In a landmark case decided in February of 2011, LaSalle Bank National Association v. Cypress Creek 1, the Illinois Supreme Court took a major step towards limiting the rights of mechanics lien claimants, by changing their lien priority. Subsequently, H.B. 3636 was introduced as a direct result of the court’s ruling. Fortunately for subcontractors and suppliers, Governor Pat Quinn signed the law into effect on February 11, 2013.
How did LaSalle v. Cypress Creek limit lien claimants’ rights?
Overruling years of a significantly different interpretation of an Illinois state law, the court in LaSalle ruled that mechanics liens were not entitled to any priority over mortgages on a property. Instead of getting paid first above anyone else who was owed money on a project, unpaid subcontractors had to share whatever assets were left in a property equally with any mortgagees who had loaned money to the project.
LaSalle v. Cypress Creek overview
The issue at hand in LaSalle Bank National Ass’n v. Cypress Creek 1, LP, was a battle between a construction lender and a lien claimant over who was entitled to the proceeds for the foreclosure sale of the liened property.
To sum up the facts of the case, LaSalle was the lender on the project, and several different lien claimants had asserted claims. LaSalle argued that since they had paid for some work performed out of the loan funds, they were entitled to credit for the enhancements made to the property. The claimants countered that LaSalle wasn’t entitled to any proceeds because 770 ILCS 60/16, “entitled mechanics lien claimants to be preferred to the added value of all lienable improvements on the land made subsequent to the time the mortgage was entered into.”
The case reached the Illinois Supreme Court. In their opinion, the court held that lien claimants have priority “only to the value of their improvements and the prior encumbrancer to the value of the land at the time the contract with the lienholder was made.” The reasoning behind this decision was
Were the lien claimants to be preferred to the value of all improvements, the lien claimants would be unjustly enriched, to the detriment of an owner or mortgagee who funded the improvements other than those that form the basis for the liens. This would discourage lenders from lending more than the property is worth at the time the mortgage is issued, hindering developers’ access to financing.
Given this reasoning, LaSalle was awarded the lion’s share of the proceeds (over $300K) and the lien claimants shared the remaining $74K pro rata.
Fallout from the decision
The case made serious waves in both the legal and construction communities because its ruling differed from not only Illinois’ traditional interpretation of the law but also most other states’ lien laws. Generally speaking, unpaid subcontractors or suppliers are entitled to priority over anyone else who is owed money, even banks. Of course, lenders (such as the plaintiff in LaSalle) loved the new interpretation but many – including the unpaid concrete and construction firms who had filed millions of dollars in mechanics liens on the property – were furious over the change in law. As another blog notes, “This decision significantly benefitted lenders in determining its share of available proceeds, and, depending on the circumstances, significantly decreased the amount available for mechanics lien claimants.”
How the new law eliminates those limitations on second-tier mechanics lien priority
An amendment of an existing Illinois state law restores the priority mechanics lien claimants have over lenders. The new law, in fact, makes this priority crystal clear:
“No incumbrance [mortgage] upon land . . . shall operate upon the building erected, or materials furnished until a lien in favor of the persons having done work for furnished material . . . have been satisfied.”
In plain English, that means that unpaid subcontractors and suppliers get paid before anyone else, including banks. In the unfortunate case that the property must be sold to satisfy the creditors but that its value isn’t enough to pay all the parties who are still owed money, mechanics liens “shall have a paramount lien” as to the value of both the land and any improvements. This foremost lien priority is a huge benefit to second-tier mechanics lien claimants in Illinois.
Other changes in law
In Illinois, property owners who have mechanics liens placed on their property have a right to force the unpaid subcontractor to sue within 30 days of demanding such a lawsuit. This demand is commonly called “thirty-day notice.” If the lien claimant on whom notice is served does not file a lawsuit to foreclose on the lien within 30 days then that claimant forfeits any mechanics lien he or she placed on the owner’s property. Subcontractors and suppliers should take note of this provision; while the new law greatly expands the rights of mechanics lien claimants, it also does protect property owners in other ways as well.
Previously, however, this notice could have technically been buried in a letter sent to the subcontractor or supplier and printed in tiny font but still be legitimate under the law. The new law now requires that such notice be printed in at least 10-point font and in bold. Lien claimants should therefore always be on the lookout for the following text:
“Failure to respond to this notice within 30 days after receipt, as required by Section 34 of the Mechanics Lien Act, shall result in the forfeiture of the referenced lien.”
Upon demand, if the subcontractor fails to file its lawsuit within 30 days then it forfeits any mechanics lien it placed on the property. Upon demand, if the subcontractor fails to file its lawsuit within 30 days then it forfeits any mechanics lien it placed on the property.
Postscript: The Illinois Bankers Association
The Illinois Bankers Association, for obvious reasons, urged lawmakers not to pass the amendment. The Association even posted a video on Vimeo to make their case to the public.
It’s probably time to take that video down.