Summer Associate, Dalila E. A. Haden, contributed to this blog.        

In early June, the first Commercial Property Assessed Clean Energy (“C-PACE”) transaction closed in New York City, courtesy of C-PACE financing provided by Petros PACE.  In connection with a larger $500 million dollar acquisition and construction financing deal involving a 1.2 million square-foot office building in the Wall Street area, Petros PACE provided $89 million dollars of C-PACE financing for the transaction.  According to Petros PACE, the C-PACE funds will be used to make the building more energy efficient.

With New York City’s first C-PACE financing deal in the books, more eligible building owners should begin taking advantage of the City’s C-PACE financing program,[1] especially as the carbon emissions requirements set forth in Local Law 97 begin to take effect.[2] To avoid facing hefty penalties, eligible building owners should consider C-PACE financing to implement energy efficient technologies in order to be in compliance with Local Law 97 and the Climate Mobilization Act. New York City’s PACE Program is sponsored by the Mayor’s Office of Sustainability and administered by the New York City Energy Efficiency Corporation, in collaboration with the New York City Department of Finance.

The recent Petros PACE transaction will hopefully be the start of a bright future for the usage of C-PACE financing in New York City.  As traditional lenders continue to get more comfortable with C-PACE financing programs and eligible property owners seek out this financing, New York will undoubtedly become a more sustainable and energy efficient city.


[1] For more information on C-PACE financing, please take a look at one of our previous blogs: https://www.csrealconblog.com/2020/08/articles/real-estate/finance/commercial-property-owners-new-financing-available-for-existing-and-new-energy-cap-ex-projects/

[2] For more information on Local Law 97 and the Climate Mobilization Act, please take a look at one of our previous blogs: https://www.csrealconblog.com/2019/12/articles/construction/new-york-city-building-owners-what-does-greennewdeal4ny-mean-for-you/

The State of New York is poised to pass wage theft legislation that could have a major impact on the construction industry across the state. Among other things, it would impose greater liability risk on prime contractors and reporting requirements on subcontractors.

The bill, S2766-C, adds a new section to NY Labor Law § 198.  The bill has already passed the State Senate and Assembly and is set to be signed by Governor Cuomo. It extends full and complete liability to the prime contractor or construction manager on a project for any non-payment of wages by any subcontractors. The prime contractor or construction manager remain responsible for unpaid wages all for subcontractors, no matter how far down the chain of subcontractors the failure to pay occurs.

Under the proposed law, a worker who claims wage theft – or another party acting on their behalf, such as a union or even the attorney general acting on its own accord – can seek payment from both its employer and the prime contractor on the project. Liability does not, however, extend to any intermediate subcontractors, construction managers which do not hold the trade subcontracts, or to project owners.  The prime contractor and direct employer under the bill would be jointly and severally liable for damages.

The prime contractor’s liability cannot be waived except through a collective bargaining agreement. The prime contractor can seek indemnification and reimbursement from the subcontractor which failed to pay full wages, though in many instances we expect the ability to obtain this recovery will be limited, at best.

The legislation would also amend General Business Law § 756 to provide that, even without specific contractual provisions, subcontractors performing work on a project submit up the chain employee names and contact information as well as wage and benefit details. Ultimately, the prime contractor must be able to determine how much would be owed to the worker and their identifying information to confirm that full wages and benefits are paid. The law also expressly makes the failure to provide this information justification for withholding of payments to any subcontractor of any tier.

The law would provide deeper pockets for workers seeking compensation for non-payment of wages and benefits but imposes an increased risk and administrative expense to prime contractors and heightened reporting costs to trade contractors. It also provides a benefit to trade unions in that a waiver of this liability can only occur pursuant to a collective bargaining agreement, and union contractors already engage in reporting requirements regarding wage and benefit details.

We anticipate this new law will increase costs for non-union construction projects due to the added reporting requirements and risk imposed on the construction managers or prime contractors.

The Biden tax reform proposals target many tax benefits associated with real estate investing.   If adopted, the ability to do tax free like kind exchanges may be eliminated and the maximum long term capital gains rates on sale may rise from 20% to 43.4% (marginal rate of 39.6% plus NIIT of 3.8%).   Also, the ability to step-up the tax basis of assets at death may be eliminated.  If all or any portion of this new tax landscape is adopted, investing in qualified opportunity zone funds (“QOFs”) may become of greater value and should be explored by all real estate investors.

