Wednesday, September 28, 2011

Liens and waiver and release of liens.

The simple definition of a lien is a financial claim against the ownership. For example, if you purchase a house and take out a mortgage, the mortgage company will place lien against the property in the amount of the mortgage. If you purchase a vehicle that you finance through a
Bank they will place a lien against the ownership title to ensure that they are protected. You can’t sell it and provide the Buyer with clean title as you have liens against it. You must satisfy those liens before they will provide an appropriate release so you have clean title.

There are other types of liens that the laws may provide. For example,in construction subcontractors and material suppliers do not have a direct relationship with the buyer.In many jurisdictions laws will allow them to protect themselves by being able to place a lien against the property where that the subcontract work or materials were used. These are commonly referred to as Mechanics and Materialman’s Liens.

As a Buyer, if you contracted with a supplier to perform the work and the supplier failed to pay the subcontractor or material suppliers, you could wind up paying twice. The first payment is the one paid to the supplier who didn’t pay the subcontractors and material suppliers. The second payment is what you would need to pay those subcontractors and material suppliers to release their liens so you have a clear title to the property.

There are two ways that you can mange against this risk. One way would be to require the supplier to provide you with a Payment Bond that would be issued by an insurance company (surety) that would provide a form of guarantee of payment. If the supplier failed to pay, you could make a claim against the surety for payment. Bonds add cost and the ability of a supplier to purchase a payment bond or purchase one without a performance bond may be limited.

The other approach that minimizes the risk is to require a waiver and release of liens from the subcontractors. The way this works is as follows:
For every invoice the supplier submits you require them to provide the list of subcontractors and material supplier portions of the invoice and the amounts applicable.
For the first invoice you would pay the supplier the amount of the invoice.
As a pre-condition of your paying the second invoice you require the supplier to provide you with a signed waiver and release of liens showing that the payment that was initially invoiced on their behalf has been paid.
The second invoice could be invoiced and scheduled for payment according to the agreed payment terms, but the actual payment would not be released unless the supplier provided all the needed waiver and release forms. The same would occur for each subsequent invoice.

Each waiver and release of liens reduces the potential amount of any lien those subcontractors and material suppliers could have. It limits the potential exposure of liens to only one month’s worth of payments to those subcontractors and material suppliers. The supplier can’t skip paying a subcontractor and getting the waiver and release as that means they won’t get paid. Where this also helps is if the supplier were in default of the agreement and you needed to complete the work. Since you wouldn’t have overpaid them more than the work was worth, you would have what’s left and any retainage available to complete the work.

Want to learn more? The companion book "Negotiating Procurement Contracts - The Knowledge to Negotiate" is now available on