The Scope of Subcontractor Agreements
Subcontractor agreements form the backbone of the construction industry and are vital in establishing who is responsible for what work, and where the boundaries of that responsibility lay. The common elements of these agreements are generally terms of payment, scope, specifications, timeline, and terms of termination. They can also include clauses mandating the type of workers the subcontractor can use, whether the subcontractor has to indemnify the general contractor or even the owner for claims regarding the project. The agreement may also have insurance requirements. In witnessing disputes regarding subcontractor agreements, it becomes fairly easy to spot the key elements of a subcontractor agreement that are generally disputed. As previously discussed, construction contracts may not be reliable with regards to allocation of liability, which has been borne out in reviewing subcontractor agreements as well.
While many of the issues facing subcontractors involve claims against the general contractor or owner , there are still risks to subcontractors who can be forced to indemnify both the general contractor and the owner for claims arising out of their work on a project. The allocation of liability shows up frequently in subcontractor agreements. The typical language demands that the subcontractor indemnify the general contractor and/or subcontractor for any claims "by or on behalf of itself or third parties."
It is important to note that indemnification agreements require careful thought about scope and allocation. What will be covered and what are the limitations? One of my favorite subcontractor agreements begins with "Contractor shall indemnify and hold harmless Subcontractor…". The contractor is stated to be the subcontractor’s "indemnitor." Issues arise when a subcontractor, despite agreed upon limitations, have to fulfill a general contractor’s duty to a third party for damages seeking recovery. This was seen in BOK Financial v. Federal Deposit Insurance Corporation, 2016 WL 922372 (S.D. Fla.), which involved a commercial lender’s attempts to allocate liability between the contractor and subcontractors on a property that suffered damage due to the contractor allegedly falling below the standard of care for the state for which the property was located. The court in BOK found that the subcontractors should still be indemnified by the contractor and the contractor would be responsible for asserting any claims against the subcontractor to the extent that they were able to prove the subcontractor failed to follow the standards. As this is an emerging practice and judicially followed, general contractors and subcontractors need to be aware of them and how they help limit claims and liability down the chain.
The Role and Liability of the General Contractor
The general contractor is responsible for all the work on a project. The general contractor hires the subcontractors and they, in essence, step into the shoes of the general contractor. If one of the subcontractors, or one of its employees or agents, damages someone else or violates a statute, the injured party may pursue the general contractor directly. The general contractor cannot "pass off the responsibility" to the subcontractor. However, if the general contractor has a good defense to the claim made against it, then it can shift liability to the responsible subcontractor. The most common way that happens is through contractual indemnification provisions.
General contractors often have very thorough contracts with their subcontractors. A prime contracting agreement typically includes a comprehensive design and scope, payment terms, subcontractor’s duty to obtain all required insurance and bonds, and most importantly – liability provisions. Typically, a prime contract will provide that for any loss, damage or destruction to the building or injuries to persons on the premises, the subcontractor shall be liable. The general contractor may also require that the subcontractor indemnify the general contractor and defend it against any claims. The general contractor purchases commercial general liability (CGL) insurance for work performed by all of its subcontractors. As opposed to the CGL policy providing the general contractor with millions of dollars in coverage, a general contractor will often require that the subcontractor carry similar (but lesser) amounts of coverage under its own policy. This ensures a "deeper pocket" to avail itself upon a claim.
Subcontractors have been held liable to indemnify a general contractor for damages arising from the negligence of the general contractor, the subcontractor, or the two together. The general contractor will almost always win on contractual indemnification claims where the claim is purely for personal injuries (as opposed to commercial disputes), and will be awarded the attorney’s fees and damages that it incurs from defending that claim. In addition, a general contractor will be entitled to indemnification for damage to materials incorporated into the work as well as for damage caused in preparing, transporting, delivering, or installing such materials. For example, this may include the replacement of damaged steel girders and the labor associated with replacing them, but it will not include replacement of damaged storage trailers that were not part of the finished product.
