Pete recalls his most painful memory as a contractor.

Have you ever had the flu? One thing I hate about having the flu is the “chills.” Feeling like you’re freezing to death when you have a fever of 101 degrees F just doesn’t make sense. The fever, chills, stomach and body ache that come with the flu reminds me of the time I did a $60,000 job for a general contractor that was just celebrating its 40th year in business.

When I got the news that the general contractor was filing bankruptcy, I wasn’t too concerned because I would just lien the job and the owner would end up paying me. Then after filing the lien, I received more news. The owner was filing bankruptcy and the bank was preparing to foreclose. Since I was new in the business I thought, “That’s OK. The bank will pay off my lien.”

I called my attorney and told him of the latest developments and he seemed a little stunned. Then he explained, “When a bank forecloses on the property, your lien will be null and void. The bank is not legally obligated to pay off your lien.”

That’s when the flu symptoms started. I remember saying, “Are you sure? That doesn’t sound right to me!” Needless to say, my questions didn’t change my attorney’s position on the subject. “It’s the law,” he replied. “But we can try other methods to try and collect the money. However, I think it’s going to be difficult in this situation.”

Law? What law?

I went home that evening not only disgusted with myself but with the law that protects banks from having to pay off contractor/subcontractor liens in the event of foreclosure. I even contacted some state government officials to see what could be done but to no avail.

After much effort, I resigned myself to the fact that I was going to loose the $60,000 and I did. Don’t get me wrong: I tried everything to collect the money but the law was designed to protect banks not subcontractors.

Recently, I heard about a subcontractor who was owed $150,000 for work his company performed on a project. He found out the bank was getting ready to foreclose and before the bank foreclosed he removed his work. Now, I don’t believe that’s legal but it does seem logical since he had not been paid.

As you would expect, the bank’s attorneys sent the subcontractor a letter telling him to reinstall the work or they were going to sue! I heard that the subcontractor replied, “Go ahead and sue.” If you consider the fact that the GC allowed the subcontractor to remove the product prior to the bank’s foreclosure (which I understand was the case), what business does the bank have coming after the subcontractor? These are questions for an attorney.

In any case, the law is the law and the law in our state allows banks to foreclose on buildings for which contractors are owed hundreds of thousands of dollars. Yes, you can buy the building if you have enough money but it’s better to buy it from the bank after foreclosure. That way you don’t have to pay off the liens.

I’m not suggesting that any of you tear gypsum off the walls of a job you’ve not been paid for but you have to agree it seems logical. Why should something you’ve provided and paid for leave your control if you’ve not been paid for it?

The possibility of a bank foreclosing on a project in this economy is something subcontractors should consider. Foreclosures can happen in any economy but it’s important to be aware that foreclosures do happen and it can happen to you!

Hedge your bet

Let’s say you drywall a house and paint it. The total bid for your work is $15,000. After paying all material, labor and taxes, you should gross around $4,000 in profit.

What you’ve really done is put up $11,000 in costs to make $4,000. (Material and labor costs may be different in your area.) In essence, you’re betting $11,000 that you will get paid a total of $15,000. With your suppliers’ help you could be betting only $7,500 instead of $11,000 to make $4,000. Putting up $7,500 to make $4,000 is a pretty nice margin if you get paid (and is more in line with the risk associated with contracting). If you don’t get paid you’re only really out $7,500 when you consider your suppliers’ donation (so to speak).

Better explained, your supplier is putting up about $3,500 for material in hopes of making about $800 in gross profit. Let’s say you and your supplier are working at about the same profit margins. However, you have most likely signed a personal guarantee with your supplier; meaning if you don’t get paid you will still have to pay your supplier because of the personal guarantee. On the other hand, you may have paid your supplier on the 10th of the month in order to get a discount on the materials you purchased; therefore, if you don’t get paid for the job you have still paid your supplier. Is taking a discount really worth it?

When I was burned for the $60,000, I had already paid my suppliers so I was out material, labor and taxes (please don’t say it’s a write off). If I had not taken the discount on materials, my supplier would have been in the same boat because I don’t give personal guarantees. I feel suppliers should take on the same risk I do. I like to think they are in it with me. For that reason, I set up every job up on a separate account and I require the supplier to send the owner an “intent to lien” as the law requires.

Johnny Be-Good

Yes, it may mean that your customer may pay the material bill directly to the supplier or may issue a joint check made out to you and your supplier. It doesn’t matter how you get paid. My pride went out the window with the $60,000 I lost! (It’s been 20 years but it still bugs me!)

We shouldn’t expect our suppliers to take all the risk. However, our suppliers should not expect us to take all of the risk by giving them unlimited guarantees.

Subcontractors and suppliers together can spread the risk and cooperate with one another in a concerted effort to collect from any deadbeats that don’t pay. That is teamwork!

Suggestions that may help you avoid additional risk:

• Ask your bank to do a credit check on the owner and customer;

• Call the bank financing customers’ project;

• Get a personal guarantee from your customer/owner;

• You and/or your supplier file “intent to lien” (check lien laws in your area);

• Consider renegotiating payment terms with suppliers;

• Stay on top of receivables;

• Don’t hesitate to file a lien!

The best strategy is “knowing” the financial condition of your customer and the owner of the project. Because I was naïve and new in the business, I thought doing work for a very successful general contractor who had been in business for 40 years was a feather in my cap. Well, the feather didn’t end up in my cap! My hands sweat when I think about this.

I don’t know what’s going to happen to the subcontractor who removed his product from the job after being owed $150,000. I’m curious to find how this plays out. Will the bank sue him or negotiate a settlement of some sort? Will the bank just hire someone else to do the work and then sue the subcontractor for the additional costs? If I learn the fate of this mysterious subcontractor I will share how it all turns out. That is, if my fingers aren’t broken or something.

Our confused economy is like the flu season. Some people get the flu and some don’t. Others invest in a flu shot! Since the flu season is upon us, you may want to take a shot at using some of these suggestions. It sure beats the chills.

Remember: Teamwork begins with a fair contract! W&C