Untitled Texas Attorney General Opinion ( 1988 )

THE ATTORNEY GENERAL
OF TEXAS
August 24, 1988
Honorable John T. Montford Opinion No. JM-945
Chairman
State Affairs Committee Re: Interpretation of 1987
Texas State Senate amendments to chapter 162
P. 0. Box 12068 of the Property Code re-
Austin, Texas 78711 garding construction funds
or trust funds (RQ-1402)
Dear Senator Montford:
YOU ask seven questions about the provisions of
chapters 53 and 162 of the Property Code as amended by House
Bill No. 1160 in 1987. Acts 1987, 70th Leg., ch. 578, at
2283. House Bill 1160 mad-e various provisions for the
protection of subcontractors and other beneficiaries of
funds paid or held under construction contracts, and its
provisions operate in conjunction with the overall scheme of
Texas Mechanic's, Contractor's, or Materialman's Lien Law,
chapter 53, Property Code.
Chapter 162, as amended by House Bill No. 1160,
provides that construction payments or loan receipts held
for the purpose of paying for improvements of real property,
are Vrust funds"1 which may not be used or diverted by the
holder until those who have furnished labor or materials for
such improvements have been paid.
Section 53.085, added by House Bill No. 1160, provides
that a seller, or a person who has furnished labor or mater-
ials for an improvement shall, upon request and as a condi-
tion of final payment, furnish the purchaser an affidavit
1. Section 162.004(b) of the Property Code provides:
The Texas Trust Act (chapters 111 through 115) does
not apply to any trust created under this chapter, nor
does this chapter affect any provision of the Texas
Trust Act.
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Honorable John T. Montford - Page 2 (JEsg45)
stating that he has fully paid those who have furnished him
labor or materials for the improvement. If he has not fully
paid, the affidavit must state how much is owed for such
labor or materials and to whom.
Your first question is:
Do the 1987 ,amendments to Chapter 162,
Property Code, affect prior law concerning
the applicability of that chapter to trans-
actions involving banks, savings and loans,
or other lenders. If so, in what ways do
they change prior law?
We answer your first question in the negative. Section
162.004(a)(l) of the Property Code provides that chapter 162
of the code does not apply to 'Iabank, savings and loan, or
other lender." This provision, formerly part of article
5472e, V.T.C.S., was recodified in the Property Code without
substantive change in 1983. Acts 1983, 68th beg., ch. 576,
S 7 at 3730. Nor was section 162.004(a)(l) amended in 1987
by House Bill No. 1160. See RevublicBank D llas, N.A
Interk 1. U.L 691 S.W.%605 (Tex. 1985: (consid&izg
sectio: 162.00;(a)(l) as formerly incorporated in article
5472e, V.T.C.S.).
Your second question is:
Do 'expenses directly related to the
.construction or repair of the improvement'
under Section 162.031(b), Property Code,
include the trustee% overhead and other
expenses which, though not readily traceable
to a particular job, are necessary to obtain-
ing or completing the job (e.g., office rent,
employee salaries, workers' compensation
insurance, liability insurance, communica-
tions bill, etc.)?
Section 162.031 was amended by House Bill No. 1160. Prior
to that amendment section 162.031 read:
(a) Except as provided by Subsection (b),
a trustee who, with intent to defraud,
directly or indirectly retains, uses,
disburses, or otherwise diverts trust funds
without first fully paying all obligations
incurred by the trustee to the beneficiaries
of the trust funds, has misapplied the trust
funds.
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Honorable John T. Montford - Page 3 (m-945)
P
(b) A trustee mav use trust funds to vav
the trustee's reasonable overhead exwenses
that are directlv related to the construction
or revair of the imvrovement. (Emphasis
added.)
Section 162.031 now reads:
(a) A trustee who, intentionally
knowingly or with intent to defraud, direct::
or indirectly retains, uses, disburses, or
otherwise diverts trust funds without first
fully paying all current or past due
obligations incurred by the trustee to the
beneficiaries of t.he tNSt funds, has
misapplied the trust funds.
(b) 1 to
prosecution or other action brought under
Subsection (a) that the trust funds not vaid
to the beneficiaries of the trust were used
bv the trustee to vav the trustee's actual
exnenses dlrectlv related to the construction
or revair of the imvrovement or have been
retained by the trustee, after notice to the
beneficiary who has made a request for pay-
ment, as a result of the trustee's reasonable
belief that the beneficiary is not entitled
to such funds or have been retained as
authorized or required by Chapter 53.
