Pennsylvania used to be an unforgiving place for a subcontractor seeking to file a mechanics lien. For over thirty years, with few exceptions, higher tier contractors could waive a subcontractor’s lien rights by filing lien waivers before work began on the project. The onus was on the subcontractor to check with the Prothonotary to see if a lien waiver had been filed for a particular project and, thus, whether it had any lien rights. Because pre-construction lien waivers were routine there were only a few instances were subcontractors could file mechanics liens.
However, in 2007, the General Assembly greatly increased the pool of potential lien claimants when it amended the Lien Law and made pre-construction and contractual lien waivers void as a matter of public policy. Still, while the Assembly signaled a shift towards favoring contractors with the 2007 amendments, the courts still took a hard line in interpreting Lien Law and continued to “strictly construe” the Lien Law’s requirements, meaning even the slightest deviation from the Lien Law’s requirements could result in a lien being stricken. Thus, the courts muted any intended liberalization of the Lien Law by the Assembly.
At least that was the case until June of last year when the Superior Court issued the first in a series of opinions liberalizing the interpretation of the Lien Law and signaling a bias in favor of contractors and subcontractors. In June 2011, the Superior Court issued an opinion in B.N. Excavating, Inc. v. PBC Hollow-A, L.P., where the Court liberalized the definition of when excavation work is “lienable.” Prior to B.N. Excavating, the prevailing view was the in order for excavation work to support a mechanics lien claim the work must be part of a completed structure. However, in B.N. Excavating, the Superior Court reasoned “we do not interpret the [Mechanics Lien Law] . . . as creating a bright-line rule that a mechanic’s lien can never attach to land absent an erected structure.”
Then in January 2012, the Superior Court issued its “earthquake” opinion in Bricklayers of Western Pennsylvania Combined Funds, Inc. v. Scott’s Development Company, where the Court overturned decades of precedent and held that “[p]ursuant to the plain language of 1 Pa .C.S.A. § 1928(a) and (c), the Mechanic’s Lien Law of 1963 cannot be strictly construed on the basis that it is in derogation of the common law. See 1 Pa.C.S.A. § 1928(a), (c)” and permitted labor union health and welfare funds to file mechanics liens against a project!
Most recently, in Commerce Bank/Harrisburg, N.A., v. Kessler, the Superior Court held that an open-end mortgage does not have priority over a mechanics’ lien filed after the mortgage is recorded if (1) work on the property began prior to the recording of the mortgage; and (2) any portion of the loan proceeds are used to fund something other than the “cost of completing erection, construction, alteration or repair of the mortgaged premises secured by the open-end mortgage.”
The Court reached this conclusion despite what appears to be a clear definition of when an open end mortgage is superior to a mechanics lien. Under Section 1508(c) of the Lien Law a lien is subordinate to an open-end mortgage “the proceeds of which are used to pay all or a part of the cost of completing erection, construction, alteration or repair of the mortgaged premises secured by the open-end mortgage.” Apparently, the Superior Court did not think that part of the open end mortgage proceeds could be used to fund construction and the other part of the proceeds pay for other items such as closing costs, old mortgages, unpaid taxes, ect. – as is commonly the case – for an open end mortgage to retain priority over a mechanics lien. Instead the Court held:
“[w]e interpret the use of the terms “the proceeds” to mean all of the proceeds.”
Obviously, lenders and title insurances companies are concerned about this decision and are looking for ways to protect themselves. Most of the recommendations I have seen do not make any sense, except for the recommendation that lenders pay contractors and subcontractors directly, which is a great idea for a myriad of other reasons the discussion of which is beyond this post.
There are also several questions that this opinion raises:
1. The Court agreed with the appellant’s argument that so long as a lender could show that $1 was spent on construction the lender could retain priority and stated that if lenders were permit to do so an absurd result would occur. However, couldn’t the same argument now be said from the contractor’s position? So long as $1 of the construction loan is used for purposes other than construction is the lender’s priority not defeated?
2. How does a lender control 100% of the loan proceeds? I.e. how does it insure that 100% of the loan proceeds are used for construction thereby maintain its priority?
3. Senior position is a basic premises upon which a loan is underwritten. If lenders cannot assure senior position what does that mean for underwriting of construction loans?
There is one question that the Superior Court did an answer “do I have lien rights?”, the answer, at least from the current Superior Court, is YES.
Wally Zimolong
Wally represents contractors (and subcontractors) and developers. His clients build and develop residential, commercial, and industrial properties nationwide. Wally enjoys working with the owners of the businesses he represents because they tend to be entrepreneurs and all around interesting people.
