Annual Survey of Fidelity and Surety Law, 2000.

• Author: May, Ronald A.
• Position: Part 1

This roundup of recent cases covers public and private construction bonds, fidelity and financial institution bonds, and sureties' remedies

1. PUBLIC CONSTRUCTION BONDS

   1. Bonds under Federal Laws

      1. Jurisdiction

         Contracts Dispute Act divests federal district courts of jurisdiction over contract claims against U.S. Postal Service.

         In S&G Excavating v. Seaboard Surety Co.,(1) a subcontractor on a contract with the U.S. Postal Service filed suit to foreclose a lien under the Miller Act. It appeared that the plaintiff had failed to comply with the notice requirements of the Miller Act, so its claim was dismissed. The Postal Service argued that the Contract Disputes Act (CDA), 41 U.S.C. [sections] 609 et seq., provided exclusive jurisdiction of claims against it in the Court of Claims. The plaintiff, on the other hand, argued that the Postal Reorganization Act of 1970, 39 U.S.C. [sections] 101 et seq., exposed the Postal Service to suit notwithstanding the CDA.

         A federal district court in Indiana went along with the Postal Service argument, saying that Congress had consciously balanced the cost and benefits of allowing subcontractors to sue the government under the CDA and that to allow a claim under these circumstances would frustrate the aims of Congress.

      2. Procedural

         Remedial work does not toll the Miller Act's statute of limitations.

         After completing its work on the heating, ventilating and air conditioning systems for a Department of Commerce facility, the claimant subcontractor was required to replace certain heaters and have them tested. One year after the last test on the heaters, the subcontractor filed suit under the Miller Act.

         In Interstate Mechanical Contractors v. International Fidelity Insurance Co.,(2) the Sixth Circuit affirmed a district court finding that the suit was not timely in that it was not filed within one year after the last labor or material was furnished. The court pointed out that the words "labor" and "material" were not self-evident, but it agreed with a majority of courts interpreting the Miller Act that warranty work after final inspection does not come within the act's meaning of labor and materials.

         The plaintiff had argued that if it had not performed the testing after the work was completed it would have breached its contractual obligations, but the court refused to equate "labor" with "contractual duties." Neither was the court impressed with the fact that the corrective work was not caused by the contractor's own error but by the error of a third party.

         The Sixth Circuit panel's majority opinion is well written and accompanied by an equally well-written dissenting opinion. Both deserve careful study.

         Separate invoices from supplier did not constitute separate contracts, and suit within one year from last shipment was timely as to all shipments.

         In a contract for electrical services at a naval facility in Puerto Rico, the plaintiff has furnished electrical services to the general contractor and enclosed separate invoices on each delivery. When it was unpaid, it filed suit under the Miller Act. The general contractor and its surety argued that the claim was not timely except as to the last invoice.

         The First Circuit affirmed a judgment by the district court in Puerto Rico that this was not a series of separate and independent contracts, as alleged by the defendants, so that the timely claim as to the last shipment was sufficient. It went on to award attorney fees pursuant to terms and conditions of the invoices. G.E. Supply v. C&G Enterprises.(3)

         Previous state court action against principal constituted notice sufficient to comply with Miller Act's 90-day notice requirement.

         One of the requirements of the Miller Act is that if a person has dealt exclusively with a subcontractor and has no direct contractual relationship with the prime contractor, he must give written notice of his claim to the prime contractor within 90 days from the date on which the subcontractor performed the last work or furnished the last materials.

         In N.E.W. Interstate Concrete v. EUI Corp.,(4) a sub-subcontractor supplied concrete to a subcontractor on a postal service facility in Indiana. It later filed a state court action against the subcontractor and the prime contractor. Still later, the same plaintiff filed a Miller Act claim in federal court, and the defendants contended they had not received the 90-day notice required by the Miller Act. The federal district court in Indiana found that the service of process in the state court action was sufficient notice to the prime contractor to comply with the Miller Act.