(c) It is also an affirmative defense to
prosecution or other action brought under
Subsection (a) that the trustee paid the
beneficiaries all trust funds which they are
entitled to receive no later than 30 days
following written notice to the trustee of
the filing of a criminal complaint or other
notice of a pending criminal investigation.
(Emphasis added.)
The bill analysis to House Bill No. 1160 indicates that
section 162.031 was amended in response to the difficulties
experienced by prosecutors in obtaining convictions.
In McElrov V. State, 720 S.W.2d 490 (Tex. Crim. APP.
1986), the Court of Criminal Appeals affirmed the Dallas
Appeals Court's reversal of a conviction under the provis-
ions of section 162.031 as they appeared in former article
5472e, V.T.C.S. The Court of Criminal Appeals held that
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Honorable John T. Montford - Page 4 m-945)
those provisions required the state to plead and prove that
trust fund moneys had not been paid out for reasonable
overhead expenses. The court declined to reach the issue of
the constitutionality, for purposes of criminal prosecution,
of the %-easonable overhead" language, which two concurring
judges in the lower Dallas court had found "vague on its
face and thus void and unenforceable.11 ' &B McElrov
State, 667 S.W.2d 856, 869 (Tex. App. - Dallas 1981;
(concurring opinion). The concurring opinion relied on the
reasoning in Parks v. Libbv-Owens-Ford Glass Co., 195 N.E.
616, 622 (Ill. 1935): "[What is] deemed reasonable by one
employer might well be considered unreasonable by another.")
House Bill No. 1160 changed the words of the provision
from "reasonable overhead" to "actual expenses," apparently
in an effort to avoid a later judicial determination that
the provision was void for vagueness. House Bill No. 1160
also made the "actual expenses" provision an affirmative
defense, placing on criminal defendants the burden of prov-
ing~ that expenditures were for "actual expenses" rather than
requiring the state to prove that expenditures were not for
actual expenses. The words "directly related," however,
were not altered when the prior language ltreasonable over-
head directly related" was changed to "actual expenses
directly related."
We do not believe that the requirement that expenses be
"directly related" to the construction or repair of the
improvement means that expenses must necessarily be readily
traceable to the improvement. In considering the phrase
"reasonable overhead directly related" in former article
5472e, V.T.C.S., the court in North Texas Overating
meers Health Benefit Funds v. Dixie Masonarv. In c., 544
F. Supp. 516 (N-D. Tex. 1982) stated, at 520:
The expenses that cannot readily be traced to
a particular project are nonetheless
'directly related' if the job could not have
been obtained or completed without them.
. . . .
It only remains to be determined if the
method used to allocate expenses to each job
is proper.
The court did not further discuss what would be a proper
method of allocating expenses, finding only that no evidence
had been presented "that the method used was unreasonable or
unfair . . . .II Id. at 520.
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Honorable John T. Montford - Page 5 (m-945)
Discussions in both the House and Senate indicate the
intended scope of the l'actual expenses" language added by
House Bill No. 1160.
Representative Robnett:
Do you intend that it is o.k. for a
builder to pay his superintendent, secretary,
computer, pick-up tNCk, office or any
administrative expenses and other similar
expenses related to the construction of a
home out of these trust funds?
Representative Parker:
I think, yes, I certainly do and I [want
to] direct your attention, Buzz -- I think
it's important -- to that 'directly related'
now. I think there has to be a -- maybe you
might need to ask a 'but for' question. And
'but for' the construction would I need to
spend this money. And if it's related to
construction, I think it's exempted. I do
-. not think it presents a problem.2
House Floor Debate (Point of Order - Tape 112, Side B,
5-30-87).
Mr. Johansen [Executive Vice President of
Texas Association of Builders]:
[W]hen you have a multiplicity of loans
and a multiplicity of houses under construc-
tion it's almost impossible to track that
money through and to prove that X draw was
paid on X house when you have other on-going
expenses and overhead -- overhead items that
you need to pay.
Senator Parker:
[Builders got in trouble under the old
law] because they refused to keep .decent
records . . . what is so difficult about
2. Representative Parker was the sponsor of House Bill
No. 1160.
