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Punitive Damages in a Construction Case? Really?

07/5/2017 | By: Randy J. Heller, Esq. | GDB 2017 Summer Newsletter
Creditors dream of getting punitive damages from the party which owes it money. The reality is not so accommodating.  The general rule is that punitive damages are not recoverable in a commercial breach of contract case.

But a recent Supreme Court New York County decision turned a creditor’s dream into a contractor’s nightmare. The court sent a warning shot to the industry that as with all general rules, specific circumstances can alter the outcome.

Punitive damages are not intended to address a private wrong unless the public interest is involved. For punitive damages to be recoverable, there needs to be some malice, or intentional misconduct or illegal act as reflects a reckless indifference to the rights of others.

So it was with some surprise that a recent case awarded punitive damages to a concrete subcontractor which sued to collect money owed to it by a general contractor (“GC”) on a construction project. The unusual setting of the case perhaps explains the result.

The subcontractor sued not only for breach of contract, but also for violations of the trust fund provisions of the Lien Law. Article 3-A of the Lien Law provides that funds received by a GC must be held in trust for its subcontractors and must not be diverted to any other purpose until all subcontractors have been paid in full.

A not-so-well-known feature of Article 3-A is that a violation of the trust fund provisions is also a criminal offense (a larceny) for which both the corporation and its officers personally are punishable under the Penal Law.

As it happens, the GC’s counsel was given permission by the court to withdraw from the case. When the GC subsequently failed to appear at a status conference, the court held it in default—setting in motion a series of calamitous results.

First, the court held that “a defaulting defendant is deemed to have admitted all the allegations in the complaint.” That meant that the GC was deemed to owe to the subcontractor everything it sought in the complaint, plus interest at 9% per year.

Next, the court held that the GC was deemed to have admitted that it violated the trust fund provisions of the Lien Law, which was potentially a criminal offense.  While not every trust fund violation is punished criminally (some “criminal culpability” is required to elevate it from a mere civil violation), the court found that the “high threshold of moral culpability” could be found in the GC’s default and its failure to offer any excuse for its conduct. This, the court concluded, reflected an admission of an intentional violation.

Accordingly, the court awarded punitive damages of $50,000 to the subcontractor. While this perfect storm of facts will not present itself every day, it is a fair warning to contractors everywhere of the consequences of taking lightly the trust fund provisions of the Lien Law (and the need to show up in court when summoned).