Having confidence in Human Resource (“HR”) processes is important for any business, and this is especially true in construction where there is GC liability for wages all the way down the payment chain. The Human Resources department performs functions critical to supporting successful companies. These functions include hiring, on-boarding, training, compensation and benefits administration, grievance handling, performance reviews, and termination. In order to accomplish these tasks appropriately, an HR team must have an understanding of labor laws and implement legally compliant procedures to set a business up for success.
HR departments and the professionals that make them up can be especially important for companies in the construction industry. In construction, HR departments must have the ability to recruit qualified workers, ensure employee safety and minimize workers’ compensation expenses, manage temporary workers or independent contractors, mitigate high employee turnover, and even deal with immigration issues. Clearly, construction HR professionals are not looking for additional responsibilities to fill their day. But, legislatures in California and some other states have decided to give additional responsibilities to general contractors’ (“GCs”) HR departments.
Not only do GCs need to keep their own HR house in order, but they are also now responsible, in some respects, for taking care of other HR departments all the way down the contracting chain. For GCs, having sufficient processes to manage internal HR issues is no longer enough. Recent law changes in California and other states have created more potential exposure for GCs. Now, GCs can be liable for the mismanagement of HR issues like payroll and benefits processing by every single subcontractor on their projects.
To get an overview of the new responsibilities and financial risks, and learn some potential best practices to avoid liability keep reading.
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Why Are GCs Responsible for Paying Other Companies’ Employees?
California’s Assembly Bill 1701, which is currently in effect, makes a general contractor jointly liable for the unpaid wages, fringe benefits, or other benefit payments or contributions of a subcontractor (at any tier). The idea behind the requirement is generally similar in the idea behind mechanics liens or other construction payment protections: the parties at the top of the chain, who have the most control and are closest to the money, have a greater ability to exert that control to manage the flow of the money throughout the payment chain. This ability and the general idea that GCs can use their inherent leverage to direct the actions of their subs make GCs an easy legislative target for perceived construction payment problems or abuses.
Just because you, as a GC, may have more control than lower-tiered parties doesn’t mean that you have a pulse on the payroll management of every party you work with. However, despite this, California has determined that you need to.
The purported benefit to this type of idea is that mandating a “buck stops here” party for payment to all workers on a construction project provides greater down-the-chain protection and helps prevent the misclassification of employees as independent contractors.
As noted by the California legislature, since the GC has ultimate responsibility for all employee workers on the project, GCs will need to work with carefully selected subs in order to minimize the risk of paying twice. However, there is a limit to how effective merely being selective in the choice of subcontractors can be.
As a GC, you now have responsibility for wages all the way down the chain, even if you have fully paid your own subs. If the GC pays their sub, who pays their sub, but that sub-sub does not pay wages to its employees, the GC will still be liable. As noted above, this mirrors the potential obligation for the property owner to pay twice for the same work (and seek recovery elsewhere) in the face of mechanics lien claims.
The bill’s author, Tony Thurmond, stated that “[t]his measure incentivizes the use of responsible subcontractors and helps to ensure the economic vitality of the construction industry and its role in the creation of good-paying middle-class jobs.” While the failure rates of construction industry participants are indeed high, it seems that it is a stretch to connect increased GC liability for unrelated parties’ wages to the overall health of the construction industry – especially as it relates to the sector’s ability to create jobs.
California, however, is not alone in the determination that the GC is the party who should ultimately bear responsibility for the wages of every worker in the project. In legislation made effective in October 2018, Maryland made a general contractor performing work on a construction services project liable to a worker to the same extent as the employee’s direct employer. Similarly to California’s obligation, this responsibility is not limited to first-tier subs, and applies “regardless of whether the subcontractor is in a direct contractual relationship with the general contractor.”
However, Maryland doesn’t stop there, in excess of the obligation imposed in California, which is limited to the unpaid wages and interest, the obligation in Maryland extends to the penalties the unpaid worker could recover from his or her direct employer – three times the owed wages, plus attorneys’ fees and costs.
Ensuring the payment of individual workers on construction projects is a noble goal, but it’s a goal for which there may already be solutions in place. But, it doesn’t appear the trend to add this type of responsibility onto the shoulders of the GC will stop soon. So what practices should a GC’s HR department implement to be safe, and what tools are HR professionals given to ensure compliance? GC’s are able to monitor payments made by their subs and have access to their subs’ payroll records, employee records, and contracts. If a sub fails to provide information upon their GC’s request, the GC can withhold disputed sums. Let’s look at whether these tools are sufficient.
