or services until the goods or services are actually provided.

One common provision in many commercial leases has been the source of some confusion in the past when leasing to governmental agencies.  Many commercial leases require tenants to pay their share of real property taxes, either the amount of the actual taxes attributable to the leased property or the amount of any increase in such taxes above a certain amount; even where tenants are not expressly required to pay such real property taxes, the estimated amount of such taxes is included in the rental rate.

Under Indiana Code Sec. 6-1.1-10-2, property owned by the state, a state agency, or the BMV is exempt from real property taxes.  Landlords have also been successful on some occasions in receiving an exemption from real property taxes for property leased to state agencies (and even for local governmental agencies), although the authority for such exemptions has been somewhat unclear.  The granting of such exemptions was sometimes based on the rationale that requiring governmental agencies to pay real property taxes which may be a source of funding for that agency was, in effect, the agency paying itself in a roundabout way, while placing the burden on the county to assess the property and collect the taxes.

Commencing January 1, 2014, property leased to a state agency is exempt from real property taxes under certain specific circumstances.  Indiana Code Sec. 6-1.1-10-2 has been revised to provide that real property leased to a state agency is exempt from real property taxes if the agency is obligated under the terms of the lease to pay real property taxes.  If a state agency leases less than all of a parcel of real property, the exemption will be a partial exemption.  It is important for landlords to specifically provide in any lease with such agency that the agency will be obligated to pay real property taxes.