Notice To The Government For Tucker Act Jurisdiction
May 9, 2023
In this Surety Today blog post we will continue our discussion from last week on the topic of Tucker Act Jurisdiction and the notice that is required to trigger that jurisdiction under the surety’s equitable right of subrogation. In last week’s blog post we discussed sovereign immunity, the Tucker Act itself, and how a surety can acquire jurisdiction under the Act. We concluded the post by noting that “there is an important limitation on the assertion of the surety’s right of equitable subrogation under the Tucker Act – the surety must provide notice of its rights to the government.” In this blog post we will explore the notice concept and some common issues/questions that may arise.
Is A Potential, Probable or Imminent Default Sufficient
One issue that arises with respect to the notice is whether a surety’s notice must refer to an actual existing default (i.e., one which has already transpired) or whether the notice can merely inform the Government that a default is probable or imminent. Some of the cases appear to require that the surety provide notice that the contractor “has defaulted” already, e.g., Balboa, 775 F.2d at 1162, other cases seem to waver on the distinction between an actual or potential default, e.g., Fireman’s Fund, 909 F.2d at 498, while still others state that notice of a mere “danger” of default can be sufficient, e.g., American Fidelity, 513 F.2d at 1380.
In Ins. Co. of W. v. United States, 83 Fed.Cl. 535, 541 (2008) the Court analyzed and discussed the issue in-depth and concluded that notice of potential default is sufficient. The ICW court cited to Hartford Fire Insurance Co. v. United States, wherein the court stated that the Government’s equitable “duty to exercise reasonable discretion in administering contract funds” arises when “the surety notifies the government that the contractor has defaulted or is in danger of defaulting under the bond.” 40 Fed.Cl. 520, 522–23 (1998) (emphasis added), aff’d, 185 F.3d 885 (Fed.Cir.1999) (Table opinion). In Capitol Indemnity Corp. v. United States, the court phrased the notice requirement as: “a payment bond surety must notify the government that the contractor is or is close to being in default,” and later that “the surety must explicitly notify the government of the default or threatened default.” 71 Fed.Cl. 98, 102–03 (2006) (emphasis added). In Ransom v. United States (“Ransom I”), 17 Cl.Ct. 263, 267–68 (1989) the court observed that “[T]he surety can attempt to recover progress payments or the final payment when it notifies the Government that its principal is in default, or is about to go into default.”
Is Notice By Unpaid Subs and Suppliers to the Government Sufficient
Does the government’s knowledge of unpaid subcontractors and suppliers or even notice from unpaid subcontractors and suppliers directly suffice to satisfy the surety’s obligation to provide notice? In the recent Capitol Indemnity case the Government was aware of and actually informed the surety that it would be receiving Payment Bond claims from the principal’s unpaid subcontractors. Capitol Indem. Corp. v. United States, 162 Fed. Cl. 388, 399 (2022). The surety argued that such knowledge satisfied the notice requirement. The Court stated that it “need not beat around the bush” on this alleged ground for equitable subrogation and said knowledge of a contractor’s failure to make subcontractor payments alone does not constitute adequate notice to establish a claim for equitable subrogation. Capitol Indem. Corp., 147 Fed. Cl. at 380. In Fireman’s Fund Insurance Co. v. United States, 909 F.2d 495 (Fed. Cir. 1990) a contractor had been failing to pay its subcontractors and suppliers for several months, leading the subcontractors and suppliers themselves to complain to the contracting officer. Id. at 496. During this time, however, the contracting officer still issued several payments to the contractor. It was not until after the contractor actually abandoned the contract that the surety sent a letter notifying the contracting officer of the default. Id. In its suit against the Government, the surety argued that the contracting officer should not have disbursed the payments to the contractor during the period of time the contractor had not been paying the subcontractors and suppliers. Id. at 497. The court said “the government as obligee owes no equitable duty to a surety like Fireman’s Fund unless the surety notifies the government that the principal has defaulted under the bond.” Id. at 498. The court continued “[w]e see no reason to impose on the government a duty toward the surety whenever a subcontractor or supplier complains of late or nonpayment by the contractor. Only the contract should limit the government’s flexibility in resolving payment disputes so minor, and perhaps so inevitable, that the surety itself doesn’t consider the contractor’s role in them a potential default under the bond. Only when the surety may be called upon to perform, that is, only when it may become a party to the bonded contract, should the government owe it any duty. The surety knows best when this may occur; consequently, only notice by the surety triggers the government’s equitable duty.” Id. at 499 (emphasis added). The court, therefore, held that it was not improper for the contracting officer to have disbursed the progress payments.
