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Construction Alert

July 2004

New Reasons Why Potential Lien Claimants May Want to File A Notice of Unpaid Balance

By Adrienne L. Isacoff, Esq.

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wo recent cases shed light on the effect of filing a Notice of Unpaid Balance (“NUB”), a tool that is rarely used by claimants filing liens under the Construction Lien Lawi (“CLL”). The holdings in Schoonover Electric Co., Inc. v. Enron Corp and Garden State Paper Company, LLC, (“Schoonover Electric”)ii, and Sovereign Bank v. Silverline Holdings Corp., (“Sovereign Bank”)iii may provide added incentive for potential lien claimants to take this extra step to insure additional protection under the CLL.

The Requirements to File a NUB under the CLL

Under the predecessor to the CLL, the Mechanic’s Lien Law, lien claimants on all projects were required to first file a Notice of Intention. The CLL has a similar, but not identical provision - the NUB. The information contained in the NUB is essentially the same that is included in a lien claim, and it may be amended as more work is performed or if partial payment is made. Under the CLL, in the case of residential projects, a NUB must be filed with the clerk of the county where the work has been performed prior to filing a lien.iv The NUB is served on the owner and contractor and, simultaneously, the potential lien claimant must file a demand for arbitration with the American Arbitration Association. The arbitrator will then determine whether the NUB met the technical statutory requirements and, if so, the amount for which a lien may be filed. By contrast, with respect to commercial projects the CLL makes the filing of a NUB optional and, even if filed, service on the owner and/or contractor is not mandatory. As a result of this flexibility in the statute, few potential lien claimants on commercial projects avail themselves

• f this option. The recent case law on this issue

may cause potential claimaints to file NUBs even before payment problems emerge. The Schoonover Electric case turned on whether a construction lien on the property of a debtor in bankruptcy is enforceable against a bona fide purchaser of the property subject to the lien. Enron had filed a voluntary petition for bankruptcy on December 2, 2001 and Garden State had filed a petition on December 17, 2001. Schoonover filed three liens under the CLL on December 18, 2001 against Garden State’s assets. The issue before the Bankruptcy Court was whether the CLL would permit Schoonover to perfect its liens when another entity had acquired an interest in Garden State’s property prior to the date the liens were filed, under certain exceptions provided by the Bankruptcy Code.v In analyzing the case, the Bankruptcy Court emphasized that under Section

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10 of the CLL a lien claimant does not obtain an interest in the property until he or she has actually filed a lien, nor does the lien attach to an interest first recorded by a bona fide purchaser. The sole exception to the priorities established by Section 10 is found within Section 20 of the CLL. That Section provides that: A lien claim validly filed under this act shall have priority over any prior creation, conveyance, lease or mortgage

• f an estate or interest in real property,
• nly if the claimant has filed with the

county clerk prior to that creation, conveyance, lease or mortgage, a Notice

• f Unpaid Balance and Right to File

Lien. The Bankruptcy Court reiterated that Section 20(a) specifies that, in the event a NUB is filed, a subsequently filed lien claim will relate back to the filing of the NUB such that the lien claimant

• btains priority over intervening bona fide
• purchasers. If the NUB is not filed, there is no

