Construction Lien Law in Texas: Prosecuting and Defending Claims

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September 04, 2018
Author: Charles Holmans
Organization: Charles F. Holmans III Attorney at Law

A. Identifying the Parties and Documenting the Claim
Know who the players are and what the project is
It is always important to determine the identity and status of the parties involved. A good resource is the Texas State Comptroller’s website, (or just “Google” +“texas comptroller” + “taxpayer search” to get the search page). Parties need to know with whom they are dealing and also how the other party to the contract relates to the project.

Suppliers must not only be concerned with the identity and status of their customer; they must also be certain to identify the project for which the materials were sold and delivered. VERIFY THE ADDRESS AND SET UP SEPARATE JOB ACCOUNTS to preserve lien rights. If possible, copy down information from the building permit which might identify the general contractor, the owner, and/ or the legal description.

Owners and general contractors need to know the names of any subs and suppliers to their subcontractors, in order to obtain releases, waivers, or to issue joint checks.

B. UCC Remedies
Whether UCC Applies – requires sale of goods
The Uniform Commercial Code (The “UCC”) applies to all transactions in goods, as opposed to services. Construction contracts often involve both goods and services; and whether the UCC applies depends on whether the “essence” or the “dominant factor” of the transaction is goods or services.

Offer and Acceptance under the UCC
The UCC has special rules for determining whether a contract has been formed and what are its terms. This is especially important where acceptance of an offer varies from the original offer. To preclude additional terms being added (which do not constitute material alteration of the original offer), the original offer must expressly limit acceptance to the terms of the offer. Otherwise, when an acceptance includes new terms that are minor variations as opposed to material alterations, that variation becomes a part of the agreement unless there is an objection to the additional terms within a reasonable time. Under traditional concepts of offer and acceptance, an acceptance which included additional terms was considered a counter-offer. Not so under the UCC. It is important to respond to each and every item in the acceptance that is different from the original offer to be certain it does not become part of the contract; or else specify that offers may be accepted only according to their terms and with no modifications. (See Section 2-207 of the UCC).

Failure to reject
The remedies under the UCC are not the same as traditional common-law notions of contract remedies. For example, under the UCC, failure of the buyer to reject even nonconforming goods within a reasonable time, and to seasonably notify the seller of rejection, automatically results in acceptance of the goods. The buyer then becomes obligated to pay the full purchase price and his remedies are limited to damages for breach of warranty. To negate the effect of “acceptance” under the UCC, the buyer must reject the goods. The buyer must pay, at the contract rate, for any goods accepted.

In construction contract disputes, the first question is usually “who breached first.” This is because of the common-law doctrine that one party is automatically excused from his contractual performance by the prior breach of the other party. However, the doctrine of the “first party to breach” does not apply to a contract for the sale of goods governed by the UCC. See Glenn Thurman, Inc. v. Moore Construction, 942 S.W.2d 768 (Tex. App. – Tyler).

Self-Help – Repossession
While there is no self-help allowed under Texas law governing mechanic’s and materialman’s liens, if a security interest is retained, pursuant to a security agreement, self-help repossession might be a possibility. ay be possible (if there is no breach of the peace). However, while a security interest may be created under Article 9 of the UCC in goods that become “fixtures”; a security interest may not be created under Article 9 in ordinary building materials. To be a superior lien on fixtures, the security interest must be perfected by a fixture filing before the goods become fixtures or within 20 days after they become fixtures. When the security interest in fixtures is a prior and superior lien on the fixtures, the creditor may remove his collateral from the real estate but must reimburse any encumbrancer or owner who is not the debtor for the cost of repair of any physical injury (not including diminution in value of the real estate caused by absence of the goods removed).

C. Remedies for Breach not controlled by UCC
A party who is not in breach of contract may either: 1) cease performance after a material breach by the other party (and sue for damages), or 2) continue with the contract and sue for damages.

If there are mutually dependent promises, e.g., to perform work in exchange for payment, a breach by one party will excuse further performance by the other party. See Hanks v. GAB Bus. Servs., Inc., 644 S.W.2d 707 (Tex 1982). However, that remedy is waived if the aggrieved party continues on with the contract after the breach (See Chilton Ins. Co. v. Pate & Pate Enterp., Inc., 930 S.W.2d 877 – contractor’s decision to continue with contract after surety’s breach was forfeiture of any excuse for its own breach).