The Responsibility of the Subcontractor
Regardless of whether he is viewed as an agent, employee, independent contractor, or something else entirely, a subcontractor has duties to both the owner (as an agent of the general) and the general (as a primary of his own employees). Those duties are largely ones of completion. Subcontractors, of course, should complete their work in a good and workmanlike fashion. But that means more than simply completing construction consistent with the plans and specifications. While those are critical to complying with the terms of a contract, the standards by which work should be measured extend outside of the contract to the law and the industry standards. Contract compliance means that work should meet both the contractual requirements for any and all approvals from architects or engineers and the general should not interfere with the subcontractor’s ability to timely complete his work. Thus, if a general delays releasing submittals for review to the subcontractor, that delay could be the basis for proving that a subcontractor fulfilled his obligations to perform timely and in accordance with contract. But it also means that the specifications tell just part of the story. A completed project must also comply with the applicable state and federal building codes. The codes to which the industry looks for construction standards for specific types of construction are often based on the same standards as the contract specifications. Consequently, compliance with either can provide the basis for determining whether the work satisfies both its contractual and statutory obligations.
Legal Background and Industry Practices
The legal framework governing subcontractor work is important to the industry because it ultimately dictates who is responsible for paying for a subcontractor’s work and who is liable when that work is deficient. The law governing these issues is complex and varies by country, state, and sometimes even city. In the US, you will find a patchwork of contract law principles and statutory damages (which often come with additional penalties, such as liquidated damages). On top of those legal concerns, there are general industry standards that differ by location and trade work which also dictate how responsibility is handled. As a result, the onus of responsibility for subcontractor work is not the same and can vary greatly depending on how a project is structured.
More problematic is that subcontractor work is very often broken down into many hierarchies, which further complicates the question of responsibility. For example, the same structure that requires all responsibility to lie with a general contractor may require a different allocation of responsibility when multiple subcontractors are involved. The legal issues grow exponentially if a claim is filed against a general contractor or an owner. It becomes necessary to parse through the extensive chain of subcontractors to ascertain when a deficiency occurred and who was responsible for performing the work. However , the question of who is responsible for paying a subcontractor’s invoice at any stage of the project is a little more straightforward. Generally, general contractors are required to pay all downstream subcontractors, while the subcontractor that hired each tier is responsible to pay their own subcontractor (absent contractual provisions stating otherwise).
Industry standard practices and contracts also dictate the level of contractual liability for a subcontractor’s failure, which can vary widely. What is most clear is who receives the blame if defective construction work is performed. Consultants, engineers, architects, and even general contractors who undertake design work will all be held liable if the work they perform is deficient. Accordingly, the common practice among owners and general contractors is to name separate design professionals as a party to the contract to shift responsibility of the design onto them.
The contractual allocation of responsibility is based on the generally accepted principle that the upstream prime contractor or subcontractor that hires higher tier subcontractors on a project has contractual privity, and is therefore responsible for paying subcontractors lower on the chain. However, as discussed above, this is not the case for consultants, engineers, architects, and general contractors who are hired on a design-bid-build basis, as those parties’ duties are generally exclusive to each individual party.
Addressing Disputes Concerning Subcontractor Work
Frequently, disputes arise after a project is completed about the quality of subcontractors’ work. Homeowners may have issues with poor or incomplete work, and contractors may have issues with their subcontractors’ unsatisfactory work.
According to a 2017 study conducted by the subcontracting industry, 82% of respondents stated that they have heard of subcontractor problems on a construction project. Moreover, almost 90% of respondents said that corrective action was required on account of a subcontractor’s poorly performed work. As a result, 77% of respondents said that they have fired subcontractors for poor performance. Respondents can also testify about poor performance or non-conforming work in courtroom trials or arbitration hearings.
