By Mike Koger, AIA, Esq. Senior Director and Counsel, AIA Contract Documents
May 20, 2022
Modular fabricators often find themselves in a conundrum when it comes to receiving payment for work they perform offsite. After all, the standard in the construction industry is for contractors to receive payment only once work has been incorporated into the project, or when materials and equipment are delivered and stored at the site. The following is an excerpt from the A201®-2017, General Conditions of the Contract for Construction that sums up this standard:
§ 9.3.2 Unless otherwise provided in the Contract Documents, payments shall be made on account of materials and equipment delivered and suitably stored at the site for subsequent incorporation in the Work.
The problem, as modular fabricators are acutely aware, is that nearly all their work is done far from the project site – perhaps even in a different state or country. Over the years, fabricators have devised several ways to deal with this issue, yet there is no consensus in the industry on how to structure payments. Some fabricators require the client to pay a sizeable deposit up front, while others opt to get paid in a manner that largely tracks with the A201 standard – i.e. receiving payment for work as it is completed (albeit completed in a factory, not on site).
Given this backdrop, how can modular fabricators, project owners, and lenders, weigh the competing needs of (a) the fabricator who naturally does not want to wait until its work is delivered and installed before receiving payment, and (b) the owner and lender who want to make sure they are getting what they pay for? Furthermore, if an owner does make progress payments while modular components are being built offsite, how is the owner protected in instances where the fabricator fails to properly build or deliver those components to the site, or goes bankrupt before completing its work?
The answers to these questions can partially be found in a careful reading of the A201. The A201 allows a contractor to receive payment for materials and equipment stored offsite, so long as the owner approves of such payments in advance. In such a scenario, the contractor is required to reach an agreement with the owner on key issues pertaining to payment for offsite work. In furtherance of this, the contractor must establish procedures to establish the owner’s title to materials and equipment that the owner has paid for, and to otherwise protect the owner’s interest by procuring insurance and making arrangements for transportation to the site.
§ 9.3.2 …If approved in advance by the Owner, payment may similarly be made for materials and equipment suitably stored off the site at a location agreed upon in writing. Payment for materials and equipment stored on or off the site shall be conditioned upon compliance by the Contractor with procedures satisfactory to the Owner to establish the Owner’s title to such materials and equipment or otherwise protect the Owner’s interest, and shall include the costs of applicable insurance, storage, and transportation to the site, for such materials and equipment stored off the site.
Another important step in protecting the owner’s interest in payments made for work performed offsite is to make sure that title to work vests with the owner once payment is made. In the A201, the contractor warrants that title to all work covered by an application for payment will pass to the owner no later than the time of payment.
§ 9.3.3 The Contractor warrants that title to all Work covered by an Application for Payment will pass to the Owner no later than the time of payment. The Contractor further warrants that upon submittal of an Application for Payment all Work for which Certificates for Payment have been previously issued and payments received from the Owner shall, to the best of the Contractor’s knowledge, information, and belief, be free and clear of liens, claims, security interests, or encumbrances, in favor of the Contractor, Subcontractors, suppliers, or other persons or entities that provided labor, materials, and equipment relating to the Work.
In total, the A201 provides a mechanism for a modular fabricator to get paid for work performed offsite, and requires the fabricator to protect the owner’s interest in such work. The A201 does not, however, specify the ways in which the fabricator can provide such protection. Two items – vesting certificates and advance payment bonds – can help both parties achieve these goals and make payments for offsite work more palatable.
A vesting certificate is a document that evidences the transfer of ownership. Vesting certificates can apply to fully completed modules or to components that have yet to be incorporated into a module. In either event, if owners want evidence that they have paid for items located offsite and that ownership has vested, they should make sure to get a vesting certificate that clearly identifies the items and their ownership status. Owners can also insist on the right to inspect these items and remove them from the fabricator’s factory if needed. Vesting certificates that are clear about what items are owned by the project owner can help protect an owner if a fabricator becomes insolvent. Thus far, vesting certificates have been widely used in the United Kingdom on modular project, yet they are relatively untested in courts in U.S. jurisdictions.
Advance Payment Bonds
An advance payment bond can be used in scenarios where a contractor or fabricator has requested an advance payment to cover the cost of materials or equipment required to initiate a project. In making such a payment, owners are exposed to the risk that the contractor will default on the project without returning the amount advanced. Thus, the advance payment bond provides protection to owners for sums paid prior to contracted-for materials being delivered to, or the work performed on, the project site. Ultimately, it is a guarantee that the advanced payment will be returned to the owner if the contractor or fabricator fails to meet its contractual obligations, for any reason.
AIA Contract Documents has provided this article for general informational purposes only. The information provided is not legal opinion or legal advice and does not create an attorney-client relationship of any kind. This article is also not intended to provide guidance as to how project parties should interpret their specific contracts or resolve contract disputes, as those decisions will need to be made in consultation with legal counsel, insurance counsel, and other professionals, and based upon a multitude of factors.