Amendments Key to Mixed Results on Lien

By John S. Mrowiec

Mechanics liens provide security for payment to contractors, subcontractors and suppliers. Purchase money and construction lenders secure the developer’s debt with mortgages on the real estate and improvements.

When a construction project is troubled, there might not be enough value to pay all the contractors and the lenders. The result will be a dispute in which the lender will contest the validity and attempted priority of a mechanics lien. The entity without priority usually has little chance of recovery of the debt.

Mechanics lien statutes vary among states regarding the relative priorities of mechanics lien claimants and mortgage lenders. Illinois provides one of the better statutory priority structures for lien claimants.

A recent example of a priority dispute in Illinois but with a mixed outcome is Cordeck Sales, Inc. v. Construction Systems, Inc., 2008 Ill. App. LEXIS 272 (1st Dist. March 31, 2008).

A Troubled Condo Project

Cordeck Sales involved construction of an 89-unit residential condominium building at 520 N. Halsted St. in Chicago. Savannah Inc., the beneficiary of the land trust holding title to the real estate, was the developer.

The developer contracted with AMEC Construction Management Inc. to act as the construction manager. The construction management agreement provided that construction manager was “an agent” and “not constructor.”

The developer retained a related entity, Construction Services International Inc., as general contractor. The general contractor engaged subcontractors and suppliers.

The land trustee granted a mortgage to a predecessor of First Midwest Bank in the initial amount of $16,736,960 and later increased to $23,145,891. The construction-management agreement predated the recording of the mortgage.

Initially, the developer paid the required progress payments, but the payments ceased. While the Cordeck Sales case involves numerous claimants and issues, this article addresses only the mechanics lien issues concerning the construction manager.

The construction manager recorded a mechanics lien claim for $749,640 for work performed through March 31, 2003, but continued to work. Then, after one of the subcontractors filed suit to foreclose its own mechanics lien claim, the construction manager recorded an amended mechanics lien claim for work performed through May 1, 2003, and filed a counterclaim to foreclose its amended lien claim.

After filing its counterclaim, the construction manager continued to work. The construction manager amended its lien claim three more times so that the ultimate amount claimed was $1,318,966 for work performed through Oct. 31, 2003. On Dec. 10, 2004, the construction manager filed an amended counterclaim in court to foreclose the fifth amended lien claim. The subcontractors and suppliers also filed counterclaims to foreclose their mechanics lien claims.

On Feb. 6, 2004, the lender filed a counterclaim to foreclose its mortgage. The lender also filed affirmative defenses asserting that the mechanics lien claims were invalid and, if valid, did not have priority over the mortgage lien. Shortly thereafter, the trial court appointed a receiver to sell condominium units with the mortgage and mechanics lien claims attaching to the proceeds.

The trial court entered default judgment against the land trustee, developer and general contractor. The trial court granted summary judgment to the construction manager on priority over the lender’s mortgage lien on the ground that the construction management agreement predated recording of the mortgage lien.

The construction manager then moved for summary judgment and turnover of proceeds. The lender opposed the motion and filed its own motion for summary judgment.

The lender argued that the construction manager’s lien claim was invalid because, according to lender, (a) an agency construction manager’s services were not lienable, (b) when the construction manager’s work scope expanded to include services that were to be performed by general contractor, construction manager’s lien claim therefore had misdescribed its contract, and (c) construction manager’s lien claim amount contained such a large component for “fee” (lender contended was nonlienable) that the claim was fraudulently overstated. Even if the construction manager’s lien were appropriate, the lender contended that the lien claim was limited in priority over lender to the original $749,640 liened, not the $1,318,966 ultimately liened by the construction manager’s amendments.

The trial court granted the construction manager’s motion, denied lender’s cross-motion and entered a judgment of foreclosure in favor of the construction manager for $1,318,966 plus interest and costs. The lender appealed.

Lender Files Appeal

The Cordeck Sales appellate court first addressed the question of whether an agency construction manager could maintain a mechanics lien under the Illinois Mechanics Lien Act.

A statutory amendment governing at the time of the motions but not at the time of the contract provided that a contract “to manage a structure under construction” was lienable, 770 ILCS 60/1. Prior to 2006, the language was “to manage a structure.” The lender argued that the 2006 amendment permitted construction managers to maintain a mechanics lien for contracts entered after the statutory amendment but the amendment was unnecessary if construction managers could maintain liens under the prior version of the act.