There are cases out there where government knowledge of unpaid subcontractors and suppliers was a factor in the court’s analysis of whether the surety’s equitable subrogation rights were triggered, but the best practice is not to run the risk of failing to give notice and give the notice directly
Government Knowledge of Default
More broadly than unpaid subs and suppliers, is the government’s knowledge that the principal is in default enough to satisfy the notice requirement? The answer is generally no. In the recent Capitol Indemnity case the government was aware of and informed Capitol of its principal’s various performance issues and the fact that it missed the contract deadline. The surety argued that this was sufficient knowledge. But, the government and the court characterized the circumstances as the government working with the principal to complete the Contract and not evidence of default. Moreover, the fact that Capitol did not take any action at that time to acknowledge its potential liability as the surety and made no objections to the progress payments being made demonstrated that Capitol did not believe a default had occurred.
Courts have noted that because the surety may decide that its interest are best served by continuing to have payments sent directly to the principal contractor, constructive notice that a contractor has defaulted and the surety has taken over the performance of the contract is insufficient, standing alone, to trigger the government’s subrogation duty. In Westchester Fire Ins. Co. v. United States, 52 Fed. Cl. 567 (2002) the surety did not notify the government agency involved to withhold progress payments from the contractor. The surety argued that the Coast Guard was aware that the contractor’s performance was deficient at the time that it issued a final progress payment. The court held that this was not enough to meet the notice requirement, stating “the progress payment issue falls squarely under the controlling case law. Because [the surety] did not give notice to the Coast Guard of [the contractor’s] default on the surety bonds, and did not request that the last progress payments be withheld, it failed to ‘trigger the government’s equitable duty to act with reasoned discretion toward it.’” The court continued, it is not the Government’s responsibility “to divine the surety’s thinking process, or to act as a nanny for the surety and ask it whether, under the circumstances of a given contract, it would like the Government to withhold progress payments to the contractor.” In Westchester, the surety was fully apprised of the contractor’s performance record and the danger of its default on the contract because it was copied on the government’s warning notices to the principal. The court stated that “It was [the surety’s] responsibility to decide for itself what it wanted to do, if anything, with the information it received from the Coast Guard. It chose to do nothing, and it was not the Coast Guard’s prerogative or duty to substitute its judgment for the surety’s.” Id. at 579.
In Am. Ins. Co. v. United States, 62 Fed. Cl. 151, 155–56 (2004) despite the fact that the government was fully aware of the principal’s failure to perform and the fact that the surety was providing funding and had “assumed de facto managerial control over the project,” the surety’s right to equitable subrogation was held not to have attached, because the surety failed to provide notification to the Government.
Of course, every case is unique and different facts and considerations may require different approaches, but overall, based on the case law, the surety should take the position that direct notice is preferred and not run the risk of relying on the Government’s independent knowledge of contractor default.
Factors to Consider in Abuse of Discretion
Pursuant to the government’s “stakeholder” duty, once the government has received proper and timely notice of the surety’s equitable subrogation rights, the government must act with reasoned discretion to protect the interests of the surety. Argonaut, 434 F.2d at 1368–69. The Government’s duty obligates it to “take ‘reasonable steps to determine for itself that the contractor had the capacity and intention to complete the job.’” Balboa, 775 F.2d at 1164 (quoting Fireman’s Fund Ins. Co., 362 F. Supp. at 848). So, once the government has the duty, how can the surety evaluate and determine if the government is exercising its duty properly. The court in Balboa provided a list of factors that have been considered by the Court of Claims and other courts to be important in determining whether the Government has exercised reasonable discretion in distributing funds. Those factors are:
(1) Attempts by the Government, after notification by the surety, to determine that the contractor had the capacity and intent to complete the job.
(2) Percentage of contract performance completed at the time of notification by the surety.
(3) Efforts of the Government to determine the progress made on the contract after notice by the surety.
(4) Whether the contract was subsequently completed by the contractor (not conclusive, but relevant to show the reasonableness of the contracting officer’s determination of the progress on the project).
(5) Whether the payments to the contractor subsequently reached the subcontractors and materialmen (this goes to the equitable obligation of the Government to subcontractors and others to see that they will be paid; also, because the surety is liable to the subcontractors, any money that reaches them furthers the objectives of the surety as well as those of the Government).
(6) Whether the Government contracting agency had notice of problems with the contractor’s performance previous to the surety’s notification of default to the Government.
(7) Whether the Government’s action violates one of its own statutes or regulations.
(8) Evidence that the contract could or could not be completed as quickly or cheaply by a successor contractor.
