What can a contractor do to get security in a falling market when the owner runs out of cash?  Why, take a mortgage out on the land, you say.  Not so fast, said a  recent court decision.  Jumping the queue may not get you far.

FACTS

A trade contractor secured a mortgage against the developer’s property for monies owed and to be owed for construction of a water system for a townhouse project.  When the project went bust, and the trade contractor, who was owed over $200,000.00, sought to foreclose out four lien claimants, they fought back.  They claimed that the mortgage was illegal and unenforceable.

FINDING

Normally, funds owing under a mortgage rank in priority over lien claims to the extent the mortgage money was advanced before the liens were filed.  But in this case the Court took a serious look at the Builders Lien Act.  Specifically, section 42(1), which reads: “A conveyance, mortgage or charge of or on land given for the purpose of granting a lien holder a preference or priority is void for that purpose.”  The trade contractor argued that there was no evidence the mortgage was for the “purpose ... [of getting] ... priority.”  The Court found that there was no need to prove intent.  The mere filing of a mortgage by a “lien holder” (defined as “a person entitled to a lien” – which the trade contractor was) would result in a priority or preference.  Interestingly, while the trade contractor’s mortgage (and claim for interest) did not succeed, the Court allowed him to rank proportionately with the lien claimants even though he apparently hadn’t filed a lien.   It may have been argued that a failure to file a lien actually put him at the end of the line!

LESSONS LEARNED

In a falling market, great care needs to be taken before extending credit (by doing work to be paid later) to owners.  Three questions should be asked.  First, is the owner’s promise to pay something you can take to the bank?   Second, is there equity in the land?  Third, are there alternative ways to secure payment when it becomes due?  There are creative and workable ways to get paid or secured, but as the case described above shows, they must be set up carefully and correctly.  The worst situation is realizing too late that you have contributed labour and material for free.

This article was written by Robert G. Kuhn, a lawyer who practises in construction law at the law firm of Kuhn & Company, 320 - 900 Howe Street, Vancouver, BC V6Z 2M4. Tel: 604.682.8868. Toll-free: 888.704.8877. This article is only intended as a guide and cannot cover every situation. It is important to get legal advice for specific situations. If you have questions or comments about this case or other construction law matters, plase contact us or email <bkuhn@kuhnco.net>.