Cordeck Sales noted that “[t]hough no cases are directly on point, several cases have implicitly recognized the right of construction managers to assert mechanic’s liens under the prior version of the Act” Cordeck Sales, 2008 Ill. App. LEXIS 272, #41 citing Contract Development Corp. v. Beck, 627 N.E.2d 670 (Ill. App. 1994); Northwest Millwork Co. v. Komperda, 788 N.E.2d 399 (Ill. App. 2003). Cordeck Sales viewed the language of “manage a structure” as sufficient to give a construction manager a lien, Cordeck Sales, 2008 Ill. App. LEXIS 272, *42 – 45.

The lender next argued that the construction manager, as the agent of the owner, could not maintain a lien. The lender cited no authority for its argument. In any event, the agency term is used to clarify the construction manager’s role with respect to third parties, not to alter the construction manager’s duties. Moreover, the appellate court recognized no “agency exception” to the Act’s provision that “any person” who contracts with an owner to “manage a structure” is a “contractor” who could have lien rights, Cordeck Sales, 2008 Ill. App. 272, *45 – 46.

In addition, in this case there was uncontradicted evidence that the construction manager performed “day-to-day sequencing, coordination, supervision, direction or control on the Project, as well as carpentry work, minor demolition, clean-up, and excavation,” Cordeck Sales, 2008 Ill. App. 272, *46 – 47. If that is so, the lender argued, the lien should fail because the construction manager had not properly described the contract under which the lien was claimed as required by Section 7 of the Act. Cordeck Sales rejected this argument too.

There was no evidence that the construction manager had misdescribed the contract. Although the construction manager provided services beyond that which was provided in the construction management agreement, the uncontradicted evidence established that the construction manager performed the additional work because it was necessary to manage the project effectively when the general contractor failed to perform its functions.

The lender next argued that the construction manager’s lien contained nonlienable elements to an extent that the claim was unenforceable as constructively fraudulently overstated. 34% of the lien claim represented “fee” which was compensation for “profit and overhead.”

The appellate court disagreed. There is nothing inherently unalienable about fees, as contractors have been allowed to assert liens for fees provided in a construction contract. Cordeck Sales, 2008 Ill. App. 272, *50 citing Blohn v. Kagy, 94 N.E.2d 516 (Ill. App. 1950).

The Cordeck Sales appellate court thus affirmed the trial court’s judgment regarding the validity of the construction manager’s full $1,318,966 lien claim, rejecting all of the lender’s validity arguments.

Lien’s Amendments Questioned

On priority, though, the lender fared somewhat better.

The lender contended Section 7 of the Act prohibited amendments of lien claims against third parties such as “creditor[s] or encumbrancer[s] or purchaser[s],” permitting only amendments against owners. The construction manager argued that lien claims could be amended against not only owners but, provided the amendment was made within four months of the claimant’s last work, against third parties too. Here, the construction manager had continued to work after recording its initial lien claim and recorded the construction manager’s last amendment before four months after the construction manager’s last work.

Cordeck Sales ruled that the construction manager could not amend its lien claim to the detriment of third parties like the lender even if the amendments were within four months of the claimant’s last work. Cordeck Sales reasoned that, by expressly permitting amendments of the claim to bind an owner in Section 7 of the Act, the legislature implicitly intended not to permit amendments against third parties regardless of timeliness, Cordeck Sales, 2008 Ill. App. 272, *56 – 57 citing Federal Savings & Loan Insurance Corp. v. American National Bank & Trust Co., 450 N.E.2d 820 (Ill. App. 1983); In re Acme Metals Inc., 257 B.R. 714 (Bankr. Del. 2000). Cordeck Sales held that although the construction manager’s lien claim was valid in its amended entirety against the land trustee, it had priority over the lender’s mortgage lien only to the $749,640 original lien amount.

While the court does not say so, apparently under these facts, the construction manager had two choices: (1) refrain from liening until the construction manager ceased work (seemingly an unworkable option because the construction manager apparently had to file its counterclaim in response to another claimant’s foreclosure suit before completing work), or (2) stop work as of the date through which the original lien amount sought payment (making closing of sales of incomplete units unlikely).

Subject to any successful appeal, the practical effect of the Cordeck Sales decision is that the construction manager cannot collect from the proceeds of the sales of the condominium units beyond the original lien amount and is left to seek the balance owed from the presumably insolvent developer.