The Changing Landscape For Mechanics' Lien Waivers In Pennsylvania

Friday, December 1, 2006 - 01:00

Pennsylvania, like many other states, has provided mortgagees with broad protection from intervening mechanics' lien filings. This protection was granted under the Pennsylvania Mechanics' Lien Law of 1963, 49 P.S. 1101 et seq . ('PMLL'). This summer Gov. Rendell signed into law the Pennsylvania General Assembly House Bill 1637, also known as Act 52 ('Act 52'), which will become Act 52 of 2006. This new law will dramatically change the legal landscape for mechanics' liens and the protections available to mortgagees.

The New Requirements -Act 52 Of 2006

The new regime under Act 52 will become effective on Jan. 1, 2007 and will be applicable only to contracts entered into on or after Jan. 1, 2007. It is important to note that Act 52 only amends a few of the provisions of the PMLL, meaning, a large part of the old law remains in effect. The PMLL will continue to apply, in its unrevised form, to contracts entered into before Jan. 1, 2007.

The purpose of Act 52 is to provide more protection for contractors and subcontractors by limiting the circumstances in which a property owner can obtain a waiver of a mechanics' lien from a contractor or a subcontractor. The changes are significant because they impact a practice which has now become 'standard' in most major construction projects, the practice by which a prime contractor will usually give a waiver of its right to file a mechanics' lien, both on the contractor's own behalf and on behalf of the contractor's subcontractors.

The Broad Waiver Under The Pennsylvania Mechanics' Lien Law Of 1963

Section 401 of the PMLL provided a broad waiver, whereby a contractor or a subcontractor could waive its right to file a mechanics' lien. Section 401 simply stated that, 'a contractor or subcontractor may waive his right to file a claim by a written instrument signed by him or by any conduct which operates equitably to estop such contractor or subcontractor from filing a claim.'

The New Limited WaiverUnder Act 52

The new law eliminates the broad waiver of Section 401, and instead provides for certain specific instances when a contractor or a subcontractor can waive their rights to file a mechanics' lien. They can be summarized as follows:

(1) In the case of residential buildings, both contractors and subcontractors may waive their right to file a claim against the property with respect to any erection, construction, alteration or repair work on the property, where the total contract price between the owner and the contractor/subcontractor is less than $1 million. Subcontractors alone may also waive their rights, irrespective of the price of the contract, in situations where the contractor has posted a bond guaranteeing payment for labor and materials provided by the subcontractor.

One of the problems this provision poses is that it gives no guidance as to the procedure for the posting of the bond, for example, the amount of the bond and who would issue the bond.

(2) In the case of nonresidential buildings, there is only one instance in which a contractor or a subcontractor can waive their rights to file a mechanics' lien, and that is where the waiver is given, 'in consideration for payment for the work, services, materials or equipment provided, and only to the extent that such payment is actually received.'

This provision marks a significant change because under the PMLL, a mechanics' lien waiver could be given by a contractor or a subcontractor even if payment had not yet been received by the contractor or subcontractor.

A waiver in either of the situations described in (1) or (2) above may still be in the form of either a written instrument signed by the contractor or subcontractor, as applicable, or by any conduct which operates equitably to estop the contractor or subcontractor, as applicable, from filing a claim.

Notice Requirements

Under the PMLL, a mechanics' lien waiver that was executed by a contractor but provided that a claim could not be filed by a subcontractor, was binding on the subcontractor if: (i) the subcontractor had received actual notice of the waiver before the subcontractor had furnished any labor or materials; and (ii) the contract or an instrument in writing evidencing the same, was filed in the office of the prothonotary prior to the commencement of the work, or within 10 days after the execution of the principal contract, or not less than 10 days prior to the contract with the subcontractor (indexed appropriately depending on whether an electronic filing system is used).

These same notice requirements apply under the new regime of Act 52. For a contractor to be able to bind a subcontactor, however, the subcontractor's mechanics' lien rights would have to be waivable under Act 52 (i.e., standing alone, the subcontractor would have to fit into one of the categories under Act 52).

Changes To Other ProvisionsOf The PMLL

The Definition of 'Subcontractor'

A noteworthy change made by Act 52 is the definition of subcontractor. The PMLL did not allow sub- subcontractors to file mechanics' lien claims - the definition covered only those who entered into contracts with the contractor, and not subcontractors or materialmen. Further, the Pennsylvania courts have consistently held that one who contracts with a subcontractor has no right to file a lien.

