Pennsylvania Superior Court Holds Unpaid Supplier’s Right to Contract Funds is Superior to Rights of Failed Contractor’s Secured Bank Creditor and Bankruptcy Estate – Owner’s Recovery of Attorneys’ Fees in Interpleader Disallowed

Trevdan Building Supply v. Toll Brothers, Inc.
2010 PA Super. 100, 996 A.2d 520 (May 28, 2010)

On May 28, 2010 the Pennsylvania Superior Court filed a ruling that is significant to project owners as well as subcontractors and suppliers. In Trevdan Building Supply v. Toll Brothers, Inc., the Court held that an unpaid supplier had an “equitable lien” on contract funds that the owner had interpleaded into Court; and that the contractor, its bankruptcy estate and its secured bank creditor did not have a cognizable interest in the contract funds because, under the terms of the construction contract, the contractor did not earn the funds until it had both performed the work and paid its suppliers. The Court considered the unpaid supplier’s rights to be so clear that the Court denied the owner’s statutory claim to be reimbursed its attorneys’ fees for filing the interpleader action, stating that the owner was guilty of “delay” and acted “unreasonably” by “ignoring” the supplier’s equitable claim and refusing “to exercise its undisputed contractual right to pay” the supplier (this despite two judges in the same case – the trial judge and a dissenting Superior Court judge – having decided the case differently).

Facts

Drywall contractor, Houston Drywall, Inc., entered into an agreement with project owner, Toll Brothers, which contained provisions (i) conditioning contractor’s right to receive payment on contractor’s having paid for all labor and materials supplied in connection with performance of the work, and (ii) giving owner the right to pay directly for labor and materials if contractor failed to do so, and/or to terminate the contract. Next, drywall contractor entered into an agreement with Trevdan Building Supply pursuant to which Trevdan would supply contractor with building materials for the project.

Drywall contractor financed its accounts receivable with a factor, Gulf Coast Bank, which purchased contractor’s unpaid invoices and filed a UCC-1 form to perfect a security interest under Article 9 of the Uniform Commercial Code in the accounts receivable. One year later, contractor ceased operations. Trevdan demanded payment in the amount of $128,653 from contractor and Toll Brothers; then Trevdan filed suit.

The next month, contractor filed a Chapter 7 bankruptcy petition and listed Trevdan as an unsecured creditor. Gulf Coast Bank obtained a bankruptcy court order lifting the automatic stay with respect to accounts receivable, and then the Bank sued Toll Brothers to collect. Toll Brothers filed an interpleader action naming Gulf Coast Bank and Trevdan as parties both claiming the fund. The trial court awarded most of the fund to Gulf Coast Bank and some of it to Toll Brothers in reimbursement of its attorneys’ fees for instituting the interpleader. Trevdan appealed. The PA Superior Court reversed, awarding the fund to Trevdan and denying any attorneys’ fees to Toll Brothers.

Discussion

Ample precedent exists for the PA Superior Court’s award of contract funds to the supplier, Trevdan, and exclusion of the contractor’s bankruptcy estate and secured bank creditor, because of the contract terms that (i) condition contractor’s right to be paid on its having paid its suppliers, and (ii) grant the owner the right to pay directly to unpaid suppliers upon contractor’s default. Pearlman v. Reliance Ins. Co., 371 U.S. 132 (1962); In re Modular Structures, Inc., 27 F.3d 72 (3d Cir. 1994); Jacobs v. Northeastern Corp., 416 Pa. 417, 206 A.2d 49 (1965); Williard, Inc. v. Powertherm Corp., 497 Pa. 628, 444 A.2d 93 (1982); and Himes v. Cameron County Const. Corp., 497 Pa. 637, 444 A.2d 98 (1982). Nevertheless, the trial court and a dissenting judge on the Superior Court distinguished Trevdan’s case from Pearlman and its progeny on the basis that (i) Trevdan supplied a private project and not a public works project having a surety, and (ii) the owner, Toll Brothers, did not have a contractual duty to pay unpaid suppliers, but only had a contractual right to pay them if the contractor failed to pay them. Therefore, the Trevdan decision may be viewed as an affirmation by the Pennsylvania Superior Court that in Pennsylvania, Pearlman rights apply in a private contractual setting without a surety, and that the owner need not have a contractual duty to pay unpaid suppliers, but rather a contractual right to pay them will suffice.

The Pennsylvania Superior Court decided the Pearlman issue correctly, but its discussion of the owner’s request for interpleader attorneys’ fees seemed unduly harsh. The Court stated that the unpaid supplier’s right to the contract fund was “undisputed” and, therefore, the owner was criticized as “unreasonable” for filing the interpleader. Pearlman rights date back to the landmark U.S. Supreme Court decision in 1962, but they are still not commonly-known among commercial law practitioners. In fact, the trial court and a dissenting judge of the Superior Court both found Pearlman to be inapplicable to Trevdan’s case. While one might hope that the entire commercial bench and bar would follow Pearlman and its progeny without question, nevertheless it seems that a more cautious and prudent approach for counsel to follow when faced with conflicting demands to a fund by an unpaid supplier, a secured bank and the bankruptcy estate would be to interplead the fund, rather than risk having to pay twice.

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