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Honorable John T. Montford - Page 6 (JM-945)
[it]. It ought not to be that hard to figure
out some proportion of your overhead -- total
overhead that goes to per day, per month, per
man hour worked.
Senate Committee Hearing, Tapes 2 and 3, 5-19-87.
In light of the foregoing, we conclude, in response to
your second question, that the words of section 162.031,
"actual expenses directly related to the construction or
repair of the improvement," include overhead and other
expenses which, though not readily traceable to a particular
job, are necessary to obtaining or completing the job, so
long as the expenses are 10actual,l'A, have in fact been
incurred.
Your third question is:
Way a contractor, subcontractor or owner
who becomes a trustee also be a beneficiary
of the trust if he has furnished labor or
materials: and, may he pay himself as a
beneficiary on the same basis that he pays
the other beneficiaries?
We refer again to the language of section 162.031,
quoted in full above in the discussion of your second
question. We believe that the language in subsection (a) of
section 162.031 -- "obligations incurred by the trustee to
the beneficiaries" -- indicates that for purposes of chapter
162, a trustee of a given trust fund is not also to be
considered a beneficiary of .the trust fund. It would be
anomalous to provide that a person could llincurllobligations
to himself. Moreover, if a trustee could also be a
beneficiary of the trust fund he held, there would be no
reason to provide in subsection (b) that a trustee may set
up as an affirmative defense to an action for diversion of
trust funds the fact that the funds were used to pay the
Vrustee's actual expenses directly related to the construc-
tion or repair." If the trustee could be considered a
beneficiary of the trust funds he held, his payment of his
own actual expenses on the project from the trust fund would
be a lawful payment to a beneficiary under subsection (a),
and the provision of subsection (b) that such payment may be
set up as an affirmative defense would be unnecessary.
Thus, we conclude that the statutory scheme of chapter 162
does not contemplate that a trustee of funds thereunder
might also be considered a beneficiary of such funds within
the meaning of the chapter's provisions.
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Honorable John T. Montford - Page 7 (JM-945)
Your fourth question is:
If a trustee has paid all current or past
due obligations to beneficiaries of trust
funds, may remaining trust funds be used for
any purpose, whether related or unrelated to
the construction of the repair or improve-
ment?
Subsection (a) of section 162.031, quoted in the
discussion regarding your second question, indicates that if
a trustee has "first fully [paid] all current or past due
obligations incurred by the trustee to the beneficiaries,"
he may then retain, use, disperse or otherwise divert moneys
in the fund without thereby misapplying the funds. The
words "current or past due" were added to the section's
provisions by House Bill NO. 1160.3
In the House discussion on House Bill No. 160 on May
30, 1987, the following exchange took place:
Representative Parker:
I assume if you pay your current or past
due obligations, then I assume that if the
rest is profit, I assume that you can use
that.
Representative Heflin:
So there would be no way that a person
would have to set aside the profit for a
particular project until that project was
absolutely complete, if he stayed current
with his obligations.
3. Section 162.005(2) defines current or past due
obligations as "those obligations incurred or owed by the
trustee for labor or materials furnished in the direct
prosecution of the work under the construction contract
prior to the receipt of the trust funds and which are due
and payable by the trustee no later than 30 days following
receipt of the trust funds."
p. 4766
Honorable John T. Montford - Page 8 @M-945)
Representative Parker:
I can tell you absolutely that that is not
the intent of the bill.
In response to your fourth question, it is apparent
from the ,House discussion in connection with the added
"current or past due obligations** language, and from the
plain meaning of the provision itself, that money remaining
in the fund after payment of current and past due obliga-
tions can lawfully be diverted to other purposes by the
trustee.
Your fifth question is:
Does the notice requirement in Section
162.031(b), Property Code, apply only to the
affirmative defense of funds retained by the
trustee or does it also apply to the defense
of use of funds to pay actual expenses
directly related to the construction or
repair?
Section 162.031(b) of the code states in part:
(b) It is an affirmative defense . . .
that the trust funds not paid to the bene-
ficiaries of the trust were used by the
trustee to pay the trustee's actual expenses
. . . or have been retained bv the trustee,
after otice to the beneficiarv who has made
a reguist for payment, as a result of the
trustee's reasonable belief that the
beneficiary is not entitled to such funds or
have been retained as authorized or required
by Chapter 53. (Emphasis added.)
