New years always bring new laws. Effective January 1, 2018, California has made general contractors jointly liable for the unpaid wages, fringe benefits, and other benefit payments of a subcontractor. Nasir and Matt discuss who the new law applies to and how this affects all tiers in the general contractor-subcontractor relationship. Click here to learn more from "Can My Business Be Sued for Something an Independent Contractor Did?"
My name is Nasir Pasha.
MATT: And I’m Matt Staub.
We’re two attorneys here with Pasha Law, practicing in California, Texas, New York, and Illinois.
NASIR: And this is our podcast, Legally Sound Smart Business, where we cover business in the news with our legal twist.
Today, we have a zinger.
MATT: Well, it’s always, you know, we’ve been doing this a few years now – three or four years.
NASIR: Like, 1,300 years or so.
MATT: Before podcasts were even around. Well, if you look at when the patents were filed.
But my point being that, at the beginning of every year, we always have new laws that we talk about and – I don’t know – you tell me. It seems like kind of an off year. There wasn’t a lot of new laws that were that interesting or fun.
NASIR: Yeah, that’s true.
MATT: Maybe I’m just not looking at the right spots.
NASIR: I mean, California, of course, always has new employment laws every single year, so it almost goes without saying. But, you’re right, this year, it was a little bit more tame. I mean, there was some minimum wage increases and things like that, and we may cover some of the other issues in other episodes. But, you’re right, it’s kind of an off year maybe.
MATT: Makes our job easier, I suppose. But, yeah, let’s talk about, like you mentioned, in California, there’s always some new laws in place. Let’s talk about one in particular. I think this is pretty interesting even though there’s been some cases in the past where this new law has, I mean, I guess it was partially created from those cases.
But what we’re talking about is the relationship between a general contractor or the prime contractor and subcontractors, specifically the subcontractors of the subcontractor, if that makes sense. Maybe you have a better way of putting it.
NASIR: They call it “tiers” so I guess it would be the second tier. But, of course, this new law applies to all tiers below the subcontractor.
MATT: So, basically, what this is saying – and this is the big change here is for the general contractor in this situation – essentially, this new law which is kind of filed in the Labor Code now here in California is that direct contractors are liable for the debts of subcontractors at any tier owed to wage claimants.
Basically, I think the easiest example is, a subcontractor is not paying their employees or subcontractors. They’re now the general contractor. So, the top is going to be responsible – basically, jointly liable – for all the decisions that these subcontractors make in terms of payment of wages, infringement if it’s other benefits, things of that nature.
So, pretty big increase in responsibility for general contractors.
NASIR: Yeah, absolutely. I mean, this is definitely a change in practice, but I do have to say, it was always a hit-and-risk. I’m sorry, when we’re talking about general contracting, of course, we’re talking about construction. We’re not talking about just contracting in general. We’re not talking about outsourcing when we’re saying subcontracting. So, it is in the industry of labor and of housing and buildings and construction of that nature, so we understand what we’re talking about here.
But, even in most construction contracts, the standard ones, even the ones that are custom-made by attorneys or what-have-you, they’ll often have provisions which will say something to the effect of the general contractor will be requiring the subcontractor to pay to be responsible for and to pay all the wages for those employees. It’s kind of an obvious thing.
It’s like, “Okay, I’m contracting you out. You’re responsible for your expenses and I’m responsible for mine. You’re responsible for that.” But the reason this is an issue is because, around the country, including California, there have been many arguments where employees aren’t being paid by the contractor. And so, they skip a level to the general contractor and try to administer their claims against the GC. In some cases, they actually have been successful – usually very narrow exceptions to this. Basically, what this law has done is taken away these narrow exceptions and just made it very blanketly wide.
MATT: Right. We’ve obviously worked with clients on the commercial side of this. But, I mean, I’m sure it’s same for you. I’ve also had my experience and my own personal level with some residential contractors. All – well, I shouldn’t say “all” – almost all of these arrangements are set up the same way. You have the general contractor, you know, does the bidding, gets the project, and then they subcontract everything out.
Well, now, like you were saying, this GC, not only do they have to basically manage the project, now they have to have oversight over all of these workers which, anyone who’s been in it firsthand can definitely attest to the fact that there’s so many moving parts in any of these projects that it’s so difficult for the GCs to even monitor and supervise everything, let alone off-sight and how these subcontractors are handling payment of wages and all that. I guess, if the ultimate client or the owner isn’t paying things on time and, you know, it becomes an issue, too, and it trickles down, it really just causes problems all around.