What Does GC Liability for All Wages on Project Mean?
At a basic level, responsibility for all wages on a construction project means exactly what it sounds like. As a GC, you are obligated to make sure that all of the employees working on a project (no matter whose employees, or how far down the payment chain) are paid the wages and benefits that they are owed. And, if they are not, you need to pay those amounts yourself.
From a more practical standpoint, it may mean that changes need to be made to your HR processes in order to better ensure compliance and limit potential exposure.
Choosing Which Department Should Manage Sub-Tier Wage Compliance
It seems like an easy answer for these responsibilities to live in the same place that has control over the administration of the payroll function. After all, the additional responsibilities and duties are related to payroll processing and benefits administration, just “down the payment chain.” These functions can be handled solely by HR, or in concert with the accounting department, depending on company preference. But it doesn’t make sense to stop the inquiry here, the obligation is too complex. Running internal payroll and benefits administration is an entirely different set of functions than gathering information and examining other parties’ payroll processes.
Internal payroll has no relation to accounts payable to outside parties. It may be that in order to limit potential exposure, it makes sense to tie the release of progress payments to proof that all employees have been paid. But, what does that proof entail? If the examination of records and the management of the pay-app and lien waiver process is required to avoid liability and complete the payment process, which department has the bandwidth and skills necessary to ensure compliance?
HR departments generally have the most hands-on knowledge of payroll and benefits processing, as well as the most practical familiarity with the examination of “employee” status. But small GCs without separate HR departments, or GCs that, understandably, limit the reach of HR to more specific internal employee matters, may not have the runway to tackle these obligations single-handedly.
Really, a sufficient process to limit company exposure likely requires inter-departmental collaboration. The best processes will likely involve both HR and the accounting A/P departments, with some oversight by internal or external legal teams. Just as HR must work with legal to maintain compliance in internal labor management, the same must be true to manage compliance externally.
Should GCs be More Picky In Choosing Subcontractors?
The California legislature specifically stated that the desired outcome of these requirements is that it “incentivizes the use of responsible subcontractors.” While there seem to be easier and less burdensome ways to drive this outcome, if desired, it does seem reasonable that GCs will restrict subcontracts to known parties who they feel convinced will not have payroll issues. This could mean only doing business with subs they have done business with before, or only doing business with larger and more established subcontractors. Further, it seems reasonable that GCs may attempt to decrease their administrative burdens by contracting with fewer subs. The fewer subcontractors with whom a GC works, the more easy it will be to closely manage subcontractors and gain confidence in those subs’ processes and representations.
It makes sense to attempt to limit exposure in this manner. It also makes sense to limit exposure through building close relationships with a small number of outside parties and working closely with them to establish sufficient and required processes. Despite this, however, artificially limiting a subcontractor pool could be detrimental in other ways. With less competition, it is not difficult to imagine you may be forced to pay subcontractors more, or being involved in workmanship (or other) disputes if parties get complacent, or if the cost of changing subs get too prohibitive.
Even more to the point, though, since these payment responsibilities extend throughout every tier of the payment chain, limiting the available subcontractor pool may not have the desired effect of limiting exposure. The stated goal of making GCs more picky about the subs with whom they contract is only one step of the ladder of potential liability. Unless a GC can also exert control over the chosen subcontractors’ subcontracts, there is still potential exposure for unpaid wages and benefits.
So, if managing the potential exposure and dealing with the administration requires multiple internal departments, and being picky about whom you do business with only gets part-way down the path to safety and compliance, what are some best practices to make sure you don’t get burned by the missteps of somebody else’s HR department?
Best Practices and Helpful Hints to Limit GC Liability for Sub-Tier Wages
1. Examine & Modify Subcontractor Agreements
Stricter contracts, or contracts that impose potential additional penalties, should never be the go-to answer for solving any construction payment problem. The more complex the contract, the greater the possibility of a dispute about it. Complex contracts generally create more problems than they solve, and they do not foster an open and transparent payment process. Complicated contracts do not help parties work for good outcomes, instead of adding complexity and rules and requirements cause companies to fall back into a protectionist mindset. That being said, specific clauses requiring the subcontractor’s acknowledgment of an obligation to defend and indemnify the GC from any wage claims by employees of its sub-sub-contracting parties is definitely something that the prudent GC should consider.
