By:  S. Kato Crews

December 9, 2013

Colorado's Mechanics' Lien Statute (C.R.S. § 38-22-101 et seq.) affords construction contractors and suppliers some measure of protection against non-payment for their materials and labor on a construction project.  It allows them to encumber property with a lien for the value of their services that remain unpaid.  The Mechanics' Lien Statute contains very specific requirements that a construction professional must follow to a "T" when attempting to encumber property with a mechanics' lien—thus, the process of recording a lien and completing the necessary paperwork should not be taken lightly.  Moreover, it is important for construction and supply companies to understand when their corporate officers may risk personal liability under the Mechanics' Lien Statute.  Colorado courts have held that certain corporate officers may be personally liable when their company fails to disburse construction funds to subcontractors and suppliers, but are not personally liable if their company is found to have recorded a lien with an inflated dollar amount.  The latter is the result of a recent appellate court decision.

Liability for Failing to Disburse Funds to Subcontractors and Suppliers

The Mechanics' Lien Statute imposes a trust on the funds disbursed to a contractor for payment to subcontractors and suppliers.  C.R.S. § 38-22-127.  This provision of the law, known as the "Trust Fund Statute," requires that "[a]ll funds disbursed to any contractor…under any building, construction, or remodeling contract or on any construction project shall be held in trust for the payment of the subcontractors, laborer or material suppliers… ."

The usual case in which the Trust Fund Statute becomes an issue is when an owner, or lender disbursing construction loan funds, pays a general contractor pursuant to a pay application or draw request that includes amounts for services provided by subcontractors and suppliers.  Rather than paying its subcontractors and suppliers with those funds, however, the general contractor uses those funds to satisfy other of its financial obligations or to pay subcontractors and suppliers on other projects.  This inevitably leads to the recording of mechanics' liens by the unpaid subcontractors and suppliers.

In this situation, Colorado courts have held that corporate officers who control the general contractor's financial decisions are charged with knowing the obligation of a contractor to hold the payments it receives on a project in trust for payment to subcontractors and suppliers.  When the general contractor diverts those "trust funds" to other obligations, the corporate officer who controls the company's finances can be held personally liable for breach of trust to the unpaid subcontractors and suppliers, or to the property owner or bank that paid the general contractor.  This is because the courts interpret the Trust Fund Statute as imposing a fiduciary duty on the corporate officer who controls the company's finances to appropriately disburse construction funds consistent with the obligations under the Trust Fund Statute.

Liability for Recording an Excessive Lien

In a recent decision from the Colorado Court of Appeals, residential homeowners attempted to hold a general contractor's corporate officer personally liable for the homeowners' costs and attorney fees incurred in establishing that the general contractor recorded an excessive lien.  The Mechanics' Lien Statute provides that "[a]ny person who files a lien…for an amount greater than is due without a reasonable possibility that said amount claimed is due and with the knowledge that said amount claimed is greater than that amount then due…shall forfeit all rights to such lien plus such person shall be liable…in an amount equal to the costs and all attorney's fees."  C.R.S. § 38-22-128 (the "Excessive Lien Statute") (emphasis added).

The homeowners argued that the Excessive Lien Statute imposed liability on a corporate officer similar to the liability of a corporate officer under the Trust Fund Statute.  But the appellate court disagreed.  It concluded that a corporate officer's obligations under the two laws differed—the Trust Fund Statute imposes a fiduciary duty on a corporate officer who controls the company's finances, but there is no similar duty that arises under the Excessive Lien Statute.  Additionally, the court reasoned that the Trust Fund Statute contains no language limiting liability solely to the corporation that receives construction funds.  By contrast, the Excessive Lien Statute specifically limits liability to the "person who files a lien," which the court concluded is the corporation and not a corporate officer individually.

Because of its many technical requirements and other provisions which may expand a contractor's liability, or the personal liability of corporate officers, Colorado's Mechanics' Lien Statute is a potential minefield for the unwary.  It is imperative that construction professionals review and understand its various provisions in order to get the most out of the statute as a vehicle for securing payment for the work they perform.