Bond Responses

By Timothy R. Hughes

With the expected slowdown in residential construction looming on the horizon, a year-old case may show the way to recovering unpaid claims against payment bonds.

Certain indicators point to an economic slow-down in construction volume, particularly in the residential arena. The growth of inventory in housing volume in general, and multi-family and condominium units in particular, may cause future financial ramifications across the construction industry over the next few years. This economic landscape brings questions of collections, pools of recovery, and remedies in the event of bankruptcies to the forefront.

Against this backdrop, the highest court in Maryland issued a decision in 2005 that may have sweeping ramifications to claims against payment bonds. Contractors and subcontractors should be familiar with this case as it may provide stronger mechanics for recovery to claimants who have a payment bond securing payment.

Payment Bond Claims, Required Notice and Surety Responses

Payment bonds generally have specific language requiring that a claimant provide notice of a claim to trigger any obligations under the payment bond. For example, the AIA A-312 payment bond provides that claimants who have a direct contract with the contractor must give notice to the surety of claims and send a copy to the owner of the project. In contrast, those without a direct contract with the contractor must provide written notice of the claim to the contractor within 90 days of having last furnished labor, materials or equipment to the job.

Under the AIA payment bond, the surety must, "Send an answer to the Claimant, with a copy of the Owner, within 45 days after receipt of the claim, stating the amounts that are undisputed and the basis for challenging any amounts that are disputed." Other bonds may impose different specific requirements for notice of claims and surety responses.

National Union v. Bramble

The seemingly simple language of the A-312 leaves a certain amount of disputed ground to discuss. In the National Union v. Bramble case, a claimant asserted claims against two separate payment bonds. The sureties involved sent letters back within 45 days of the claim indicating the sureties reserved all defenses to the claims, including notice and statute of limitations.

The claimant filed suit against the bonds. The sureties attempted to defend the claims arguing the claimant was not entitled to recovery. The claimant argued that the surety was required to outline disputed amounts, and the bases for disputing those amounts, within 45 days of the claim. By virtue of not having specifically disputed the claims and provided the bases for dispute, the claimant argued that the sureties should be barred from asserting any defense to the bond claims.

The highest court of Maryland, the Court of Appeals, agreed with the claimant. The court ruled that the bond was clear and unambiguous. The language of the payment bonds in question, both AIA Form 312 payment bonds, required the surety to specifically dispute amounts it wanted to dispute and provide the basis for dispute in its claim response letter. The court ruled that the reservation of defenses contained in the sureties' response letters failed to comply with the terms of the bonds. As such, the court ruled the claimant was entitled to recover in full.

Lasting Impact

Contractors, subcontractors and materialmen need to be familiar with the terms of the bonds regarding timing of claims submissions and the nature of the surety's response. You may have a better case than you think even if your contracting party goes bankrupt if you are able to tap into a payment bond for recovery. Further, especially in Maryland, the courts have shown a willingness to require sureties to adhere to the express terms of the bond in their responses. You may be able to limit the surety's ultimate defenses in your case depending on the terms of your payment bond and the surety's response.

On the contractor side, you likely need to provide more concrete advice and responsiveness to your surety more quickly than you might like in the aftermath of the National Union case. Given the broad indemnification a surety generally has against its principal, it is incumbent upon the general contractor to also understand this case and its ramifications. Regardless of the position you occupy, you need to know your bonds and their terms to protect your business.

Timothy R. Hughes, Esq., is the principal of the Northern Virginia law firm of Hughes & Associates, P.L.L.C. He specializes in construction litigation, corporate and business related representation, and complex civil litigation. He may be reached at tim@hughesnassociates.com, or by phone at (703) 671-8200.