Act 52 extends the right to file a mechanics' lien to sub-subcontractors. It also provides that a subcontractor is not only someone who contracts with the contractor, but also someone who provides labor or materials 'pursuant to a contract with a subcontractor in direct privity of contract with a contractor.' 2006 Pa. Legis. Serv. Act 2006-52 (H.B. 1637) (PURDON'S)201(5). This in effect means that second-tier subcontractors would be covered by the definition. 1

New Definition of Residential Building

The PMLL did not have a definition for a 'Residential Building.' Act 52 defines 'Residential Building' as 'property on which there is a residential building, or which is zoned or otherwise approved for residential development, planned development or agricultural use, or for which a residential subdivision plan or planned residential development plan has received preliminary, tentative or final approval pursuant to the act of July 31, 1968 (P.L. 805, No. 247), known as the Pennsylvania Municipalities Planning Code.' 2006 Pa. Legis. Serv. Act 2006-52 (H.B. 1637) (PURDON'S) 201(14).

Time for Claimant to File Claim

Under the PMLL, upon completion of the work, a claimant had four months in which to file a claim. Act 52 extends this time period to six months.

Preliminary Notice of Intention to File Claim

In the case of alteration or repair work, the PMLL imposed a requirement on subcontractors to provide owners with a preliminary written notice of intention to file a claim (in the event that payment for the work was not received by the subcontractor), prior to or on the date of completion of the work. The preliminary notice was to be provided by the subcontractor in addition to the formal notice of the claim under the PMLL rules. Act 52 has removed this requirement.

Additional Protection For Certain Types Of Lenders

Under the PMLL, once a mechanics' lien was filed, it took priority from the date that 'visible' construction began on the property, which could mean a date before a mortgagee's interest was perfected. As a result of this, mortgagees would require blanket mechanics' lien waivers in advance of construction.

Under the new regime provided by Act 52, mechanics' liens will always remain subordinate to purchase money mortgages and open-end construction mortgages, irrespective of when construction begins on the project. Therefore, the new law does in fact provide additional protection for certain lenders, specifically purchase money mortgage lenders and construction lenders. Act 52 adds a provision dealing with the priority of mechanics' liens, stating that 'any lien obtained under this act by a contractor or subcontractor shall be subordinate to the following: (i) a purchase money mortgage as defined in 42 Pa.C.S. 8141(1) (relating to time from which liens have priority) and (ii) an open-end mortgage as defined in 42 Pa.C.S. 8143(f) (relating to open-end mortgages), the proceeds of which are used to pay all or part of the cost of completing erection, construction, alteration or repair of the mortgaged premises secured by the open-end mortgage, 2006 Pa. Legis. Serv. Act 2006-52 (H.B. 1637) (PURDON'S) 508(c).

However, the protection afforded by Section 508(c) applies only to purchase money mortgage lenders and construction lenders. No comfort is offered to lenders providing refinancing subsequent to acquisition or construction. In addition, under 42 Pa. C.S. 8144 of the Open-End Mortgage Act, the proceeds of an open-end mortgage may also be used to secure advances for the payment of other costs that are not directly related to the construction, and Act 52 does not make it clear whether such other costs would be covered by the priority protection offered. Such other costs are, for example, taxes, insurance premiums and maintenance charges, or a lien incurred by reason of a default by the mortgagor under the mortgage.

Conclusion

One of the most significant amendments put forth by Act 52 is that a mechanics' lien waiver given in advance of receipt of actual payment for the work is unenforceable in nonresidential construction projects. Additionally, Act 52 even goes so far as to state that any other waiver would be against public policy and would be unlawful and void. This marks an important shift in the law surrounding mechanics' liens. Under the PMLL, it was left to the parties to negotiate at arms-length what their contract terms would be. Now, under the changes enacted by Act 52, the statute itself will dictate what the contract terms can be.

There are several questions that the amendments under Act 52 leave unanswered. As stated above, details are missing with respect to the bond-posting by a contractor in residential mortgages, as well as specifics on what type of costs will be afforded super-priority protection are absent in the case of open-end mortgages. In addition, the new statute does not prohibit contractors or subcontractors from subordinating their mechanics' lien rights.

The result is added costs and time for owners and lenders, who can no longer rely on getting blanket waivers of mechanics' liens from contractors and subcontractors in advance for their construction transactions. More due diligence will be required from owners, lenders and their counsel. In those cases where mechanics' lien waivers cannot be obtained, serious thought will have to be given to the changes that need to be made in standard financing documentation.

1 The definition of 'Subcontractor' under Act 52 still excludes an architect or engineer who contracts with a contractor or subcontractor or a person who contracts with a materialman (and adds language to include a person who contracts with a subcontractor not in direct privity of contract with a contractor.)

As a member of Stradley Ronon's business practice group, Jo Cheeseman focuses her practice on mergers & acquisitions, public and private securities work, private equity investments, joint ventures, commercial finance, real estate and other general business matters. She can be reached at (215) 564-8751.

Please email the author at jcheeseman@stradley.com with questions about this article.