D. To foreclose or not to foreclose the lien
Even when a lien has been perfected, a claimant may bring an arbitration or a suit on the underlying debt. In a simple suit on a debt, the “equitable and just” standard does not apply for recovery of attorney’s fees; rather, the claimant is entitled to attorney’s fees if the claim is not paid within 30 days from the date of demand. Thus, if the debtor is creditworthy, a claimant may be “made whole” by simply suing on the debt. If there is a foreclosure action, in addition to the suit on the debt, there by be exposure to paying the other side’s attorney’s fees.

Furthermore, if even part of the lien is invalid, attorney’s fees might be awarded for defending against the wrongful lien. See Ambassador Dev. v. Valdez, 791 S.W.2d 612 (Tex 1992).

E. Small Claims
A mechanic’s lien secures only payment of the principal amount of the claim, not costs, interest, or attorney’s fees. Since a foreclosure suit must be brought in district court, there may be delays and higher costs than bringing suit in small claims court.

Claims for less than $5,000 may be filed with the Justice of the Peace. The Justice of the Peace actually has two sources of authority – as a Justice Court, under Government Code, Ch. 27; and as a Small Claims Court, under Government Code, Ch. 28. In Small Claims Court (but not in Justice Court), a corporation need not be represented by an attorney. Government Code, Sec. 28.003. There is no similar provision in the Justice Court statute.

For more information on bringing suits in small claim courts, see the State Bar of Texas link to:

F. Arbitration
The Supreme Court held in CVN Group, Inc. v. Delgado, 95 S.W.3d 234 (Tex. 2002) that the validity of liens can be determined in arbitration. If this is the case, all issues can be decided in arbitration; the only step for the court system would be to enforce the arbitration award.

G. Deadlines for suit
Constitutional lien –
4 years (Civ. Pr. Rem. Code, Sec. 16.004; See Hoarel Sign Co. v. Dominion Equity Corp., 910 S.W.2d 140, 143 (Tex. App. – Amarillo 1995, writ den.).

Statutory lien
2 years after the deadline for filing the lien affidavit, or one year after completion, termination, or abandonment of the work under the original contract under which the lien is claimed, whichever is later (Property Code Sec. 53.158)

Residential Construction Projects
one year after the deadline for filing the lien affidavit, or one year after completion, termination or abandonment of the work under the original contract under which the lien is claimed, whichever is later.

arguably, four years; in Hoarel Sign the court held that the two-year statute of limitations for suits to foreclose liens on real property did not apply to a suit to foreclose a lien on removables because the statute is limited to suits to foreclose on real estate and removables do not become part of the real estate.

Bond Claims – Deadlines to Bring Suit
Bond to pay liens:
Suit on a bond to pay liens must be brought within one year following perfection of the claim, if the bond is recorded at the time the lien is filed; otherwise, if the bond is not recorded at the time the lien is filed, then the claimant must sue on the bond within two years following perfection of the claim. Property Code, Section 53.208(d)

Public Works bond (State) –
Suit must be filed on a state public works bond within one year from the date the notice of the claim was mailed. Government Code Sec. 2253.078(b)

Miller Act (federal public works) Bond –
Suit must be filed on a Miller Act bond within one year after the date the last of the labor and materials were provided by the claimant. 40 USC Sec. 270b(b)

Trust Fund Liability Suit –
No specific limitations period is mentioned in Chapter 162 of the Property Code. Misapplication of trust funds is akin to fraud or breach of fiduciary duty, for which the four-year statute applies. Civ. Pr. & Remedies Code, Sec. 16.004; Williams v. Khalaf, 802 S.W.2d 651 (Tex. 1990)

H. Trust Fund Statute
Definition and nature of trust funds
Any funds borrowed by an owner, contractor, or subcontractor, in connection with a specific real estate project, and all funds paid to a contractor or subcontractor, constitute “trust funds” by statute (Property Code, Sec. 162.001). An owner who has obtained a draw on a construction loan is thus a “trustee,” as is a contractor who has been paid funds on a specific project in this state. Such trustees are liable, as fiduciaries, for diversion of trust funds; i.e., they must protect the interests of statutory beneficiaries (artisans, laborers, mechanics, contractors, subcontractors, and materialmen). Officers and directors who direct or control payment of proceeds may be held personally liable (Property Code, Sec. 162.002). No showing of fraud or bad intent is necessary to impose trust fund liability Nuclear Corporation of America v. Hale, 355 F. Supp. 193, 197 (N.D. Tex., 1973, aff’d 479 F.2d 1045 (5th Cir 1973.).

