We’ve written extensively here at gbNYC about the potential for litigation arising out of green construction projects. To date the issue has been on the radar screens of numerous industry authors, but real-life application of green legal theory has been relatively difficult to come by outside of a handful of green-related claims reported by insurance carriers. However, a (relatively) recent lawsuit that was filed on the eastern shore of Maryland demonstrates that green building risk is real- particularly in light of rapidly increasing regulatory activity at the state and local levels. The suit suggests the critical importance of clear contract language for each stakeholder on a green construction project and posits that the alternative could be massive exposure to unanticipated liability for every project participant.
Background to the Lawsuit
The lawsuit in question grew out of the construction of a $7.5 million, 23-unit condominium project in Crisfield, Maryland called the Captain’s Galley, which was completed back in 2006. The development is adjacent to a local marina on the Chesapeake Bay and includes a number of green design features that were intended to support an application to USGBC for a LEED Silver rating. Southern Builders, the general contractor on the job, filed a $54,000.00 mechanic’s lien against the project late in 2006. In early 2007, a Maryland Circuit Court both reduced the lien to $12,000.00 and consolidated a related $1.3 million countersuit initiated by the owner Shaw Development that sought, among other things, $635,000.00 in what Shaw claimed were lost tax credits under a state-level green building program.
The Tax Credits at Issue
A brief overview of Maryland’s green building tax credit program is necessary in order to understand how Shaw crafted its counterclaim against the contractor.
Maryland offers state tax credits of up to 8 percent of a project’s total cost for buildings greater than 20,000 square feet. (As a side note, the current iteration of the program has doled out all of the available tax credits and is not currently accepting additional applications). Only LEED projects are eligible to apply for the credits. The program requires applicants to first submit an Initial Credit Certificate Application to the Maryland Energy Administration.
MEA reviews the application and issues an Initial Credit Certificate which sets forth the project’s maximum credit amount and (critically for our purposes) sets an expiration date by which the project must receive a Final Credit Certificate.
Projects can only apply for the Final Credit Certificate upon receiving a certificate of occupancy after construction is complete, and a LEED-AP must submit an Eligibility Certificate to MEA stating that the building meets the criteria necessary to receive the tax credit (i.e., it meets the requirements to qualify for a LEED Silver rating). However, if the Initial Credit Certificate expires prior to the project obtaining its Final Credit Certificate, the available credits are put back into the program’s pool, the project slides back in line, and must reapply to MEA.
Captain’s Galley Contract Documents
The contract documents set forth the project’s LEED requirements in a specification section (it’s unclear exactly how those requirements were delineated, other than language in the project manual which stated that the project was “designed to comply with a Silver Certification Level according to the USGBC’s LEED Rating System, as specified in Division 1 [of the specifications.]“) It does not appear that there was language in the contract documents obligating Southern to secure any formal certification from USGBC. With respect to the tax credits, although the credits were not identified specifically in the contract (which was the AIA’s 1997 version of the A101 Owner/Contractor Agreement) or any of its attachments that were included in Shaw’s countersuit papers, Southern was required to deliver a Certificate of Occupancy within 336 calendar days from the date of the agreement.
In the countersuit, Shaw alleged claims in both negligence and breach of contract against Southern for, among other failures, the contractor’s failure to “construct an environmentally sound ‘green building’ in conformance with the LEED rating system.” However, there was no detail in Shaw’s papers describing precisely how Southern was responsible for the $635,000.00 in lost tax credits. Presumably, Southern failed to deliver the project to Shaw such that the latter could obtain a certificate of occupancy by the date specified in the Initial Credit Certificate; according to Shaw’s papers, the project remained incomplete “[n]early nine (9) months after the required completion date” (i.e., the 336 calendars specified in the A101). In addition to recovery for the lost tax credits, Shaw also sought damages for non-conforming work and loan defaults with its construction lender. The total amount in damages that Shaw sought was approximately $1.3 million. The damages it sought for the lost tax credits were the largest under any of its claims.
