In the haste to negotiate and execute contracts and commence design and construction on real estate improvement projects, parties may lose sight of important lien priority issues. A notable Washington appellate case illustrates the risk lurking in the shadows. In Scott’s Excavating Vancouver, LLC v. Winlock Properties, LLC, 176 Wn. App. 335, 308 P.3d 791 (2013), the Washington Court of Appeals examined a lien priority issue in the context of multiple amendments to a design professional’s contract for services and found that (1) the contract and all subsequent amendments should be treated as one contract and (2) the lien claim prevailed over the lender’s deed of trust under the “relation back” statute of Washington’s lien law. Most, if not all, of the hardship that befell the lender could have been avoided if the lender had secured a lien subordination agreement.
In Scott’s, a designer furnished engineering and surveying services for the development of a housing and commercial project to be completed in several phases. After rendering services under an original design services agreement and multiple amendments thereto, the developer stopped paying, the designer ceased further work and the project faltered. The designer then filed a lien and later commenced foreclosure proceedings. Soon thereafter, and as a result of the developer’s default of its loan obligations, the lender foreclosed on its deed of trust. At issue at the trial court stage was whether the designer’s lien claim had priority over the lender’s recorded deed of trust, which predated the recorded lien claim but arose after the commencement of the design work.
Critical to the trial court’s and appellate court’s rulings was whether the contract and its multiple amendments, based on the scope of various services and when they were performed, were to be considered one contract or several independent contracts. If the agreements were one contract for the purposes of the lien law statutes, then the designer would have lien priority over the deed of trust and be entitled to foreclose against the lender’s trustee’s deed.
The trial court and appellate court both held that substantial evidence demonstrated that the parties intended a single enforceable contract. The lender knew that the designer started work before it granted the loan secured by the deed of trust. The designer knew that the developer faced financial difficulties, and, accordingly, the parties formed a contract that limited the consequences if either party failed to comply with the contract. Additionally, the original contract envisioned multiple phases, with details covered by subsequent contract amendments relating back to the original contract.
In reaching its holding, the Washington Court of Appeals relied on the well-settled principle that “[m]echanics’ liens are a statutory exception to the general rule of first in time, first in right priority between creditors,” citing the “relation-back” statute, RCW 60.04.061, which provides that claims of lien established under RCW 60.04 “shall be prior to any lien, mortgage, deed of trust, or other encumbrance which attached to the land after or was unrecorded at the time of commencement of labor or professional services . . . by the lien claimant.” 176 Wn. App. at 344 (internal quotation marks and citation omitted; ellipsis in original). Thus, noted the court, “such liens create an ‘off-the-record’ interest that may be senior to interests actually recorded before the lien’s recording but after commencement of work on the project.” Id. at 345 (citation omitted).
The takeaway from the Scott’s decision? Those furnishing lienable work to improve property, including design services, should take care during contract drafting to ensure that lien rights are protected throughout all phases of the project, with any subsequent contract amendments expressly defined to relate back to the original agreement and with an understanding and appreciation of the consequences of signing lien subordination agreements.
Although it appears from the Scott’s decision, as well as from earlier Washington appellate decisions (see Zervas Grp. Architects, P.S. v. Bay View Tower LLC, 161 Wn. App. 322, 254 P.3d 895 (2011)), that inquiry notice is sufficient to trigger the professional’s lien priority, a design professional should consider complying with the provisions of RCW 60.04.031(5) allowing the recordation of notice of professional services that are not visible from an inspection of the property. The issue turns on whether and to what extent the mortgagee or subsequent purchaser knows of the professional services being performed on the property prior to the recording of the deed of trust.
Conversely, owners and lenders should consider the benefits of lien subordination agreements to ensure that project financing is adequately secured by the property and not jeopardized by early lien claim attachment from design professionals whose work may not be readily visible from an inspection of the site.
For more information on construction liens, you are invited to download a free copy of The Construction Lien in Washington: A Legal Analysis for the Construction Industry, authored by Bart Reed and Karl Oles of Stoel Rives LLP and recently updated for 2015. The treatise can be found at www.stoel.com/construction_lien_law.
"Contract Conflict Bears A Cautionary Tale" was originally published on June 19, 2015 by the Daily Journal of Commerce.