Disputes over subcontractors need to be resolved either before or after a project has been completed. Generally, the homeowner will be the one to resolve issues as the owner of the property or as a contracting party responsible for performance. However, in most cases, the contractor will be responsible for remedying defective work performed by any subcontractors. Typically, the contractor will not have any recourse against the subcontractor unless an indemnification or joint check provision exists in the subcontracting agreement. In cases where there is a problem with a subcontractor’s performance, your contract should be reviewed for possible provisions that address the issue. The problem must then be discussed with the subcontractor with some level of formality and referenced in writing in order to best document the dispute. This preserves the opportunity for a future claim and provides leverage in the economy of this business relationship for further remedy.
If this issue can be resolved informally by discussions, your opportunity for a day-to-day administration of the project is preserved and will tend to be of minimal additional cost. However, should the issue remain unresolved, or even more problematic, be formally resolved with the subcontractor and the proper documentation, these issues can devolve into a legal dispute that requires immediate attention. If this issue goes unresolved and the general contractor retains control of the project, he will in time need to be responsible for the poor performance of all of his subcontractors. As the party with more experience, he is better able to remedy the issue and he assumes the risk inherent in all of the well-trained subcontractors who make up this construction experience. That responsibility will ultimately find its way onto the subcontractor and the client with the general contractor sitting in the middle compensating himself from each side to make himself whole.
As a result, it is important to not only be diligent in supervising the subcontractors on a day-to-day basis, but also to provide the client status reports of performance going forward. And when the issue does arise, provide documentary support to maintain your position before the situation escalates into a full blown mess on the project. This may require the help of a general contractor attorney to review your contract and provide assistance. Should a satisfactory resolution of the situation take a turn for the worse, your next step is to facilitate a resolution in an amicable and professional manner through mediation with an organized presentation. If that still fails to produce a satisfactory result, then the next step is to prepare your case for a litigation trial or arbitration hearing.
Maintenance of confidentiality is paramount to the success of an arbitration proceeding. As a result, arbitrators are usually far less vocal than judges, whose opinions are often available online or published in a book. The arbitrators do not want their decisions available for future precedent and are likely to discourage the testimony of other subcontractors with similar issues, thereby limiting the witness pool. While they can be headstrong, difficult, and demanding, it is generally the bottom line to which an arbitrator is going to focus. While they will find for the subcontractor on occasion, they need their performance proven to their satisfaction so they will not stop payment until the issue is resolved.
More often than not, however, the matter will go before Judge or jury in court or at an arbitration, where the issue of damages and responsibility is adjudicated appropriately and justly, since the subcontractor is hired with an understanding of and a written agreement describing their work and quality obligations on the project.
Best Practices for Subcontractor Management
So how do we as general contractors and project managers deal with our subcontractors? The answer is the same as how you would with an employee. Provide proper supervision and training so they do their jobs correctly. The following practices are suggested to help avoid problems in the future.
- Educate them. Do not allow subcontractor to work on your project(s) without sufficient qualifications or experience. You can check references, their standing with their trade organizations, and their track record in other jobs. You may want to have them sign a contract with you before they start on your job.
- Train them. Just because a subcontractor has several years of experience does not mean that he is a fit for your job. Everyone has a learning curve, just like employees. Set aside some time to watch the subcontractor do his work , keep an eye on him for the first little while. This is especially important with new employees.
- Monitor their work. Watch your subcontractors closely. Just like monitoring your employees, keeping an eye on your workers is important so you can catch small problems before they get big. If you notice any problems, correct them right away. Conducting regular meetings with your subcontractors to discuss issues, update schedules, or simply to catch up is helpful as well.
- Conditions of the contract. There should be provisions in your contracts requiring subcontractors to comply with your company’s safety program, follow company guidelines when punching in and out, clean up after themselves (including keeping common work areas tidy), and requiring them to wear proper safety equipment while working. Disciplinary actions should also be including in the contract for missed deadlines, several failed inspections, and unsafe actions.