The Result & What Could Have Happened
Other than a few newspaper articles that mentioned the delays at the project, there has been nothing written about what appears to have been the country’s first green building litigation. Though the Circuit Court judge did set the case for trial sometime in August of 2007, it appears that the matter has since settled out of court.
The twist in the factual posture of the case is that the allegations were not that the contractor (or a design professional or consultant) failed to secure formal certification from USGBC, as much of the literature written to date in the liability context suggests will be the feeding ground for potential litigation. Rather, it was the failure by both the owner and the contractor to recognize the risk implicated by the regulatory scheme that led to the claimed loss of tax credits. The contract documents included as exhibits to the court papers were devoid of any risk transfer mechanisms whatsoever with respect to securing the tax credits. A tight contract that recognized the risk of failing to complete the project on schedule would have (1) assisted the contractor in determining whether it was capable of bearing a significant portion of that risk and (2) provided the owner some level of assurance that in the event the contractor could not deliver the project as required in order to secure the tax credits, it would still have the ability to assert a breach of contract claim for that specific failure.
Form Contracts Won’t Fly! gbNYC’s Top 5 Legal Issues for Green Construction Projects in Action
The critical lesson from the lawsuit is that there is no one-size-fits-all form agreement for a green construction project. The case also demonstrates the absolute necessity of two of my five most important legal issues to consider on green construction projects. First, a thorough understanding of existing legislation that may apply to a green project is critical. Retaining counsel that understands the regulatory landscape and can assist stakeholders in managing the risk that it implicates, regardless of which side of the table they may find themselves, is key. This point is becoming increasingly salient as more municipalities legislate green initiatives and third-party rating systems continue to evolve and proliferate. Second, the possible failure on the contractor’s part (and probably the owner’s as well) to translate the procedure for securing the LEED-driven tax credits into the contract documents exposed both sides to unanticipated liability. Indeed, the lack of any disclaiming language in the contract- or any indication that the contractor attempted to shift some of the risk off of itself- is perhaps indicative of where green liability may actually exist.
Conclusion: Insurance & Other Implications Moving Forward
Sustainability is changing the risk management equation and the Shaw case will likely go down as just the very tip of the iceberg. Again, the lawsuit demonstrates the danger for contractors, owners, and design professionals to simply rely on form construction agreements on green projects. Although the claim was asserted by the contractor, a slight twist in the facts could have just as easily resulted in the suit being asserted against the architect, engineer, or LEED consultant. While owners obviously want to get their projects out of the ground as quickly as possible, and given the deteriorating economic conditions here in the U.S., contractors and design professionals may feel pressure to sign up for work quickly, Shaw Development v. Southern Builders teaches caution during the course of negotiations for green construction work.
The lawsuit also raises some important insurance implications. Could the contractor’s commercial general liability policy have provided coverage for the owner’s claim for the lost tax credits? CGL policies typically only cover property damage, so it seems highly unlikely. From the owner’s perspective, if there was a waiver of consequential damages provision in the contract documents (which is unclear from the Shaw court papers), the owner would have a difficult time arguing that its claimed damages for the lost tax credits should not be considered consequential.
The potential lack of insurance coverage for this type of claim demands its own discussion, but it suffices to say that the insurance industry is examining these issues closely to determine whether an endorsement for green projects might be necessary. In fact, a recent report prepared by Marsh called The Green Built Environment in the United States: The State of the Insurance Marketplace evaluated not only property insurance policies, but how the insurance industry is considering professional liability, pollution liability, builder’s and owner’s risk insurance, surety bonds, and casualty coverage in the context of green risk management.
Please let me know if you’d like more information on the case and I’d be happy to pass along the materials that I was able to dig up online. Feel free to chime in below if there are any other legal issues arising out of the Shaw fact pattern that deserve discussion.