Exception for Overhead
There is an exception for overhead; that is, trust fund liability is reduced to the extent the funds in question can be allocated to overhead directly related to the project. Property Code, Sec. 162.031(b); see also, North Texas Operating Engineers Health Benefit Fund v. Dixie Machinery, Inc., 544 F. Supp. 516 (N. D. Tex. 1982). In court cases, liability may turn on the question of whether the contractor can adequately prove its overhead. One case held that since the contractor could prove that after payment of all overhead allocated to the project, there were no funds left over, there was no trust fund liability. North Texas Operating Engineers, supra. Conversely, another case held that the contractor wholly failed to demonstrate any of the expenses it wished to credit against the trust funds as overhead. The entire amount received was thus deemed trust funds. McCoy v. Nelson Utilities Services, Inc., 736 S.W.2d 164 (Tex App. – Tyler 1987).

Lien Claim Not Necessary
It is not necessary to perfect a lien to assert trust fund liability. Panhandle Bank & Trust Co. v. Graybar Electric Co., 492 S.W.2d 76, 81 (Tex. Civ. App. – Amarillo 1974, writ ref’d n.r.e.); Stone Fort National Bank v. Elliot Electric Supply Company, Inc., 548 S.W.2d 441 (Tex. Civ. App. – Tyler 1977, writ ref’d n.r.e.). However, releasing or waiving lien rights may also result in a waiver of the right to assert trust fund liability. Mbank El Paso, N.A. v. Featherlight Corp., 792 S.W.2d 472 (Tex. App. – El Paso 1990, error den.). Exception for Banks and Title Companies – no trust fund liability but they cannot seize trust funds

Banks, savings and loans, and other lenders; title companies or other closing agents; and corporate sureties issuing payment bonds, are excepted from trust fund liability. Property Code, Sec. 162.004; however, there are exceptions to the exception. If there is proof of collusion and direct participation in trust fund misappropriation, trust fund liability might be imposed. In Jensen v. First City National Bank, 623 S.W.2d 924 (Tex. 1981, the Supreme Court indicated that it might have found trust fund liability if there had been proof of the bank’s participation in the trust fund misappropriation; and indeed, in Security State Bank v. Valley Wide Electric Supply Company, Inc., 752 S.W.2d 661 (Tex App. – Corpus Christi 1988, a bank was held liable for conversion of trust funds and the suppliers even recovered punitive damages. This can be reconciled with the statute, in that the bank was not deemed a statutory trustee under the trust fund act, but rather it was liable as a third party who had committed conversion.

The Property Code specifically provides that a creditor may not collect, enforce a security interest against, or levy execution on money de the original contractor from the owner; and likewise, a creditor of a subcontractor may not take such actions against money due the subcontractor, to the prejudice of subcontractors or suppliers or other lien claimants or sureties. Property Code, Section 53.151 (added in 1989, in response to a Supreme Court decision, RepublicBank Dallas, NA v. Interkal, Inc., 691 S.W.2d 605 (Tex 1985) which allowed a lender to enforce its claim against accounts receivables, notwithstanding the fact that they were trust funds. After the new law was passed, in Vulcan Materials Co. v. Jack Raus (In re: HLW Enterprises of Texas, Inc.,), 157 BR 592 (Bankr. W.D. Tex. 1993) the court held that the trust fund nature of such funds has priority over a tax lien perfected prior to the time the claims of suppliers and subcontractors arose; and in McCoy v. Nelson Untility Service, Inc., 736 S.W.2d 160 (Tex. App. – Tyler 1987, writ ref’d n.r.e.) the court held that retainage payable to a contractor, against whom a tax lien had been filed, was payable not to the taxing authority, but rather to lien claimants.

See, however, Park Environmental Equip., Ltd., v. Texas Capital Funding, 102 S.W.3d 243, (Tex. App. - Houston [14th Dist], 2003 - Contractor sold its accounts receivable on the project to lender and gave notice to the general contractor of the assignment; and when the owner paid the contractor, the contractor paid the lender; and nobody paid the subcontractor. The subcontractor sued the lender; and the Court held that the lender was not an entity (\"contractor, subcontractor, or owner\") nor an agent (\"officer, director, or agent\") listed in the statute and that the funds in question were no longer trust funds. The Court pointed out that “If a construction company uses project payments to buy cars for its officers instead of paying subcontractors, there is no question that company has misappropriated trust funds under the Act. But it does not follow that the car dealership who received the funds is a party to the fiduciary breach.”

