Tuesday, 20 February 2018

Supreme Court of Canada Releases Decision on Labour and Material Bonds

Author: Will Johnston

The Supreme Court of Canada released a decision last Thursday (Valard Construction Ltd. v. Bird Construction Company) which imposes a new obligation on an owner or general contractor of a construction project who requires a Labour and Material Payment Bond (“L&M bond”) to take reasonable steps to proactively inform claimants of the existence of the L&M bond. Failure to take reasonable steps exposes the “trustee” of the L&M bond to claims of breach of fiduciary duty and damages if an unpaid subcontractor or material supplier loses their rights to advance a bond claim because they do not know of the L&M bond’s existence. Prior to this decision, the trustees named in an L&M bond would only be liable if they failed to disclose the existence of the bond when asked.

L&M bonds are typically used on large construction projects, especially for public infrastructure projects, but they are only mandatory if required by contract. The person who requires the contractor below them to obtain an L&M bond will be named in the L&M bond as the “trustee”. The trustee will almost invariably be either the project owner or the general contractor. A typical L&M bond provided by a subcontractor to a general contractor, includes language that creates a trust:
"The Principal (subcontractor) and the Surety (bonding company), hereby jointly and severally agree with the Obligee (general contractor) as Trustee, that every Claimant (sub-subcontractor or material supplier) who has not been paid … within 90 days … may sue on this Bond" 

Their purpose is to reduce the risk of disruptions from issues such as lien claims, procurement disruptions and work stoppages which can occur when lower level suppliers and subcontractors are not paid. The Supreme Court recognized that the security provided by an L&M bond is beneficial to an owner or general contractor even though they do not receive payment from the L&M bond themselves. This non-monetary benefit to the owner or general contractor was the underlying reason to justify imposing a duty on them as trustees to take “reasonable steps” to inform potential claimants of the L&M bond’s existence.  

The Supreme Court expressly states that not every failure to proactively inform potential claimants of the L&M bond will result in liability. The trustee only needs to take “reasonable steps” to inform potential claimants meaning that the underlying circumstances must be considered before a court can conclude whether a breach of the duty to inform has occurred. In this case,  Bird Construction Ltd. could have met their obligation by posting a copy of the L&M bond in its on-site trailer where they held daily toolbox meetings. “This would have provided a significant portion of potential beneficiaries with notice of the bond’s existence. The cost of doing so would have been negligible to Bird …” (at para 28). Another factor that motivated the Supreme Court to hold Bird Construction Ltd. liable was evidence that an L&M bond for this particular type of project was uncommon. Because of this, the trustee (Bird) should have anticipated that potential claimants would not be aware of the L&M bond’s existence and, in the Supreme Court’s view, the reasonable steps taken by a trustee under the circumstances would include proactively posting the L&M bond in the worksite trailer.  

This decision creates a great deal of uncertainty for owners and general contractors named as trustees in L&M bonds. The dissenting judgment expresses concern that trustees have little to no guidance as to how they can meet their duty to inform bond claimants given the wide range of factual circumstances. For example, how will the court determine which projects commonly have L&M bonds and which projects do not? What duties to inform should a trustee have to material suppliers who will not receive notice of the L&M bond if it is posted at the worksite?

Until future cases considering a broader range of factual circumstances are decided, the magnitude of risk now facing owners and general contractors cannot be predicted. At this time we can only describe the two extremes of a continuum. At one extreme we know that failing to take any steps whatsoever to inform potential claimants that an L&M bond exists on a project will not be acceptable. Conversely, we know that this new duty does not require absolutely every potential bond claimant to be sought out and informed of the L&M bond.  The extent of a trustees duty to inform will now fall somewhere between these two ends of the spectrum. The extent of the obligation will depend on the unique circumstances of each project such as the options available to give notice and the costs of doing so.  Future cases will likely consider whether a trustee must make additional efforts, beyond basic steps such as posting the L&M bond onsite, if the trustee is aware that their bonded subcontractor is facing financial difficulties and some bond claimants could lose their security.

This post is a follow-up to an earlier Blog Post, "Labour and Material Bond Claimants May Gain Further Rights".