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City of New York v. Cross Bay Contracting Corp., 1999 N.Y. Int. 0023 (Feb. 23, 1999).

CONTRACTS - INTERPLEADER - ARTICLE 3-A TRUST - PAYMENT BOND - SURETY - EQUITABLE SUBROGATION


ISSUE & DISPOSITION

Issue

1. Whether the funds at issue in this interpleader action stemming from a complex contract dispute constitute an Article 3-A trust fund.

2. Whether the surety on a payment bond is entitled to priority status with respect to the Article 3-A trust fund.

Disposition

1. Yes. By instituting this interpleader action, the City effectively seeks to pay out earned contract funds, and a statutory 3-A trust protects those funds.

2. No. Where it appears that the surety has not completed payment of all valid payment claims, the surety should not be accorded an automatic priority over the claims of Article 3-A trust beneficiaries.

SUMMARY

In May 1992, New York City awarded to Cross Bay Contracting Corporation a contract for work on a landfill in Staten Island, New York. The contract included a provision permitting the City to "deduct from the amounts certified under this Contract to be due to the Contractor, the sum or sums due and owing from the Contractor to the subcontractors." Subsequently, Colonia provided the City bonds on behalf of Cross Bay. Over a year later, the City terminated the contract "for convenience" pursuant to the contract. Cross Bay defaulted on various supplier payments. As surety on one of the bonds, Colonia paid $127,631.29 to suppliers. In addition, Colonia received claims of approximately $188,000.

In November 1994, Cross Bay and Colonia commenced against the City a proceeding to compel the payment of funds withheld by the City. The parties reached a settlement in which the City agreed to pay Colonia $171,917.38 that had been approved for payment to Cross Bay, "upon the satisfaction, discharge, release or cancellation of all those valid liens, levies, restraints and encumbrances filed with the Liens and Disbursements Clerk in the office of the New York City Department of Finance which have a superior or greater legal or equitable right than Colonia to said earned funds".

In June 1995, the City started the instant interpleader action by paying the $171,917.38 into court. Cross Bay, Colonia, and the Internal Revenue Service were named as defendants.

Colonia moved for summary judgment seeking the interpleaded funds for itself and dismissal of other claims to those funds. The IRS, among others, opposed this motion claiming first that Colonia was not entitled to priority over the funds and second that Cross Bay had failed to remit federal tax withholdings on behalf of employees who worked on the project. The City also opposed Colonia's motion and cross-moved for leave to amend its interpleader complaint to reduce the amount interpleaded on the basis of funds allegedly due to workers, underpaid pursuant to Labor Law § 220-b.

The Supreme Court granted the City's motion to amend its complaint, and otherwise denied Colonia's summary judgment motion. The Appellate Division modified this judgment by granting Colonia's motion for summary judgment to the extent of $71,917.38, the reduced sum of interpleaded funds. The Appellate Division granted leave to appeal to Colonia and allowed a cross appeal by the IRS which had objected to Colonia garnering the $71,917.38. The IRS argued that the interpleaded funds constituted a Lien Law Article 3-A trust, to which Colonia cannot have legal priority. The Appellate Division granted leave to appeal, and cross appeals were presented to the Court of Appeals.

The Court of Appeals reversed the Appellate Division's order insofar as it granted summary judgment to Colonia as to part of the interpleaded funds. The Court held first that by instituting this interpleader action, the City effectively sought to pay out contract funds, and a statutory 3-A trust arose to protect those funds. Second, the Court held that where it appears that the surety, here Colonia, has not even completed payment of all valid payment claims, the surety should not be accorded an automatic priority over the claims of Article 3-A trust beneficiaries.


Prepared by the liibulletin-ny Editorial Board.