See also, In re Huber Contracting, Ltd.--- B.R. ----, 2006 WL 2243150 (Bankr.W.D.Tex. 2006) which sided with the secured party lender, citing RepublicBank Dallas, N.A. v. Interkal, Inc., and stating “we learn little about how to construe section 53.121 of the Texas Property Code from Texas' enactment of the Construction Trust Fund statute” and construing new section 9.327, of the UCC, addressing priority disputes, which applies only to \"security interests,\" a defined term in the UCC. The bankruptcy judge stated:
“It is true that the Texas Property Code does indeed give a subcontractors and materialmen the opportunity to obtain a lien … but not on the contractor's property. …. Indeed, in order to obtain the \"preference\" over other creditors of the contractor granted in section 53.121, they must properly perfect their lien claims in the owner's property. Id. at 53.051-53.059. Our case does not involve competing claims on the owner's property, however. It involves competing claims on the contractor's property, to wit, money that was in the contractor's deposit account.”


“After an extensive review of all the sources available, this court concludes that section 53.121 does not accord subcontractors and suppliers a priority over a contractor's secured creditors.”

My opinion is that the court had it wrong in the Huber Contracting case and it will be interesting to see what happens if this case goes upon on appeal.

Nondischargeability in Bankruptcy and Criminal Liabilty
A trust fund act violation has held to be grounds for preventing a discharge in bankruptcy (see Capital Aggregates, Inc. v. Waters (In re: Waters), 20 B.R. 277 (W.D. Tex., 1982), construing 11 U.S.C. 523 (a)(4); and also may constitute a criminal offense if committed with intent to defraud (Property Code Sec. 162.031). Other provision of the penal code may also be applicable in situations involving diversion of trust funds, i.e., fraudulent execution of “bills paid” affidavits. See Penal Code, Sections 32.45 Misappropriation of Fiduciary Property; 32.46, Execution of Documents by Deception; 37.02, Perjury).

Federal Common – Law Trust Fund Claims
There is no federal statute declaring construction payments to be trust funds; but the courts have recognized a common-law, equitable trust fund nature of funds paid by the federal government to a general contractor with respect to amounts attributable to subcontractors and suppliers (See Universal Bonding Insurance Co. v. Gillens and Sprinkle Enterprises, Inc., 960 F.2d 366 (3rd Cir. 1992) and cases cited therein.

I. Prompt Pay Act
Owners’ obligation to contractors:
Owners must pay for properly performed work or stored or specially fabricated materials, less any amount withheld as authorized by statute (i.e., retainage or disputed amounts) not later than the 35th day after the date the owner receives the request for payment. Property Code, § 28.002(a).

Contractors’ obligations to subcontractors:
A contractor who receives a payment from an owner must pay its subcontractors for their portion of the owner's payment, attributable to work properly performed or materials stored or specially fabricated, not later than the seventh day after the date the contractor receives the owner's payment. Property Code, § 28.002(b).

Subcontractors’ obligations to sub-subs and suppliers:
A subcontractor who receives a payment from a contractor must pay each of its subcontractors their portion of the payment attributable to work properly performed or materials stored or specially fabricated not later than the seventh day after the date the subcontractor receives the contractor's payment.

Withholding for disputes:
One disputing an obligation to pay may withhold no more than 110% of the amount actually in dispute, in the case of a residential construction project consisting of a detached single-family residence, duplex, triplex, or quadruplex; otherwise the amount that may be withheld is 100% of the amount in dispute.
Under Property Code, § 28.004, the penalty for failing to make prompt payment is 18% interest on past due sums, which begins to accrue on the day after the date on which the payment was due.

J. Getting rid of Invalid liens and \"revenge\" liens
Invalid liens -- An owner or contractor confronted with an invalid lien may file suit to have the lien declared invalid and removed under a streamlined procedure set forth under § 53.160, entitled “Summary Motion to Remove Invalid or Unenforceable Lien.” The summary removal may be granted for the following defects:
_ Failure to give proper notices;
_ Failure to properly file the affidavit;
_ Failure to give notice of the filing of the affidavit;
_ Proper withholding of retainage and payment 30 days after completion, with no notice having been received in the interim;
_ Deposit of all funds subject to the notice with the court;
_ Execution of a valid waiver.

Fraudulent or bad-faith liens- There is also statutory liability for filing a fraudulent lien against real property. Chapter 12, Civil Practice and Remedies Code. These statutory provisions were originally intended to be used as a weapon against individuals and organizations who refused to recognize the sovereign authority of the government (See Bill Analysis, HB 1185, March 3, 1997, Committee Report, Civil Jurisprudence Committee); however, it also applies in the context of construction lien disputes. A person faced with a “revenge lien” has a powerful remedy with the fraudulent lien statute, which provides for a penalty of actual damages or $10,000, whichever is less, plus attorney’s fees.

