Mechanic’s Liens and Discharge Bonds

Mechanic’s Liens and Discharge Bonds

We know mechanic’s liens can be bonded off, we’ve discussed it before. But it’s a topic that can be quite confusing, especially when each state treats the bonds a bit differently. I recently read an article from Surety Bond Quarterly, that I found not only entertaining, but quite educational on the perks and perils of a lien discharge bond – let’s dig in!

“Mechanics’ Lien Discharge Bonds — The Substitutes of the Surety World”

In this article, written by attorneys Mike F. Pipkin and Jacob L. McBride (collectively “authors”), authors compare a lien discharge bond to a substitute teacher.

First, let’s take a moment to relive “substitute days.” Most, if not all, of us know what it was like to have a substitute teacher in school.

Walking into class to see your regular teacher has been replaced by a new face often triggered a mini-party in your head, because it meant a break from the routine, a decreased likelihood of a test, an increased likelihood of the AV club wheeling in a projector (I may be showing my age), and if you were a procrastinator, it may have given you a little extra time to finish the homework from the night before.

OK, so how is a discharge bond like a substitute teacher? According to authors, “Mechanics’ lien discharge bonds… substitute for a previously filed mechanics’ or materialman’s lien, providing relief to owners and contractors alike from the onerous procedures, rules, and remedies that such liens carry with them. They may provide added time to negotiate a settlement by substituting their own statutes of limitations. While mechanics’ lien discharge bonds are not without their risks, they offer a satisfying alternative in that owners and other stakeholders can insulate their property interests from foreclosure, while contractors have a simpler alternative to recovery than foreclosure.”

Two substitute teacher & discharge bond commonalties that jump out? Both may provide relief/reduce pressure and they may provide additional time.

There’s Always a Risk of One Kid Spoiling It for the Group

You know the kid – the one who saw the line drawn in the sand and crushed it with rude comments, long trips to the bathroom and picking on other kids. The kid that put the whole class at risk of having “quiet time” or forcing the substitute to turn off the movie.

Just as there were risks in school, there are risks with discharge bonds. Specifically, according to authors, why a discharge bond was issued to begin with. It’s important to understand, a payment bond and a discharge bond are not the same.

Unlike a typical payment bond, issued to protect against potential future circumstances, a lien discharge bond is born out of an existing dispute over nonpayment that resulted in a lien being filed on real property. In other words, a surety executing a lien discharge bond steps into a situation where the principal is already not paying the obligee(s).”

In other words, the discharge bond is issued because there is already a payment problem. Because they are issued based on a “known” issue, the scope of the discharge bond can be limited. Authors remind us the discharge bond is frequently issued for an amount that totals the value of filed mechanic’s liens, which means it is “[U]nlike a typical payment bond with its broad scope… the scope of a lien discharge bond is limited to specific, identified lien claimants with specific, limited lien values…”

The Savvy Substitute Reigns Supreme

As a kid, I remember the different feeling between seeing a new substitute versus a seasoned veteran. A seasoned veteran knew the rules, enforced the rules, and provided a bit of relief from schooling but we knew better than to push our luck. What’s the discharge bond equivalent? Rules still apply, deadlines must be met, and statute must be complied with — from authors:

“Like the wise substitute teacher who learns and enforces the class rules, the surety can assert the defenses of its principal. Because a lien discharge bond provides substitute security for the lien, most states require a claimant to have complied with the requirements of the lien statute to make a claim on the bond. The lien discharge surety can defend against a claim by identifying any defects in the lien claim, such as failure to meet standing requirements, failure to provide proper notice, and failure to perfect the lien claim, among others. The surety may also use any substantive defenses it has available to the validity of a claim as well as applicable affirmative defenses, such as statute of limitations and waiver.”

Be aware of & follow statute carefully. Earlier this year we reviewed a case in New York where the claimant failed to follow lien statute when its lien was discharged by a bond, and lost its rights.

As a best practice in liens & in school: assume the substitute has the same authority and follow the rules, otherwise, there will be consequences.

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