General Contractors are Enforcing Statutory Right to Inspect Subcontractor Payroll Records

Posted 4:18 pm by NACM CS & filed under Credit, Legal, Lien Law.

Oct 22, 2018

Written by: Christopher Ng

Yes, California’s Assembly Bill 1701 was a doozy. For those of you not yet familiar with the new law, to make a long story short, AB 1701 makes a direct contractor (California speak for “general contractor”) jointly liable for the unpaid wages, fringe benefits, or other benefit payments or contributions of a subcontractor — at any tier! The new law governs private projects only and applies even if the direct contractor has paid its subcontractor.

Labor Code section 218.7(f) does give the direct contractor the right to inspect each of its subcontractor’s employees’ wage statements and payroll records maintained under Labor Code section 1174. Significantly, such “records must contain information sufficient to apprise the requesting party of the subcontractor’s payment status in making fringe or other benefit payments or contributions to a third party on the employee’s behalf.” Importantly, the direct contractor may withhold as “disputed” all sums owed if a subcontractor fails to timely provide the payroll or project information referenced below until that information is provided. Without a doubt, judges, arbitrators, and juries will be soon called upon to determine factual disputes as to whether a subcontractor timely, properly and/or sufficiently complied with AB 1701 and the subcontract agreement’s requirement to provide such payroll or project information.

Subcontractors are reporting that direct contractors have updated their standard subcontract agreements to address AB 1701’s impacts — and in some cases, complain that direct contractors are now overreacting and overreaching. Here are some of the common (and uncommon) newly created subcontract provisions proposed by direct contractors for California private projects going forward:

Subcontractor’s strict compliance with all wage and hour regulations, including specific defense, indemnity and hold harmless provisions to protect the direct contractor against claims for unpaid wages or benefits brought on behalf of the subcontractor’s employees;
Requirement for subcontractors to include a similar contractual provision in their own subcontracts that would require lower-tier subcontractors to also defend and indemnify the direct contractor for claims arising from their respective employees’ work;
Direct contractor’s right to inspect payroll records (at a minimum, information set forth in Labor Code section 226) and project award information (that includes the project name, name and address of the subcontractor, contractor with whom the subcontractor is under contract, anticipated start date, duration, and estimated journeymen and apprentice hours, and contact information for its subcontractors on the project); specifically, subcontractors are being contractually compelled to provide payroll records and project award information at specific periodic intervals to ensure compliance with the law, and sometimes within 24 hours upon the direct contractor’s request (the records requested are similar to certified payroll reports required on prevailing wage projects);
A backcharge/withholding provision that confirms the direct contractor’s right to backcharge or withhold payments from the subcontractor pursuant to Labor Code section 218.7;
A provision giving the direct contractor the power to approve or reject the hiring of subcontractors of all tiers;
Requirement for subcontractors at every tier to provide security in the form of a properly worded payment bond or letter of credit to satisfy claims that are made against the direct contractor under the new law;
Personal guarantees from owners, officers, and other key subcontractor personnel.
In addition, many direct contractors have already implemented a cumbersome “belts and suspenders” type system to confirm evidence of proper payments to downstream employees and other third parties (e.g., securing signed payment acknowledgments by each subcontractor and sub-subcontractor employee and by those third parties entitled to recover fringe benefits or other contributions), as well as a system to prevent fraudulent claims (e.g., identification check-in software or other registration and security methods to confirm the presence and identification of all employees on a job site.

Of course, subcontractors should, at a minimum, flow down all appropriate subcontract provisions to their sub-tier subcontractors. Subcontractors will also want to limit and clearly define the documentation it must provide to the direct contractor to comply with AB 1701 and their contractual responsibilities.

Christopher Ng is an equity partner, executive committee member, and the managing partner-elect of Gibbs Giden. Chris primarily represents companies in a wide range of business, commercial and construction negotiations and disputes. Chris is a member of the State Bar of California and District of Columbia and licensed to practice in all California state and federal courts. Chris is also an educator, active speaker, published author and frequent contributor to local, regional and national legal publications. For his achievements, Chris has been named to the “Rising Star” and “Super Lawyers” lists by Los Angeles Magazine and Super Lawyers® (Thomson/Reuters) regularly since 2009 (including again in 2018), a distinction conferred upon less than 5% of all California attorneys.

The content contained herein is published online by Gibbs Giden Locher Turner Senet & Wittbrodt LLP for informational purposes only, may not reflect the most current legal developments, verdicts or settlements, and does not constitute legal advice. Do not act on the information contained herein without seeking the advice of licensed counsel.

Oct 22, 2018