Under Property Code 53.282(a)(3), a contractor or subcontractor on a singlefamily or duplex project who has agreed to an advance waiver may be held liable for filing a fraudulent lien by failing to release its lien within 14 days after the owner or original contactor “sends written explanation of the basis for nonpayment, evidence of the contractual waiver of lien rights, and a notice of request for release of the lien.” Subsection (a)(3) does not apply to those who supply only materials, and not labor.

K. Sovereign Immunity
Projects Under $25,000 and Failure to Bond Projects Over $25,000 Governmental agencies are liable under Government Code Section 2253.027 if they fail to require a payment bond on projects over $25,000. This law also permits a lien on funds due a contractor from a public authority, in the same manner as provided for contracts under $25,000. The law provides that:
If a governmental entity fails to obtain from a prime contractor a payment bond as required by Section 2253.021:
(1) the entity is subject to the same liability that a surety would have if the surety had issued a payment bond and if the entity had obtained the bond; and
(2) a payment bond beneficiary is entitled to a lien on money due to the prime contractor in the same manner and to the same extent as if the public work contract were subject to Subchapter J, Chapter 53, Property Code.

Municipal governments are immune only for governmental functions, not for proprietary functions. City of Galveston v. Posnaisnky, 62 Tex. 118, 125 (1884). The Declaratory Judgments Act was held to have waived immunity for municipalities in an action seeking a declaratory judgment concerning a contract to build a stadium. City of El Paso v. Croom Construction Company, 864 S.W.2d 153 (Tex. App. – El Paso 1993, writ den.). Many cities have provisions in their charters waiving immunity for breach of contract actions.

State of Texas
The state has immunity from liability, unless it waives it; and also the state is immune from suit, unless it consents to being sued, even if there is no dispute concerning the State’s liability. See Green International, Inc. v. State, 877 S.W.2d 428 (Tex. App. – Austin 1994); Missouri Pac. RR v. Brownsville Nav. Dist., 453 S.W.2d 812 (Tex. 1970); See also Section 107.002(b) of the Civil Practice and Remedies Code. (“(b) A resolution granting permission to sue does not waive to any extent immunity from liability.”)

In Texas Department of Transportation vs. T. Brown Constructors, Inc., the appeals court held that the trial court had jurisdiction to determine that TX DOT’s administrative award was inadequate; but it did not have jurisdiction to determine what an adequate amount would be, because the legislature had specifically granted TX DOT the authority and discretion to determine the appropriate amounts. The courts only have authority to determine that the amount awarded was not enough.

Federal Government
Security will generally be available to subcontractors and suppliers who are not to remote for coverage under the Miller Act required surety bond. If the contracting agency failed to require a bond, it may be possible to assert an equitable lien on money due the contractor by the contracting agency. At least where the agency was still holding money due to the contractor, the federal government was held to have waived immunity. Blue Fox, Inc. v. SBA, 121 F. 3d 1357 (9th Cir. 1997). however, The U.S. Supreme Court has held that no equitable lien may attach to funds in the hands of the government that are owed to a contractor. Dept of Army v. Blue Fox, Inc., 525 U.S. 255, 119 S.Ct. 687, 142 L.Ed. 718 (1999).

L. Trial considerations

Business Records
In the legal setting, the term “business records” has a special meaning. Generally speaking, documentary evidence, to be admissible in court, must constitute “business records.” This means that the records must be kept in the ordinary course of business, in the regular practice of that business, and must have been made at or near the time of the event, by, or from information transmitted by, a person with knowledge of the event recorded. Thus, for example, a job notebook, with daily entries, would be admissible, if that type of document is produced and kept as a regular practice, and if the entries were made at or near the time of the events recorded, and the entries were made by a person with knowledge, or from information transmitted by a person with knowledge.

Proving Notice
Get the Certified Mail Receipt postmarked at the post office and staple it to your file-copy. When the “green card” receipt comes back, do the same with it. DO NOT FORGET TO SEND YOUR PRELIMINARY NOTICES AND HAVE PROOF THAT YOU DID.

Pleading Conditions Precedent
Rule 54 of the Texas Rules of Civil Procedure is an incredibly powerful tool when litigating lien perfection.

Tape Recordings
In Texas it is legal to record telephone conversations, provided that one of the parties to the conversation consents to the recording (See Matter of Bates, 555 S.W.2d 420, Tex 1977); and tape recordings will be admissible into evidence.

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