It’s now the law in New York. Construction contractors may be sued, for up to three years, for the unpaid wages and benefits of their subcontractors’ employees, including liquidated damages and attorney fees. That includes subcontractors of any tier, and the potential liability extends to misclassified “independent contractors” as well.

The Construction Wage Theft Law, new Labor Law §198-e, applies to most private prime contracts “entered into, renewed, modified or amended” after January 3, 2022.[1] Smaller residential projects are exempt. So is public work, for which payment bond requirements and prevailing wage laws already expose contractors to similar liabilities. Otherwise, anyone who is underpaid for work on a construction project, including an underpaid benefits fund, has three years from when the work was performed to sue the prime contractor. No prior notice to the contractor is required.

There are plenty of questions about how this law will be applied in practice, but that’s a discussion for another day. The question addressed here is, what can a contractor do to protect itself against that liability?

The Legislature’s “Solution”
The new law is intended to create “an incentive for the construction industry to better self-police itself” against “wage theft,” thereby reducing the burden on public agencies of doing so. To “help” in that effort, the new law gives contractors two important tools. First, it authorizes contractors to demand that their subs (at any tier), provide “certified payroll records” that “contain sufficient information to apprise the contractor of such subcontractor’s payment status in paying wages and benefits” on the project. In addition, contractors may demand:

The names of all the sub’s workers and independent contractors on the project;
The name, address, phone number and contact person for all sub-subcontractors;
The anticipated start date and duration for the sub’s work; and
Any local unions with whom the sub is signatory.

All this may, and should, be demanded whether provided for in the subcontract or not. Second, the contractor may withhold payment from any subcontractor at any tier who fails to “timely” furnish the requested documentation.

Obviously these tools have value to a contractor trying to manage its newly created liability. But they have little value unless a contractor, in effect, sets up its own internal wage investigation process. Certified payrolls are nice but often inaccurate or incomplete. So a contractor’s superintendent should now take care to include all subcontractor employees and independent contractors, along with the hours that they worked, in her daily reports. Each pay period someone should check subcontractor certified payrolls against those daily reports and against any applicable wage rate schedules. Even if those figures match, someone should periodically interview subcontractor employees and union benefit funds to confirm that wage and benefit payments are current and correct. Finally, someone should confirm that each sub has sufficient documentation in its file to justify paying its independent contractors as “1099 payees” rather than as employees.
(https://adamsleclair.law/blog/subcontractor-or-employee-misclassification-under-the-construction-industry-fair-play-act/.)

Not only must this be done for every subcontractor payment application, but the investigation must be completed within twelve business days to comply with New York’s Prompt Payment Act. Otherwise, the right to withhold payment may be lost until the next payment cycle.

Other Options
There is no opportunity for entirely eliminating the financial risk this law creates. As noted, certified payrolls, lien releases and sworn assurances of compliance by your subs aren’t always reliable. Signed releases from the employees themselves are not enforceable. While a union can theoretically release its members’ claims in a collective bargaining agreement, such a CBA, even if obtainable, wouldn’t apply to workers who are not members of that particular union local.

May a contractor withhold retainage from its subs until the risk expires? Some public owners have been known to hold one or two percent of the contract price for a year or two, to secure performance of warranty obligations. Why not specify a similar hold-back for three years from the last day of work to secure wage payment obligations? Unfortunately, the practice is almost certainly illegal, since laws governing private (and public) work limit the amount of retainage that a contractor may withhold, and require that retainage payments received from a project owner be promptly passed along to subcontractors.

What about making payroll payments directly to subcontractor employees, by joint check or otherwise? The problem is that such a practice can make the contractor a joint employer, with all the liabilities that status entails, including responsibility for state and federal withholding taxes. Those risks are multiplied if you advance or joint-check payrolls for an MBE or WBE subcontractor, whose special status could thereby become jeopardized. There is far less risk, however, in making joint check payments to a benefit fund covering a subcontractor’s employees.

Theoretically, the risk of “wage theft” by a subcontractor can be insured against by purchasing Subcontractor Default Insurance (“SDI”). These policies insure a contractor against a subcontractor’s failure to fulfill a material term of its subcontract, which, with proper drafting, would include failure to fully and properly pay employees and applicable benefit funds. The availability of SDI coverage depends on the insured contractor’s adherence to an approved “Qualification Procedure” for the subs it uses. The real limitation of such insurance is its cost, which usually, along with high premiums, comes with high deductibles and co-pays.

A similar option is to require some kind of security guaranteeing that your subcontractors’ workers will be properly paid. Subcontractor payment and performance bonds can be effective, provided that this cost doesn’t price your sub, and you, out of a job. Of course some subcontractors may not be able to obtain bonding at any price, whether for financial, experiential or historical reasons. Furthermore, some contractors report difficulty in collecting from sureties on the bonds, short of costly and time-consuming litigation.

Alternatively, a contractor can demand some other security, such as a letter of credit or personal guarantees. A properly drafted bank letter of credit gives complete security, but is probably impractical for all but the largest subcontracts. Personal guarantees from a subcontractor’s owners is a more reasonable ask, and a much cheaper one. It also gives the subcontractor’s owners a personal stake in making sure employees are properly paid and properly classified. Material suppliers have been requiring personal guarantees for years as part of their credit application process. It may be time for prime contractors to do the same with their subs. But ultimately a guarantee is only as good as the financial strength of the guarantor.

Ultimately, the best protection against liability for subcontractor wage underpayments under the Construction Wage Theft Law is to subcontract only with businesses you know and can trust to pay their people properly. Obviously, though, that strategy disadvantages newer companies (or companies that are new to you); and it may be impossible to implement on out-of-town projects, or those with MBE, WBE or other disadvantaged business enterprise requirements. When dealing with unknown subcontractors the very least one should do is vet them through a uniform and non-discriminatory pre-qualification program (developed with assistance of counsel to assure consistency with M/W/DBE requirements).

Conclusion
There is no perfect solution to the problem created for contractors by the Construction Wage Theft Law. Different approaches will make sense in different circumstances. But at a minimum, prudent contractors will (1) take a more active role in policing their subs’ compliance with wage laws and (2) develop and employ a rigorous pre-qualification program for anyone they have not customarily done business with.

[1] Only prime contractors are exposed. Project owners and subcontractors are off the hook, unless they fail to properly pay their own employees.

Anthony J. Adams, Jr. is a founding partner with the law firm
of Adams Leclair LLP. His practice focuses on commercial
litigation and all aspects of construction law, including public
contracts, private contract negotiation, claims, labor relations,
risk management and other general business matters.

Tony can be reached at aadams@adamsleclair.law