Taxpayers facing higher taxes on capital gains can defer taxation of those gains until 2026 if they timely invest those gains into a QOF.   If that investment is made before the end of this year, ten percent of that gain would be forgiven.  While that still leaves 90% of the gain to be taxed in 2026, the QOF offers the ability to avoid paying any tax on a sale of the interest in the QOF or its underlying investments after holding it for at least ten years.  Unlike LKEs, elimination of gain does not require finding a suitable replacement property and the need to invest all the sales proceeds to acquire that property.  The cash from sale can be used for any purpose.

Use of leverage by a QOF substantially magnifies the tax savings.  If investors contribute $2M to a QOF that incurs $8M of debt to buy and improve the real estate, and that $10M investment grows in value by only six percent per year then after 10 years, the real estate will be worth more than $17.9M.  On sale, the $7.9M economic gain will not be taxed.  Each year, depreciation deductions can be taken to shelter from taxation rental income from the property.  While those deductions reduce the tax basis of the property and increase the taxable gain realized on sale, none of that added depreciation recapture income is taxed on sale after holding the investment for 10 years.  If a taxpayer passes away before ten years, their heirs can step into their shoes and eliminate tax on a sale ten years or more after the investment was made.

Some investors may believe that a QOF must be structured as a traditional investment fund created by an investment manager and others who may charge fees that can reduce their economic yield.  However, a QOF includes any partnership formed between two or more investors to invest in an opportunity zone.  Two investors or a family group can pool their resources to invest in an opportunity zone as long as they have competent advisers who can ensure they comply with the technical qualification requirements that apply throughout the life of the fund.

Some investors may believe that investments can only be made in economically blighted areas where the chance for economic reward from operations and sale may be remote.   However, there are more than 8,760 opportunity zones around the nation, and many have already started the transition to highly promising and profitable sites.

Some investors may think the technical requirements for operating a QOF can become overwhelming.  However, in principle, a fund that buys existing real estate must improve it by investing cash greater than the purchase price of the building over a 30-month period, which gives them time to complete their project.  The QOF will usually form a subsidiary partnership to acquire the real estate and construct the improvements to allow it to retain cash for working capital, but the added burden of having a second partnership and an added tax filing is usually manageable with the right set of tax accountants.

Some investors may fear that opportunity zone benefits may also be scrapped by Congress.   However, no proposal has yet been made to eliminate them.  While some criticism has been leveled as to whether the QOF program is producing as much new jobs as expected, the program’s focus on aiding communities in need makes the chance of elimination seem small especially compared to other more visible targets such as LKEs and capital gain preferential taxation.

The bottom line is that the closer we get to tax reform becoming a reality, the more prices may climb in opportunity zones.  As a result, now is the time to start considering investing in a QOF, whether formed by an investment manager or a small group of investors.

The typical arrangement on most construction projects is that the property owner or developer engages the services of a general contractor or construction manager, which in turn subcontracts the work out to the various trades pursuant to a number of subcontracts.  Under this standard arrangement, subcontractors seeking payment for their work are generally limited to recovering funds from the general contractor or construction manager, as that is the party they contracted with.  Generally, under such an arrangement, there is no basis for an unpaid subcontractor to sue the property owner or developer for nonpayment because there is no contract between them.  (The obvious exception is a mechanic’s lien foreclosure action, where unpaid subcontractors, among others, can directly pursue a claim against the real property at issue, even where they do not have a contract with the owner.)

Can an unpaid subcontractor nevertheless sue an owner or developer on a “quasi-contract” theory of unjust enrichment or quantum meruit, to recover funds due on a construction project?  The answer is also generally “no,” as reaffirmed by a recent decision of Justice Melissa Crane of the New York County Supreme Court in the case of G&Y Maintenance Corp. v. 540 W. 48th St. Corp., 2021 NY Slip Op 31206(U).  New York law in this area holds that a property owner who contracts with a general contractor does not become liable to a subcontractor on a “quasi-contract” theory unless it expressly consents to pay for the subcontractor’s work.  Further, an owner’s acceptance of the subcontractor’s work also does not create a payment obligation.

