Ohio’s Tenth Appellate District very recently decided a matter which continued Ohio’s history of broadly construing and freely enforcing flow down clauses. A “flow down clause” is a provision in a subcontract which incorporates duties and responsibilities of other contract documents and is often used to create obligations between a subcontractor and prime contractor which mirror the obligations already in existence between the prime contractor and the project owner. A common example would be an arbitration provision in a prime contract which is enforced against a subcontractor due to terms which merely acknowledges the other construction documents and affirms consent to be bound by them.
In this recent case, KeyBank Natl. Assn. v. Southwest Greens of Ohio, L.L.C., 2013 –Ohio- 1243( 10 Dist. 2013), Windsor Ohio Holdings, LLC (“Windsor”) loaned Columbus Campus, LLC, roughly $12 million to acquire the land upon which a retirement community was to be built. Windsor secured this loan with a mortgage which was recorded on January 17, 2008. Thereafter, the land development general contractor filed a Notice of Commencement on March 10, 2008.
On April 16, 2008, a six lender consortium loaned Columbus Campus $90 million in funding for Phase I of the project. This loan was also secured by a mortgage which was recorded on April 22, 2008 –over a month after the Notice of Commencement was filed. On that same day, Windsor released its prior mortgage, recorded a new one, and contractually consented to the consortium taking a superior lien position.
The project went forward with no issues until early March 2009 when the six-lender consortium became concerned with the financial health of the owner and chose not to advance any further funds. Unaware of this, the subcontractors continued work on the project until they were advised to suspend work by the owner on May 11, 2009. By that time, the various subcontractors had draw requests pending for nearly $9 million. These subcontractors filed mechanics liens on June 29, 2009.
In July 2009 the lender consortium filed a complaint to foreclose the mortgage and appoint a receiver. The subcontracts filed responses to this suit claiming priority status over the lender consortium’s mortgage. The subcontractors claimed priority status based upon the March 10, 2008 Notice of Commencement, further claimed that they did not agree to contractually subordinate their position, that the lenders were not entitled to “super priority”, and that even if the subcontractors were contractually subordinate, they were entitled to be paid for the work performed (the roughly $9 million at issue).
The Tenth Appellate District ruled in favor of the lenders consortium and against the subcontractors. The Court found that the “flow down clause” present in the subcontracts fully incorporated the terms of the Prime Contract into the subcontracts. The Court noted that the subcontracts at issue included language that stated the Prime Contracts and the General Conditions were made available to the subcontractors for review. Relying on Ohio precedent and decisions from Georgia, Pennsylvania, Kansas, and California, the Court found that the subcontractors were indeed bound by the terms of the Prime Contract, which included the subordination clause of the mechanic’s lien rights.
As such, the Tenth Appellate District determined that the subcontractors did contractually subordinate their mechanic’s lien rights to the lenders mortgage rights when the subcontractors signed contracts which included a flow down clause incorporating the duties of the Prime Contracts at issue. Thus the $9 million in liens would be subordinate to the lender consortiums’ interest in the mortgage.
This case highlights both the widespread and growing use of flow down clauses and the importance of a thorough review of all project documents and contracts, including those contracts to which a given contractor may not be a direct party.