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Pay-if-paid clauses are held by this decision to be enforceable in the state of Kentucky.   This, however, did not prevent a subcontractor from recovering its costs for performing extra work. The pay-if-paid clause of a subcontract prevented the subcontractor from recovering its costs of extra work from the general contractor. The court held the subcontractor could recover directly from the project owner under the theory of implied contract where the owner would otherwise be unjustly enriched by receiving the free benefit of the extra work. The owner argued that the subcontractor had an adequate remedy elsewhere without having to resort to implied contract. Because the owner didn’t pay the general contractor (GC) for the work, however, the sub had no contractual remedy to recover its costs from the GC. After a careful analysis of case law from around the country, as well as the Restatement Third of Restitution and unjust Enrichment, the court found the Owner owed an implied contract duty to the subcontractor. Superior Steel, Inc. v. Ascent at Roebling’s Bridge, LLC, 2017 WL 6380218 (Kentucky 2017).

The court explained its reasoning with regard to the pay-if-paid provision as follows:

“The contract between Superior and D&M contains two sections which are germane to this discussion. First, Article 7.11, “Claims Payment”, states:

[n]o additional compensation shall be paid by the Contractor to the Subcontractor for any claim arising out of the performance of this Subcontract, unless the Contractor has collected corresponding additional compensation from the owner, or other party involved, or unless by written agreement from the Contractor to the Subcontractor prior to the execution of the Work performed under said claim, which agreement and work order must be signed by an officer of the Contractor.

Second, Article 8.2.5, “Time of Payment” reads in relevant part: “[r]eceipt of payment by the Contractor from the Owner for the Subcontract Work is a condition precedent to payment by the Contractor to the Subcontractor. The subcontractor hereby acknowledges that it relies on the credit of the Owner, not the Contractor for payment of Subcontract Work.”16

These contract provisions are not ambiguous. They clearly provide that D&M’s receipt of payment is a “condition precedent” to its obligation to pay Superior. “ ‘Condition precedent’ is a legal term of art with a clear meaning: ‘An act or event, other than a lapse of time, that must exist or occur before a duty to perform something promised arises.’ ” BMD Contractors, Inc., 679 F.3d at 650 (citing BLACK’S LAW DICTIONARY 334 (9th ed. 2009)). This “pay-if-paid” language, coupled with the express use of “condition precedent,” unequivocally allocates the risk of nonpayment by the Project owner to Superior and relieves D&M of the obligation to pay until it receives payment from [Owner] for the steel work performed. It is undisputed that [Owner] never paid D&M for the retainage or the disputed extra work.

Comment: Kentucky, by this decision from its Supreme Court, confirms that it will enforce pay-if-paid clauses. These clauses will not be found contrary to law or public policy in Kentucky. The decision offers some hope, however, for a subcontractor who is unable to recover from the general contractor in that it permits an action by the subcontractor directly against the project owner under certain circumstances. That is where facts can be shown to demonstrate that the work performed by the subcontractor was intended for the project owner’s benefit, it directly benefited the owner, and the owner would be unjustly enriched it if it did not pay for the work performed by the subcontractor.   This is not going to be common outcome, however, and subcontractors should not accept pay-if-paid clauses with the hope that a court will allow it to recover directly from the project owner instead of the general contractor.

 

About the author: Article written by J. Kent Holland, Jr., a construction lawyer located in Tysons Corner, Virginia, with a national practice (formerly with Wickwire Gavin, P.C. and now with Construction Risk Counsel, PLLC) representing design professionals, contractors and project owners.  He is founder and president of a consulting firm, ConstructionRisk, LLC, providing consulting services to owners, design professionals, contractors and attorneys on construction projects.  He is publisher of ConstructionRisk.com Report and may be reached at Kent@ConstructionRisk.com or by calling 703-623-1932.  This article is published in ConstructionRisk.com Report, Vol. 20, No. 4 (Apr 2018).

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