Subordination Agreements and Your Mechanic’s Lien

The California Constitution protects the Mechanic's Lien rights of contractors and suppliers, giving them higher priority during the foreclosure process. California statutes go further in describing exactly what needs to be done in order to maintain those rights as well as how to waive them. The case of Moorefield Construction, Inc. v. Intervest-Mortgage Investment Co. gives a decision regarding waiving those rights.

 

This matter began in 2006 with DBN Parkside LLC ("DBN") purchasing a property for the development of a medical office complex. Moorefield Construction, Inc. ("Moorefield") signed on as the general contractor for the project. DBN later entered into a construction loaN agreement with Intervest-Mortgage Investment Co. ("Intervest"). The construction loan agreement required that DBN assign its rights and remedies under the construction contract to Intervest and Moorefield was required to consent to the assignment. Moorefield's consent provided that all liens for labor and materials would be subordinate (lower priority) to the lien of the deed of trust.

 

DBN eventually defaulted on the construction loan with Intervest as well as left $2.2 million unpaid to Moorefield. Because of this, Moorefield filed a timely Mechanic's Lien and eventually sued Intervest to foreclose on the Mechanic's Lien.

 

The trial court found in favor of Moorefield and ordered foreclosure and the sale of the property to satisfy the Mechanic's Lien claim. The trial court ruled that the subordination agreement in the construction loan deed of trust was unenforceable because it deprived Moorefield of its Constitutional right with respect to the priority of its Mechanic's Lien.

 

In addition, Civil Code section 3262(d) stated that the waiver and release given by any claimant would be null, void, and unenforceable unless the language followed substantially what was listed in the statutes, which can now be found in Civil Code sections 8132, 8134, 8136 and 8138 in the form of the Conditional Waiver and Release on Progress Payment, the Unconditional Waiver and Release on Progress Payment, the Conditional Waiver and Release on Final Payment, and the Unconditional Waiver and Release on Final Payment. Since the subordination agreement in the construction loan deed of trust did not follow the language as laid out in Civil Code section 3262(d), the trial court found the agreement was also null, void, and unenforceable.

 

Intervest took the matter to the Court of Appeal where the trial court's decision was reversed. According to the Court of Appeal, Civil Code section 3262(d) was only mandated to protect subcontractors and suppliers, not the general contractor by stating that "...neither the owner nor original contractor... shall waive... the claims and liens of other persons..." With this line of thinking, it is perfectly acceptable for the general contractor to waive their own rights, as was done with the construction loan deed of trust. Because of this decision, Moorefield's lien was only to be paid from any funds left over after Intervest took their funds owing from the construction loan deed of trust. Since there were no surplus funds, Moorefield lost out on $2.2 million because they signed the construction loan deed of trust.

 

As a prime or general contractor, when you are asked to sign a subordination agreement with respect to your Mechanic's Lien rights, be cautious. Make sure the contract clearly states the payment obligations, deadlines, and termination rights for non-payment. If the owner does end up defaulting on your payments or the loan, try to negotiate with the lender to settle the outstanding claim so that you are not left with nothing the way that Moorefield was.