New Jersey has interesting and fairly unique mechanics lien laws. This mostly pertains to the convoluted process required for New Jersey residential liens. However, the state also uses a “lien fund” which can create some confusion. After a recent decision, a little more complexity was added to the scheme. When demolition work is to be paid by salvaged materials, the exposure to lien liability may be increased.
Be Careful With How Payment is Made on New Jersey Demolition Projects
First, let’s briefly dive into how New Jersey’s lien fund works. Then we’ll take a quick look at a recent case to see how it affects the calculation of lien funds on New Jersey demolition projects.
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New Jersey’s Lien Fund
New Jersey puts a limitation on mechanics liens that many other states do not. In New Jersey, mechanics liens may only attach to the owner’s property in the amount of the “lien fund.” This amount is established by the total amount owed and unpaid from the owner to the general contractor.
When payments are made, the lien fund is reduced by the amount of the payment. It’s almost like a built-in lien waiver for New Jersey owners. Partial lien waivers exchanged for payments made also reduce the amount of an owner’s exposure to lien claims.
However, there are exceptions. The lien fund will not be reduced by payments when they are:
- Payments not in accordance with the contract
- payments made that have yet to be earned
- liquidated damages
- collusive payments
- use of retainage to pay for certain other uses
- certain setoffs or backcharges
In NRG REMA LLC v. Creative Environmental Solutions Corp., a demolition contractor paid the property owner $250k to secure a job. In exchange for that $250k, the owner agreed to let the contractor salvage the building’s materials and equipment (valued at over $2M).
However, that $2M in salvaged materials immediately became the property of the contractor – the contract did not continuously or incrementally transfer the materials. As you’ll recall from the above sections, prepayment can create headaches in calculating the lien fund.
When $800k in lien claims popped up on the project, the property owner argued that the lien fund was $0 since the owner didn’t owe the prime contractor any money under their contract. However, recall that prepaid amounts do not reduce the amount of the lien fund. Plus, “payment” in this case was made in materials, not dollars. Because this contract was “paid” (via transfer of the salvageable materials) prior to being earned, the lien fund was never reduced by payments made.
Check out JD Supra‘s in-depth breakdown of the case.
New Jersey’s use of a lien fund makes logical sense. By utilizing a “lien fund,” the state attempts to limit an owner’s liability to amounts owed but yet unpaid. However, when payments are made via salvaged equipment/material, owners and contractors should be sure to understand the effects on the lien fund.
If the “payment” (material) is transferred when the contract is signed, an owner will open themselves up to unwarranted mechanics lien exposure. In this case, the owner had absolutely nothing to do with the failure to pay the lien claimants, and the New Jersey statutory scheme attempts to protect owners in such a situation. Had the contract been more carefully crafted, the nonpaying contractor, not the owner, would have faced the brunt of payment claims – just as the New Jersey lien statute intended.