U.S. District Court in New York Holds That Completing Surety Could Assert Claims Against Other Project Participants Responsible For Costs of Remediation Work Which Had to Be Addressed to Complete Its Principal’s Work

Liberty Mutual Insurance Company v. N. Picco & Sons Contracting Co., Inc.
2008 U.S. Dist. LEXIS 4915 (S.D.N.Y. Jan. 16, 2008)

The United States District Court for the Southern District of New York (“SDNY”) recently had to decide whether a surety was entitled to assert subrogation rights against other project participants when the surety completed the construction work abandoned by the general contractor and performed remediation work. The SDNY determined that the surety did not voluntarily undertake the remediation work and, therefore, was entitled to assert subrogation rights.

In 2000, the Board of Education of the Bronxville Schools (the “Board”) began to renovate its schools (the “Project”). The architectural firm of Rhinebeck Architecture & Planning, P.C. (the “Architect”) was hired by the Board to perform both architectural and engineering services. The Board then hired Turner Construction Co. (“Turner”) to serve as the Owner’s Representative/Project Administrator. The Board also entered into a series of agreements with co-prime contractors for plumbing, roofing, mechanical work and electrical work (the “Co-Primes”) and one prime contractor, N. Picco & Sons (“Picco”), for general construction work. As part of its contract, Picco purchased a surety bond (the “Bond”) from Liberty Mutual (“Liberty”) pursuant to a written agreement.

During the course of the Project, the Board declared Picco in default of its contract and called upon Liberty to complete the job pursuant to the Bond. As a result, Liberty and the Board entered into a takeover agreement under which Liberty was to complete the Project and the Board was to pay the remaining Picco contract balance to Liberty. Liberty completed the work plus performed water damage remediation work, claiming that such remediation work was not within the scope of its work, but was nevertheless required to complete the Project. The Board paid Liberty only a portion of the sums due under the takeover agreement. Liberty claimed that the Board did not pay the full amount due and failed to reimburse Liberty for the remediation work.

Due to the Board’s failure to pay, Liberty sued the Board for the unpaid amount. Liberty also sued the Architect, Turner, and the Co-Primes for breach of contract and negligence in connection with the water infiltration remediation work claiming that each party failed to prevent the water infiltration. In pursuit of claims against those parties, Liberty claimed that it was subrogated to the rights of the Board as the surety. Before the SDNY were the motions to dismiss of Turner, the Architect and the Co-Primes.

The primary issue the SDNY addressed was whether Liberty, as the surety to Picco, could sue the other parties for breach of contract and negligence. The court set forth the general legal principle that a surety which responds to the default of its principal, here Picco, is entitled to sue others because it is subrogated to claims that the defaulting principal, Picco, or the obligee, the Board, might have against others for alleged wrongful conduct causing the default. The court noted that the principle is akin to the insurance context. Consequently, the court held that Liberty could pursue claims to the extent that Picco or the Board had valid claims against the Architect, Turner and the Co-Primes. To establish such claims, the court opined that Liberty would need to prove that (1) it paid the Board for its loss or fulfilled the requirements of the performance bond, and (2) it undertook payment or the work under some obligation running from Liberty to the Board or Picco. Because there was no dispute as to the remediation work performed by Liberty, the remaining issue was whether Liberty performed such work voluntarily as opposed to under a contractual obligation.

In evaluating the question of volunteerism, the court noted that if the remediation work was not part of the obligation of Liberty and it nevertheless undertook the remediation work, Liberty would not be allowed to claim rights of subrogation. The court concluded that Liberty had to undertake the remediation work in the process of completing the Project because if it had not done so, the Project would have been unsafe and uninhabitable due to the water infiltration. Therefore, because Liberty was protecting all the parties’ interests in undertaking the remediation work and avoided additional costs in the long run because of such work, the court held that Liberty was not a volunteer and was entitled to claim rights of subrogation. Notably, the court also indicated that to hold otherwise would lay the path for others in the future to ignore defects and not undertake remedial work for fear of not being reimbursed for or being able to pursue claims against others for such work.

The next issue examined by the Court was whether the Co-Primes, Turner or the Architect had obligations to prevent water infiltration and in turn, whether Liberty could maintain claims of breach of contract and/or negligence against those parties. With regard to Turner, because there was a valid arbitration agreement between Turner and the Board and as subrogee, Liberty stood in the shoes of the Board, Liberty was required to arbitrate the claims against Turner. Thus, the Court concluded that because Liberty consented to be bound by the terms of the construction agreement by way of the takeover agreement, Liberty was required to arbitrate against Turner and the claims were dismissed as against Turner in favor of arbitration.

With regard to the contract claim against the Architect, because the Architect did not invoke an applicable arbitration clause, the Court indicated that it was able to consider whether valid claims existed against it. Under its agreement with the Board, the Architect was required to “endeavor to guard the Owner against defects and deficiencies in the Work.” Liberty claimed that the Architect failed to take steps beyond simple letter writing to guard against defects and to report problems to the Board. The Architect argued that it did not have control of the acts or omissions of the other Project participants and had fulfilled its obligations by sending multiple letters regarding the possibility of water infiltration. The Court concluded that providing notification to Turner of the issues, especially in light of the clause removing the Architect from responsibility for construction means and methods, was sufficient to satisfy the Architect’s duties to “observe and report” problems to the Board and to “endeavor to guard the Owner against defects and deficiencies in the Work.” Consequently, summary judgment was granted and the breach of contract claim against the Architect was dismissed.

With regard to the negligence claim against the Architect, the court noted that an owner may pursue claims in contract or tort against an architect with whom it has a contract so long as the owner alleges a legal duty separate from that required in the contract. The court concluded that Liberty established a prima facie claim for tort because it alleged that the Architect had failed to fulfill its common law duty to exercise reasonable case and skill in performing the contract. Thus, the negligence claim was not dismissed.

With regard to the claims against the Co-Primes, the court found that Liberty did not allege that the Co-Primes improperly completed their work required to maintain a breach of contract nor allege a breach of a duty separate from contractual obligations necessary to maintain a negligence claim. The court opined that to allow Liberty to maintain a claim against the Co-Primes for failing to prevent infiltration would create precedent that contractors could become liable for something over which they had no control. The Court declined to set such a precedent and dismissed all claims against the Co-Primes.

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