On December 7, 2022, the Superior Court of New Jersey, Appellate Division handed down its decision in JPC Merger Sub LLC, d/b/a Jersey Precast v. Tricon Enterprises, Inc., which is the first published New Jersey state court decision on the subject of the enforceability of a pay-if-paid clause. Put simply, the court found that if the pay-if-paid contract provision is clear and unequivocal, the subcontractor’s right to payment is conditioned on the general contractor’s receipt of payment from the project owner.
The court stated that:
“Although industry custom generally places the risk of an owner’s nonpayment on the general contractor rather than the subcontractor, we believe that as long as the contract on its face contains clear and unequivocal language that unambiguously sets forth the parties’ intention and agreement that owner payment is a condition precedent to the general contractor’s obligation to pay the subcontractor, such a provision is neither unfair, unconscionable, not against public policy.”
“Pay-if-paid” is a conditional payment provision in many construction contracts. It specifically makes one party’s obligation to pay another conditioned on the receipt of funds from another. Most commonly, a general contractor will insert such a clause into its subcontracts so that it has no obligation to make payment to a subcontractor unless and until it receives payment from the project owner. The intention is to place the risk of owner non-payment on the subcontractor rather than the prime contractor – something which is contrary to the arrangement assumed by law in the absence of such a provision. Pay-if-paid must be differentiated from pay-when-paid, which does not make the obligation to pay conditional but does affect the timing that payment must be remitted.
Pay-if-paid provisions are contentious clauses, both between the parties to the contract and in the courts and legislative chambers. A number of states, such as New York, Illinois, California, and Virginia (effective January 2023) have declared pay-if-paid clauses entirely unenforceable as a matter of public policy; the majority of jurisdictions, however, do permit them, though often with certain exceptions and provided that the language is clear and explicit that payment is conditional on receipt of funds by the obligor. Typically, where there is any ambiguity in the contract language, the clause would be understood to affect only timing of payment, if it is of any legal effect at all.
In the Tricon case, the court was concerned that the general contractor, Tricon, had been, either in whole or in part, the cause of the non-payment from the project owner – in this case the County of Union. The case was sent back down to the trial court to determine why no payment had been made by the County. The court sensibly applied the rule that a party cannot benefit by its own bad acts, so if payment was not made to Tricorn for reasons attributable to Tricorn, it could not rightfully shift that risk to its subcontractor.
However, the court did not resolve the most significant concern of pay-if-paid: how the subcontractor actually enforces the owner’s payment obligation now that it has taken on the risk. Pay-if-paid, because it affects not only timing of payment, but the right to payment, can have a dramatic effect on a subcontractor’s lien rights. If a subcontractor cannot be paid because the general contractor has not been paid, but it also cannot lien because it is not yet actually due payment under its subcontract, it has lost its remedy against both the general contractor and the owner and waived its lien rights in the process.
In the Tricon decision, the court refers to the New Jersey Mechanic’s Lien Law only in passing in discussion of how other states have dealt with pay-if-paid provisions. Preemptive waivers of lien on private projects are not permitted in New Jersey. Therefore, the subcontractor must have some remedy against the owner for non-payment. The subcontractor cannot sue directly, as its agreement is not with the owner but the general contractor, so the lien must be the available option.
The court in Tricon does not resolve whether the fact that the subcontractor has no right to receive payment – because the general contractor did not receive payment – somehow means that the subcontractor cannot file a lien, or perhaps can file a lien but cannot foreclose on it. It is likely that the subcontractor can file a lien for its work performed, but whether it can then foreclose on the lien, or if the lien simply exists on the record waiting for the owner to pay the general contractor, is less clear.
The Tricorn court was also not faced with the issue of quasi-contractual remedies, actions seeking fair value for work performed based on the benefit to the owner, rather than the contract terms itself. Whether a pay-if-paid provision would preclude those claims also will likely be determined in future litigation. Might those claims, which are not lienable, still be permitted against the general contractor? Could a court determine that the shift in risk from general contractor to subcontractor would permit those claims against an owner, where not otherwise permitted. It is likely that the owner’s involvement in the project may also have an impact there.
Accordingly, much remains to be determined with regard to pay-if-paid in New Jersey. This includes whether it renders liens under a pay-if-paid regime a right without a remedy. The extent to which a general contractor’s wrongdoing affects the provision’s enforceability is not clear. Will courts permit other rights by a trade contractor against a project owner to accommodate the shift in payment risk? While it appears that the pay-if-paid as a conditional payment clause and distinct from a pay-when-paid clause is officially permitted in New Jersey, how it will function remains very much to be determined.
As the law continues to evolve on these matters, please note that this article is current as of date and time of publication and may not reflect subsequent developments. The content and interpretation of the issues addressed herein is subject to change. Cole Schotz P.C. disclaims any and all liability with respect to actions taken or not taken based on any or all of the contents of this publication to the fullest extent permitted by law. This is for general informational purposes and does not constitute legal advice or create an attorney-client relationship. Do not act or refrain from acting upon the information contained in this publication without obtaining legal, financial and tax advice. For further information, please do not hesitate to reach out to your firm contact or to any of the attorneys listed in this publication.