Balboa Ins. Co. v. United States, 775 F.2d 1158, 1164–65 (Fed. Cir. 1985)
Does it Matter Whether the Funds Involved are Retainage or Progress Payments
Occasionally the issue has been raised as to whether the surety’s equitable subrogation rights apply only to retainage or do they extend to progress payments as well. In National Surety Corp. v. United States, 319 F. Supp. 45, 49 (N.D.Ala.1970) (cited with approval in Great American Insurance Co., 492 F.2d at 825–26), the court addressed contentions by the Government to the effect that, in suits by a Miller Act surety, the surety’s rights to contract funds upon default of its contractor-principal are limited to the percent retainage withheld by the Government, as opposed to the full amount of the progress payment. The district court there explained:
While it is true that many of the cases have dealt solely with retainage, it is apparent that this stems from the fact that the retainage is in many instances all that is left to battle over when the surety discovers that a default exists. It is clear from a review of the cases that the Courts make no distinction between earned progress payments and retained percentages in determining the surety’s equitable rights upon the contractor’s default.
The Court stated “[t]he surety’s rights apply to the total fund, no matter what it is called, which remains in the hands of the United States . . . at the time notice of default under its bond is established.” Id. (Emphasis supplied.) Accord, American Fidelity Fire Insurance Co., 513 F.2d at 1379–81; Great American Insurance Co., 492 F.2d at 825. Thus, there is no valid distinction between money held by the Government which is a “retainage” and a “progress payment.” In either case, the “total fund” remaining in the Government’s possession, to the extent the surety has obligations arising under the contract, is available to the surety. Balboa Ins. Co., 775 F.2d at 1162–63.
Does the Government Still Have to be Holding the Funds
The question is sometimes raised as to whether the equitable subrogation rights of the surety are only enforceable when the government is still in possession of the contract funds. In other words, can the surety recover from the government for funds that the government already paid to the principal? The answer is yes. Once the government’s duty to use its reasoned discretion in protecting the bonded contract funds has been raised by the surety’s timely and proper assertion of notice of its equitable subrogation rights, if the government abuses that discretion and releases funds to the principal, the government is liable to the surety for the sums released. See National Am. Ins., 498 F.3d at 1305–06. In Balboa Ins. Co., 775 F.2d at 1163 the Federal Circuit ruled “we hold that both the Claims Court and this court have jurisdiction to hear the claim of a Miller Act surety against the United States for funds allegedly improperly disbursed to a contractor.” In Ins. Co. of the West v. United States, 83 Fed.Cl. 535, 538 (2008) the court observed “[u]nder the doctrine of equitable subrogation, a performing or paying surety may recover: (1) contract funds still held by the Government as retainage; and (2) contract funds that were disbursed to the contractor after the surety notified the Government of the contractor’s default. Thus, with the proper notice, the government may actually be put into a position where it must pay twice – once originally when it paid the principal and second when it has to pay the surety. This is actually a point that should be expressly made to the government in the surety’s notice that if the government does not properly adhere to its duty, it may be forced to pay twice. That will no doubt grab the contracting officer’s attention.
Final Thoughts
The notice must be clear and direct and inform the government of the default or impending default. The notice must clearly identify the proper bond and contract. One court noted “[c]learly, it would be unfair to impose on the Government a stakeholder duty if the Government did not know which bonded contract the notice of actual or potential default referred to.” The notice should advise the government to hold the contract funds and not make any further payments to the principal. In Fireman’s Fund the court held that the government owed no duty to the surety in part because the surety did not ask that payments to the principal be withheld until almost five months after the government had fully released the retainage which the surety was seeking. 909 F.2d at 499.
Further, the surety should give evidence of the default. The court in Balboa observed that the Government does not incur a duty “merely upon the unsupported request of a contractor’s surety.” Id. at 1164. The surety has to keep in mind that the case law makes clear that upon receiving proper notice the government must make a determination, it must exercise its reasoned discretion to determine whether a default actually exists. Thus, giving the government as much information as possible is the best practice. This should include pointing out the defaults under the terms of the bonded contract, such as failing to pay subs and suppliers, insufficient capitalization/cash flow, in ability to meet the contract schedule, insolvency, pointing out defaults under the bonds and even under the Indemnity Agreement. The notice should contain sufficient information to convince the government that the surety is likely to be called upon to perform under its bonds. Don’t forget to advise the government that it may have to pay twice if it does not comply.
If you have questions regarding the issues discussed in this post, please do not hesitate to contact Michael A. Stover, Esq. (410-659-1321/mstover@wcslaw.com) or any member of the WCS Surety and Fidelity Practice Group.