I mean you know, we keep talking about this, but it really is going to be a heightened burden for GCs because, now, instead of having to trouble themselves with looking over things just on the actual site, it goes off the site now and they have to pay attention to that.
NASIR: And there’s always been this pressure on GCs to make sure their subcontractors are paid. There’s plenty of laws about it. There’s a lot of contractual provisions that cover this. You know, this is the nature of the industry. It’s all about cashflow and figuring that out, and subcontractors go unpaid for a while and that’s frankly just not uncommon.
It goes in tandem with how construction loans work, how GCs make to make draws to pay those off, or even the homeowner, and all these different factors that are involved has kind of created this environment where everything is putting it on the GC. Depending upon the nature, I mean, some of these GCs are really passive in how involved they are in the project. In fact, it’s not uncommon for a company that has the prime contract which would be considered the GC to hire basically another GC to actually do the work. They’re just getting that cut off the top.
And so, that’s when you have these multiple, multiple layers that can really get complicated. And so, if you ever have a problem – whether it’s a construction defect or what-have-you – there ends up being tons and tons of defendants just because of how many different entities are actually involved in one particular project.
Of course, anyone familiar with the construction industry, they’re familiar with this. But one thing that I think is not commonly known is this aspect of how GCs have been held responsible in the past and I think it will help us give an idea why California has now expanded this.
So, there have been two instances where this has happened. One is where the wage earner that hasn’t been unpaid – and this can happen if the subcontractor goes out of business or what-have-you or doesn’t get paid – is they’ll somehow be able to prove that there’s some kind of joint employer relationship that, really, they’re employed under the subcontractor, but they’re also employed by the GC. And so, then it’s a matter of applying the factors in that particular federal or state standard as to what a joint employer relationship is. So, that’s one.
The second is not dissimilar from one, but more specific to California. If the subcontractor is unlicensed, basically, the courts have said, basically, that means that since, you know, you can’t operate without a license, that you’re the employee of the general contractor. And so, something similar to a joint employer relationship. In that case, also, the GC has been found to be liable for those unpaid wages.
MATT: Right. Let me touch on some of the details on this, and then we can get into, well, we’ll figure out if it affects you as a business owner, then we can talk about how to approach it.
So, just to cover here, we’re talking about construction – broadly speaking, construction contracts or I think was it work improvement is how it’s technically described. It only applies to contracts that have entered into after, basically, it’s starting in 2018. So, it doesn’t apply retroactively.
It deals with performing private work – nothing for the state or city or something like that – in the state of California and it’s a one-year statute limitation. So, there’s one year to have one of these claims brought up.
So, let’s say you’re one of the individuals who don’t have their wages paid up on time, this new law doesn’t give them the right to then file suit against the general contractor. The law gives the Labor Commissioner and the Joint Labor Management Corporation Committee to bring an action in civil court against the GC.
NASIR: I think that’s a very important distinction. I think it is, if they really wanted to open up the floodgates of the liability of the GCs, then they would allow some kind of private action. But, by going through that Labor Commissioner step or that kind of middleman, what it does is it kind of slows everything down and really only gives rise to things that are a little bit of egregious so that you’re not getting onesies and twosies. You’re getting instances where there might be some real abuse in this area. That is definitely a significant difference than if there was a private action.
MATT: Yeah. I’m sure it’s not going to be 100 percent, but I think that’s probably a good way they’ve implemented this rule. Basically, the Labor Commissioner can kind of filter out some claims that might be more frivolous. Again, it’s not going to give 100 percent success rate to these people that weren’t paid their wages, but I think that’s a good funnel to have.
So, let’s talk about what GCs can do – or even subcontractors because I think this applies to both – what they can do to adjust to this new law.
MATT: Let’s start how they probably should have set things up before. If you’re the GC, what you probably had – well, let me preface it by saying, having seen – not with our clients, of course – but having seen some of these in action, I don’t think there’s always a lot of agreements in place or contracts in place between GCs and subs, but let’s assume that there is or there was. In the past, what they probably had was an indemnification clause in there favoring the GC, basically, if there’s any claim, one of which being these wage claims by the different tiers of the sub, then the subcontractor is the one that’s responsible for that.