         Contract with forum selection clause waived the venue requirements of the Miller Act

         The decision in Giannola Masonry Company v. P.J. Dick,(5) is complicated somewhat by arising in a federal court action to compel arbitration. The parties agreed early on that the agreement was subject to arbitration, so that this aspect of the litigation became moot. The contract sued on included a forum selection clause designating either state or federal courts in Allegheny County, Pennsylvania. Under the Miller Act, the action would have been appropriate in Michigan. The district court in Michigan found that the plaintiff had waived its Miller Act venue requirement and accordingly ordered that the action be transferred to the Western District of Pennsylvania.

      3. Substantive

         Separate state court judgment against prime contractor was not entitled to full faith and credit against sureties and later Miller Act action.

         In PCC Construction v. Star Insurance Co.,(6) the plaintiff subcontractor sued in both state and federal courts to enforce its claim. The original suit against the prime contractor resulted in a default judgment against the prime. In the meantime, it appeared that there was some question as to the name of the surety appearing on the bond, and a different surety was added to the Miller Act claim. The plaintiff sought to have the state court judgment against the prime contract be given full faith and credit against the sureties, notwithstanding that they had not been named in the state court action or informed of the default against the principal.

         The federal district court for New Jersey disagreed, following New Jersey law that holds that a surety not given the opportunity to defend a default judgment rendered against the contractor is not bound by that judgment. It went on to deny the plaintiff's motion for summary judgment as to a defense asserted by the sureties that the plaintiff and the prime contractor were engaged in a joint venture.

         Subcontractor plaintiff may assert bad faith claims against surety in Miller Act suit.

         In another New Jersey Miller Act case, the plaintiff asserted a standard Miller Act claim but also set forth a state law claim that the surety had engaged in bad faith conduct entitling it to damages on that account. The project was one to replace water lines at Fort Dix, New Jersey. The plaintiff was a subcontractor on the project and claimed that the surety owed an independent duty to beneficiaries of its bond, which made it liable for tortious bad faith conduct in breaching that duty.

         The federal court, in Don Siegel Construction v. Atul Construction,(7) found that the New Jersey Supreme Court had not yet considered whether a surety could be liable for bad faith, and it went on to state that the relationship between an obligee and a surety, while not identical to that between an insured and an insurer, was "closely analogous." The court acknowledged that other courts had refused to recognize such a cause of action, since imposing a duty to act in good faith toward an obligee could conceivably run counter to the surety's existing duty to the principal, but it found that reasoning unpersuasive. It stated that the duty to exercise good faith in responding to the claim of an obligee is not a "particularly onerous one." The surety would be found to have breached that duty only if no valid reasons existed to delay processing a claim and the surety knew or recklessly disregarded the fact that no valid reason supported the delay. Liability for bad faith would not be imposed in cases of simple negligence.

         Thus, the surety would be free to investigate the validity of the claims and any potential defenses to them without running afoul of its duty to act with good faith toward the obligee. After reviewing the allegations in the complaint, the court refused to grant the defendant a summary judgment on the merits.

   2. State and Local Bonds

      1. Substantive

      Supplier to subcontractor cannot recover under prime contractor's bond where it had no contract with prime and it failed to comply with notice requirements of bond.

      The plaintiff in this case was a sub-subcontractor on a construction project at the University of Michigan in Dearborn. Bonds provided by the prime contractor stated that the prime and its surety would be liable only to parties who contracted directly with the prime. The plaintiffs sought to recover either under the terms of the bond itself or under the requirements of the Michigan bonding statute.

      The Michigan Supreme Court refused to find liability against the surety under the bond itself, since the bond required a contractual relationship between the claimant and the principal. The court refused to enforce the terms of the statutory bond because the claimant had not given the required notice. W.T. Andrew Co. v. Mid-State Surety Corp.(8)

      ERISA does not pre-empt claim against surety under state statute requiring subcontractors to bond payment for health plans.

      In Carpenters Local Union v. United States Fidelity & Guaranty Co.,(9) a federal district court ruled that the plaintiff's action to enforce claims under a labor and materials bond for wages and fringe benefit contributions was pre-empted by the Employee Retirement Income Security Act of 1974, 29 U.S.C. [sections] 1001-1461. In doing so, it relied on a decision by the First Circuit.

      On appeal, the...