relation back and the lien will not be effective against bona fide purchasers who acquire an interest in property prior to the filing of the lien claim.vi The Bankruptcy Court rejected Schoonover’s argument that its liens should relate back to date of commencement of its work, stating “[t]he mechanism for the filing of a NUB is required precisely because liens do not relate back to the commencement of the service period, but rather attach at the time of filing.”vii The effect of this ruling may lead contractors and suppliers to file NUBs in order to preserve their lien rights, especially if they have any concern that the owner of the property may file for bankruptcy. Only by filing the NUB will the potential lien claimant preserve its priority over subsequent purchasers of the property. The holding in Sovereign Bank gives further support for the proposition that potential lien claimants on commercial projects may want to exercise their option to file a NUB. Defendant Silverline, a developer, entered into a mortgage and construction loan agreement with Sovereign. The mortgage was recorded on February 4, 2000. A construction lien filed by a contractor against the property was recorded on October 26, 2001. Upon default of the loans from Sovereign by Silverline, the lender commenced a foreclosure action against Silverline, naming the contractor as a defendant as the result of its lien. It then moved for a determination that its mortgage had priority over the construction lien claim. The lien claimant took the position that, even if the mortgage was first recorded, Sovereign still had to demonstrate that the funds secured by the mortgage had been utilized for a statutorily specified purpose in order for it to maintain its priority position. The contractor argued that if the funds were misused, then the construction lienor assumed priority. The statutory provision upon which the lien claimant relied for this proposition is Section 22 of the CLL which provides, in relevant part, that “[e]very mortgage shall have priority …

• ver any lien which may be established by virtue of

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this act to the extent that the mortgage secures funds which have been applied to” various enumerated purposes, including the payment of:

• a. the payments of amounts due to any

claimants who have filed a NUB;

• b. the payment or the securing of payment
• f all or part of the purchase price of the

land covered thereby;

• c. the payment of any valid lien or

encumbrance which is, or can be established as, prior to a lien provided for by this act;

• d. the payment of any tax, assessment or
• ther State or municipal lien or charge

due or payable at the time of such payment; and several other applications. The lien claimant argued, in essence, that Section 22 should be interpreted to mean that every mortgage shall have priority over any lien which may be established by virtue of this act only to the extent that the mortgage secures funds which have been applied to the specified purposes. The Court noted that Section 10 and Section 22

• f the CLL must be read together. As discussed

above, Section 10 provides priority to all first-filed mortgages over subsequently filed construction liens unless a NUB has been filed pursuant to Section 20. Since the lien claimant had recorded its lien after Sovereign had recorded its mortgage and had not filed a NUB, Sovereign’s mortgage had automatic priority and Section 22 never came into play. The Court further noted that if a NUB is recorded prior to a mortgage, then, under Section 22, “[i]t is only when the construction loan proceeds are misused that the holder of a NUB or a holder of a first-filed construction lien would retain its priority.”viii The bottom line is that filing a NUB will not automatically give a lien claimant priority over a later-filed mortgage. However, it may provide such priority if the construction loan proceeds were

• misused. Without the NUB, the lien claimant

completely loses its chance to take priority.

Conclusion

The Schoonover Electric and Sovereign Bank cases make it clear that there are advantages to filing a NUB that are often overlooked by

• contractors. Too often, contractors and subs skip

the step of filing a NUB, wait until the owner or contractor has fallen behind in payment, and then scramble to file a lien before the 90-day period from the last work performed has expired. It is better practice to file a NUB early in the job. The NUB need not be served on the owner or contractor. Simply by recording it, the NUB will provide priority against bona fide purchasers in the event of the owner’s bankruptcy and, possibly, against subsequently filed mortgages. That simple step may make all the difference in successfully collecting on a valid claim.

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If you have any questions regarding this or any other construction law issue, please call Steven E. Brawer, Chair of the Construction Law Practice Group, at 973-597-2412 or sbrawer@lowenstein.com, or Adrienne L. Isacoff, Counsel to the Construction Law Practice Group, at 973.597.2596

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aisacoff@lowenstein.com.

i N.J.S.A. 2A:44A-1 et seq. ii In re Enron Corp., et al., No. 01-

16034,consolidated with Schoonover Electric Co., Inc. v. Enron Corp. and Garden State Paper Company, LLC, No. 02-02140 (Bankr. S.D.N.Y. 2003).

iii Sovereign Bank v. Silverline Holdings Corp.,

Superior Court of N.J., Appellate Division, A-3117-02T5 (decided March 23, 2004)

iv N.J.S.A. 2A:44A-20. v 11 U.S.C. Section 546(b). vi Schoonover at 13-14. vii Schoonover at 14. viii Sovereign Bank at 12.

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