Government Contracts Monitor
The Perils of Claims by Sureties against the United States
September 9, 2011
The United States Court of Appeals for the Federal Circuit recently ruled on a variety of legal issues in Lumbermens Mutual Casualty Co. v. United States, Nos. 2010-5086, -5087 (Fed. Cir. Aug. 3, 2011) involving a Miller Act surety’s claims against the United States. The Federal Circuit’s ruling highlights (i) the need to comply with Contract Disputes Act requirements; (ii) the limited waiver of sovereign immunity under the Tucker Act; and (iii) the perils of suretyship on federal construction projects.
In Lumbermens, a construction company had contracted to repair and renovate military housing on a Navy base. The construction company purchased a performance and a payment bond from Lumbermens, a surety. Subsequently, the Navy expanded the scope of the contract to include renovation to additional housing units. In July 2001, the construction company became unable to complete its work on the project due to financial problems and abandoned the construction site. Prior to abandoning the site, the construction company had completed only 12% of the housing units, but the Navy, in apparent disregard of contract provisions and applicable FAR clauses, had overpaid the construction company in a total amount of approximately 40% of the contract price. The Navy default terminated the construction company in August 2001.
After the construction company’s default termination, the Navy exercised its right as a third party beneficiary under the performance bond and demanded that Lumbermens complete the repair and renovation project. Lumbermens and a new construction company entered into a “takeover agreement” and a “completion contract” with the Navy in November 2001. The new construction company completed its repair and renovation work late, subjecting Lumbermens to over $1 million in liquidated damages. Lumbermens then sued the United States under the Tucker Act in the U.S. Court of Federal Claims under theories of equitable subrogation and impairment of suretyship / pro tanto discharge. Lumbermens prevailed in the trial court. The United States appealed, claiming the Court of Federal Claims lacked jurisdiction to hear Lumbermens’ claims. The Federal Circuit reversed and ruled in favor of the United States on three separate grounds.
First, the Federal Circuit held that Lumbermens’ equitable subrogation claim must be dismissed because the Navy overpaid before either Lumbermens or the original contractor notified the Navy that payments should be withheld or diverted because there was an impending default. “Equitable subrogation can be used to recover improper payments to a principal obligor only if made after the obligee received notice of the principal obligor’s default.” Lumbermens, slip op. at *12. Here, all of the alleged overpayments were made before notice was given. Hence, according to the Federal Circuit, this claim was properly denied.
Second, the Federal Circuit concluded that an “impairment of suretyship / pro tanto discharge claim is based on a non-contractual state law cause of action, or at most an implied-in-law contract theory.” Lumbermens, slip op. at 21. As such, the claim is outside the narrow jurisdiction conferred on the Court of Federal Claims by the Tucker Act and the court lacked jurisdiction to hear such a claim. On a more practical note, the Federal Circuit stated: “if a surety concludes that the government has improperly impaired its collateral, the surety has the right to withhold payment on the bond, to the extent the surety has been prejudiced, based on the defense of impairment of suretyship / pro tanto discharge. We simply hold that, once a surety makes overpayments on its bond obligation, it has no right to affirmatively recover against the United States.” Lumbermens, slip op. at 22.
Finally, the Federal Circuit held that a “takeover agreement” entered into by a surety and a follow-on construction company is a contract for “the procurement of construction, alteration, repair or maintenance of real property” covered by the Contract Disputes Act (41 U.S.C. § 602(a)(3)). Lumbermens, slip op at 24. Because the “takeover agreement” is a covered contract under the CDA, any claim against the United States arising from that contract must first exhaust CDA administrative remedies of presenting a certified claim to the contracting officer. In this case, the Court lacked jurisdiction to hear Lumbermens’ CDA claims arising from the “takeover agreement” because Lumbermens failed to submit a certified claim prior to filing suit in the Court of Federal Claims.
Michael Schrier is the attorney responsible for the content of this article.