Now, what we have in place is this new law that makes the GCs jointly responsible. So, what can they do now? What language can they insert in their contracts to put them in the best position, basically? Because they can’t flat out eliminate it.
NASIR: Yeah, because indemnification provisions which Matt was referring to, it’s decent if the subcontractor has money.
NASIR: If they’re not paying their employees and, in a very extreme circumstance, they’re going out of business or whatever and the employees have to go somewhere, so they have to find somebody with money. And so, that indemnification clause is kind of worthless if, all of a sudden, there’s three or four months’ worth of wage claims.
And so, there is this concept and suggestion that, you know, you need to put in provisions that allow you to have some transparency as to what is being paid to workers. So, I mean, there’s different things. You can get payroll records. You can get a little bit more transparency or a little more requirements. For example, you can have your payment to them be required to have them show you certain records or you can have certain percentage holdback. I mean, there’s different things like that.
But, I think, from my perspective, I mean, you have to know who you’re working with and the trust level because anything you put in these agreements and transparencies, there’s always a lot of ways to hide. It’s not like you’re going to roll their payroll for them, right?
MATT: That was my suggestion.
NASIR: I mean, I even thought about that, but how practical is that, right? Because, obviously, the subcontractor has multiple jobs. You’re not the only person that they’re working for.
MATT: Yeah, I think you’re exactly right. It’s more the adjustment that needs to be made is the GC is just enhanced monitoring of the subs in the sense, how we spoke about before of the actual work being performed but talking about the back-office stuff and that’s the change that needs to be made for GCs.
Now, you know, one thing I was thinking about, too, after we mentioned it earlier, was this doesn’t give the parties that aren’t being paid these workers, it doesn’t give them a claim against the GCs – at least in the law. But what about the situation where one of these individuals claims they’re a statutory employee instead of tiered down independent contractor, I guess, in that sense, they could still have a claim possibly against the GC, wouldn’t you think?
NASIR: Yeah, I didn’t see anything in the code that eliminates that kind of claim. It’s a good point.
If they’re able to prove that they’re a statutory employee from some other independent legal argument, then I think that definitely is a possibility.
Another thing I thought of, too – and this might already be in many agreements – especially when you have multiple subcontractors or multiple tiers, you’ll want to make sure that whatever’s in the prime contract is flown through to the subcontractors. And so, the same way, whatever you have between the GC and the subcontractor, you should also require the subcontractor to flow those provisions down through to multiple tiers. You know, there’s different things. You know, having an approval process for any subcontractors – second tier or third tier – that they use, things of that nature. If you’re monitoring payroll for one subcontractor, that means you need a monitor for the sub-subs or the second, third, et cetera, tiers. You can see how this can be, for a small project, pretty burdensome. But, of course, a smaller project will have a lesser of a liability.
MATT: Here’s a question that I’m going to ask you and you tell me what you think.
Do you think this new law is going to need to more contractors between the GCs and the subs? Less? Or the same amount?
I have my own thoughts on it, but I wanted to see what your take was.
NASIR: Well, my instinct is that, in general, it’s such a highly regulated industry already yet it’s still pretty loosey-goosey in some ways as well that it’s going to take years for there to be any kind of adjustments, if any. So, I would say, you know, no change.
MATT: Well, it obviously depends on the project, too. If we’re talking about these companies that are building these huge high-rises, they have some stuff in place. But, if we’re talking about residential work where I’m doing a kitchen remodel and I’m going to bring in my electrical guy and my cabinet person and all that… I think you’re right.
Honestly, I wouldn’t be surprised if many people that work in this area even know about this new law. I guess the GCs especially, but all parties.
NASIR: Yeah. In fact, I know for a fact some of our contacts are necessarily familiar with it. They may have heard something somewhere, but where it actually affects them, I think that’s left open.
NASIR: So, yeah, I think that’s it. I think we covered that pretty nicely.
MATT: Yeah, definitely. This works nicely with our EB5 podcast. If you combine the two, you can really strengthen up your construction law rules.
NASIR: That’s true. Nice reoccurring theme there.
NASIR: All right. Well, thanks for joining us.
MATT: Yeah, keep it sound and keep it smart!