Additionally, however, GCs have an opportunity to re-examine their subcontractor agreements in a way that benefits all parties. Requesting employee lists or payment practices; or publishing a desire to receive informational notices from all participants on a project are contractual policies that could provide a greater benefit than burden. For a GC who wants to avoid liability for unpaid employees throughout the payment chain, implementing contractual requirements that enable beneficial oversight is worth considering.
2. Promote a Culture of Visibility & Good Outcomes
Additional oversight requirements, additional potential liability, and the potential for more paperwork are all frustrating. Nobody wants more busy-work. But, the idea of trying to make sure everybody on a project gets paid what they earn is something that is easy to get behind. It’s very easy to look at what rules and requirements mean to you, and your own processes, timelines, workflows, and exposure to liability. But if you take a step back and look at a whole project (or even the industry as a whole) a different view of the picture emerges.
Fairness is a concept that shouldn’t be controversial. Arguments can be made over whether a particular solution is the fairest way to drive the desired outcomes, but the underlying thought that everyone who does work should be paid fairly is easy to agree with.
To the extent that parties can work together for good outcomes, rather than layering protection upon protection and leverage upon leverage to merely move risk to another party, the entire project benefits.
One way to work for good outcomes is to adopt the SET framework for jobs:
See Everyone on the Job
Talk It Out.
All parts of the SET framework are implicated with respect to the GC’s ultimate liability for wage payments to subcontractors’ employees, but it is absolutely clear that “seeing everyone” on the project is incredibly important. Visibility on many projects is broken at the level of second-tier subs. It’s easy to know parties you contract with directly, but below that level, it’s hard to know who all is doing work. If a GC can be made liable for the payroll missteps at all tiers of the project, how can a GC extend oversight and avoid that potential exposure if the identities of the sub-subs aren’t even known?
As noted above, this mirrors lien liability in many respects. You can use all the contractual provisions you want, but it doesn’t change the fact that there is a risk of liens from “unknown” parties on the project. The best way to mitigate the risk of “hidden liens” is also the best way to mitigate the risk of subcontractor payroll liability – gain project visibility in order to decrease the “unknowns” on a project. And the best way to gain project visibility is to encourage the use of informational visibility documents.
3. Put HR in Touch with Subs’ Processes and Provide Oversight
Once everybody on the project can be seen, you can exert some control or oversight to make sure things go smoothly. While nobody wants somebody else getting tangled up in their business, these rules allow for GCs to get some insight into the records and processes of the subs to whose employees they may be liable in order to make sure everybody is getting paid appropriately.
Get HR involved at the start and relationships can be built so that payment doesn’t have to be unnecessarily delayed while people pour over the payroll and employee designations of multiple third parties. Putting common sense check-ins in place throughout the project, and linking your HR department with those of your subs’ can let you catch issues before they become problems.
4. “Certified Payroll” – Mandatory Reporting for Subs and Review of Records by HR Prior to Payment?
One “check-in” that could be very beneficial to GCs can be taken from the realm of public works projects and prevailing wage determinations. Many subs are familiar with providing a certified payroll for prevailing wage projects. You can implement a similar requirement for all projects to help avoid incur liability for subcontractors’ payroll, likely without an enormous amount of overhead (especially if the subs have done any prevailing wage projects).
By requiring a “certified payroll” that lists every employee, his wages, the benefits to which he’s entitled, his work, hours, gross wages, and withholdings, and a statement of compliance from the subcontractor, problems can be avoided prior to payment to the sub (and when rolled out throughout the payment chain pursuant to the visibility gained above) presumably from the sub-subs, as well.
This does make pay-apps more complex, and when more review is required the payment process slows down. It’s a balancing test to determine whether you can meet the requirements of prompt payment timelines and other payment requirements if an examination of a certified payroll type requirement is added to pay-app review.
It has been made clear by recent legislation that the trend is to make GCs responsible to ensure the proper payment of every employee working on the job, regardless of actual employer or tier. This is a significant responsibility.
Through promoting visibility and implementing some collaborative HR procedures throughout the payment chain, GCs can feel comfortable working towards good outcomes on their projects without living in fear of payroll issues down the chain.