In G&Y Maintenance Corp., an HVAC subcontractor entered into an oral subcontract with a general contractor, and alleged that it was owed funds due under the contract and on a change order.  The subcontractor filed suit against the owner asserting claims of unjust enrichment and quantum meruit.  Justice Crane dismissed the subcontractor’s claims against the owner, because the subcontractor had not entered into a contract with the owner, and also because the owner had not “assumed an obligation” to pay for the subcontractor’s work.

The subcontractor also argued that, because its contract with the general contractor was only oral, and not written, it should be permitted to pursue payment directly from the owner.  Justice Crane also rejected this argument, concluding that the owner could not be held liable to the subcontractor that had contracted only with the general contractor, simply because the subcontractor did not have an “express” contract with the general contractor.

The decision in G&Y Maintenance Corp. confirms the basic principle that an owner is generally not liable to a subcontractor with which it has not entered into a contract (except in cases seeking foreclosure of a mechanic’s lien).  By the same token, however, the decision is a reminder that an owner may potentially be held responsible for payments to subcontractors if the owner undertakes conduct reflecting an assumption of such payment obligations – such as directing subcontractors and making payments directly to them so that that the subcontractor is “working for” the owner itself, or terminating the general contractor and assuming direct owner oversight of subcontractors.

 

As discussed in our recent post, New York Lien Law § 19(6) provides a procedure for an expedited legal action seeking summary discharge (cancellation) of a mechanic’s lien.  However, summary discharge is only available where there is a “facial defect” in a lien, such as identifying the wrong property owner or failing to properly describe the property against which a lien is claimed.  Otherwise, all challenges to a lien generally must be brought in the context of a lien foreclosure action.  This includes, for example, a challenge to the amount of a lien, even if that amount appears clearly excessive.

As practitioners and construction industry professionals are well aware, a mechanic’s lien on a commercial property must be filed within eight (8) months of the last time the lienor provided labor or materials on the project.  (The time to file is shortened to four (4) months on qualifying residential projects.)  In this regard, the New York Lien Law requires that a notice of lien clearly state the last date that the lienor provided work or materials on the project.  A lien that is filed late is invalid.

Can a property owner (or other party challenging a lien) use Lien Law § 19(6) to obtain summary discharge of a mechanic’s lien that it knows was filed more than eight months after the lienor’s last date of work?

The answer is no, as illustrated in a recent decision from the New York County Supreme Court.  Pizzarotti, LLC v. Gravity Construction Corp., 2021 NY Slip Op 30179(U) (Jan. 19, 2021).

In that case, a construction manager filed a petition under Lien Law § 19(6), seeking cancellation of seven subcontractor’s liens.  The construction manager’s petition argued that the last dates of work specified in the mechanic’s liens were fabricated, and that the lienor (a masonry subcontractor) had not performed any work on the project for more than eight months.

Specifically, the liens stated that the subcontractor last worked on the project on April 27, 2020.  However, according to the construction manager’s petition, the work site had been ordered closed by Governor Cuomo in March 2020 due to the Covid-19 pandemic and remained closed through April 27.  In addition, the petition stated that the subcontractor’s last payment application was submitted in July 2019.  The construction manager’s petition argued that it was therefore impossible that the subcontractor was working on the project on April 27, 2020, and that the liens were filed late.

The Court denied the construction manager’s petition and declined to cancel the subcontractor’s mechanic’s liens.  The Court concluded that, because the liens identified dates of last work that were less than eight months prior to the date the liens were filed, the liens were “facially valid” and could not be summarily discharged under Lien Law § 19(6).  Specifically, the liens were filed on November 17, 2020 and stated that the subcontractor last worked on the project on April 27, 2020, less than seven months before the liens were filed.  (By contrast, if the liens had identified a date of last work that was more than eight months prior to the date of lien filing, the liens would be deemed “facially invalid” and subject to summary cancellation.)

While it may be surprising that an untimely lien cannot always be summarily cancelled, the timeliness of a lien can still be challenged in the context of a plenary lien foreclosure action.  In a lien foreclosure action, the Court is permitted to receive and consider a wide range of evidence that is not permissible in an expedited action under Lien Law § 19(6).  For example, in a foreclosure action, the construction manager in this case will be permitted to submit evidence in support of its argument that the subcontractor did not perform work within the eight month period preceding the filing, such as work records and requisitions.