"Pay-If-Paid" Contracts Resurface in New York

A New York state court decision may have resurrected certain kinds of "pay-if-paid" subcontract arrangements that many in the state's construction industry thought were long gone.

By Robert C. Angelillo

Ten years ago, New York's construction contractors thought they had seen the last of "pay-if-paid" subcontracts. The arrangements, long in dispute, had appeared to permit a general contractor that had not received payment from a project owner to withhold payment from a subcontractor on the job.

The seeming death of these pay-if-paid provisions came in 1995's West-Fair Electric Contractors v. Aetna Casualty & Surety Company, when the New York State Court of Appeals ruled that these subcontracts were bad public policy and therefore unenforceable in the state. But a surprising decision in Hugh O'Kane Electric Co., LLC v. Mastec North America, Inc. in March by a state appellate court suggests that this "public policy" shield may not be as strong as imagined, and that under certain circumstances "pay-if-paid" subcontracts are enforceable in New York.

Before contractors start rewriting all of their subcontracts, however, there is another twist. New York state legislators enacted a law in 2003 that appears, for now, to shorten any new lease on life for these subcontract provisions.

This chapter of the "pay-if-paid" story started with Hugh O'Kane, a subcontractor for Mastec, a Florida-based company that was handling a construction project involving telecommunications installation. Though the work was in New York City, the subcontract documents established that Florida law was applicable. The catch? Pay-if-paid subcontracts are enforceable in Florida, and O'Kane's subcontract included this language. When the owner failed to pay Mastec, that contractor refused to pay O'Kane.

Donning the armor of the West-Fair decision, O'Kane sued Mastec in New York to collect its payments through a ruling that the pay-if-paid language was not enforceable. Mastec, in turn, argued that Florida law - and the subcontract language - should hold sway.

While a lower court agreed with the plaintiff, deciding that Florida's law was against New York's public policy, Mastec appealed the decision and got a favorable ruling from the Appellate Division First Department in Manhattan, which held in March that the pay-if-paid language was enforceable and that O'Kane couldn't use West-Fair to avoid it.

Despite the surprising ruling, the effect of this decision may well be limited and short-lived. In 2002, the state legislature and governor added Section 757 to the state's General Business Law, effective in January 2003, which made it illegal for construction contracts in New York, except those with material suppliers, to be under the control of another state's law.

The catch here? The new law only applies to construction contracts effective on or after Jan. 14, 2003 for work on projects starting after that date. For O'Kane, there was no relief, because the subcontract was effective much earlier.

So what does all of this mean? For starters, general contractors may argue that the appellate court's decision represents a retreat from the broad pronouncement of New York's highest court in West-Fair that struck down "pay-if-paid" subcontracts. In addition, O'Kane might give contractors room to find other means of enforcing pay-if-paid provisions. Those issues will likely meet a future test in court.

For now, however, the current case law holds that pay-if-paid provisions are not enforceable in subcontracts executed on or after Jan. 14, 2003 for work on a New York project that started after that date. On the other hand, for subcontracts effective before that date or for contracts pertaining to projects begun before that date, pay-if-paid language might be valid in cases similar to O'Kane, where a contract operates under another state's law that permits such provisions.

Therefore, before entering into a subcontract on an existing project, or before deciding whether to sue on a payment issue under an executed subcontract, subcontractors should carefully review the legal documents for important language. First, is the subcontract controlled by the law of another state? Second, does the subcontract contain pay-if-paid language? If the answer to both of these questions is "yes," and if the subcontract falls within the limited timeframe prior to January 2003, West-Fair may not be there for you.

Robert Angelillo is an attorney practicing construction law and litigation at Meyer, Suozzi, English & Klein, a law firm based in Mineola, N.Y.