Question

Contractor performed considerable work on a project. Owner then became insolvent, leaving Contractor unpaid. Contractor tried to recover payment from the undisbursed construction loan proceeds being held by Owner's bank. Contractractor argued that it was a beneficiary of the loan agreement between bank and Owner. Bank refused to make payment.

Discussion

Do you agree with the Contractor's argument? Does the bank have any contractual obligation to disburse the unused loan to the contractor? How would you prevent this kind of financial risk?

Answer 1

No .I dont agree with contractor's arguement.Usually, the construction loan and the Owner/developer's investment together will be sufficient to pay the contractor, who in turn will pay subcontractors and materials suppliers, and so on down through lower tiers of suppliers of labor or materials.

But as in above case,when the owner / developer becomes insolvent , whatever the cause may be.There are unpaid claims for work done on projects by contractor or by those in lower echelons of supply of labor or materials.

Construction lenders/banks are in contract only with owners/developers, they are not contractually involved with these other claimants. Lenders/Banks ordinarily take the position that payment of a prime contractor is the developer's obligation, an obligation not pertaining to the lender/bank. Suppliers on lower tiers of the contracting pyramid are even more remote from the lenders/banks in the sense of contract.

Incase if duration for payment , as specified in contract agreement exceeds, contractor can give notice to owner and can proceed arbitually or legally.

In order to avoid the financial risk, the payments has to be made at regular intervals or stagewise payments.The regular payment shall be weekly/monthly/%of work completion.This can ease the fund flow for the contractor during the execution too.