Prop. Code 5 162.031(b). The underlined phrase stating the
notice requirement modifies only "have been retained." The
notice requirement in section 162.031(b) does not apply to
the other two affirmative defenses there provided for: that
the funds were used to pay the trustee's actual expenses
directly related to the project, or were retained under the
provisions of chapter 53 of the Property Code.
p. 4767
Honorable John T. Montford - Page 9 (JM-945)
Your sixth question is: -
Does Section 53.085, Property Code, create
a duty for a contractor to require affidavits
from all persons who furnish labor or
materials on a property?
Section 53.085, which was added by House Bill No. 1160,
1987, provides:
AFFIDAVIT REQUIRED. (a) Any person who
furnishes labor or materials for the con-
struction of improvements on real property
shall, upon request and as a condition of
final payment for such labor or materials,
provide to the requesting party, or its
agent, an affidavit stating that such person
has paid each of his subcontractors,
laborers, or materialmen in full for all
labor and materials provided to him for the
construction. In the event that the person
has not paid each of his subcontractors,
laborers, or material-men in full, the person
shall state in the affidavit the amount owed
and the name of each subcontractor, laborer,
or materialman to whom such payment is owed.
(b) The seller of any real property
shall, upon request by the purchaser or its
agent prior to closing of the purchase of
such real property, provide to such purchaser
or its agent, a written affidavit stating
that the seller has paid each of his
contractors, laborers, or materialmen in full
for all labor and materials provided to the
seller for any construction of improvements
on the real property and that the seller is
not indebted to any person, firm, or
corporation by reason of any such
construction. In the event that the seller
has not paid each of his contractors,
laborers, or materialmen in full, the seller
shall state in the affidavit the amount owed
and the name of each contractor, laborer, or
materialman to whom such payment is owed.
(c) A person, including a seller, commits
offense if the person intentionally,
Eowingly, or recklessly makes a false or
misleading statement in an affidavit under
p. 4768
Honorable John T. Montford - Page 10 (Jm-845)
this section. An offense under this section
is a Class A misdemeanor.
Subsection (a) of section 53.085 authorizes a person
such as a contractor to request, as a condition of final
payment, that "any person who furnishes labor or materials"
for a construction project furnish him an all-bills-paid
affidavit or an a~ffidavit stating which bills remain unpaid.
There is no indication in the statutory language that a
person such as a contractor is reauired to request or obtain
such affidavits.
Before paying a subcontraator, for example, a contract-
or is entitled under section 53.085 to request that the sub-
contractor as a condition of final payment furnish such
affidavit to the contractor, but the section does not
require that the contractor request or obtain such
affidavit.
Similarly, if the contractor is seeking payment from
the,owner, for example, the owner is entitled, but is not
required, under section 53.085 to request such affidavit
from the contractor as a condition of payment. In this case
as well, there is nothing in section 53.085 to indicate that .-
the request for the contractor's affidavit creates a duty
for the contractor to in turn request affidavits from
subcontractors, materialmen or others doing work under the
contractor. He may, but is not required, to request such
affidavits. We therefore answer your sixth question in the
negative.
Your seventh, and last, question is:
In making an affidavit, does a contractor
impliedly represent that it is based on re-
ceiving affidavits from each of the persons
from whom such affidavits may be required?
We believe it follows from our discussion regarding
your sixth question that the answer to your seventh question
is ~No.~ Since a contractor furnishing an affidavit on
request to the owner, for example, is not required to
request affidavits from subcontractors, etc., working under
him, the contractor's affidavit cannot be read as impliedly
representing that it is based on the affidavits of his
subcontractors, etc. A contractor may make his affidavit
based on information obtained through other means than the
affidavit procedure which under section 53.085 he *
entitled, but not required, to use. Of course, tit:
contractor's affidavit may, if the contractor so chooses,
4769
.
Honorable John T. Montford - Page 11 m-945)
,--
xv sly represent that it-is based on the affidavits of
zhoLzsunder the contractor whose affidavits he has obtained.
It might, moreover, be wise for the contractor to obtain the
affidavits of those under him and expressly base his
affidavit on the affidavits he has obtained, so as to avoid
a penalty under subsection (c) of section 53.085 for
"intentionally, knowingly, or recklessly11 making "a false or
misleading statement." But again, there is nothing in the
controlling statutory provisions which reouires the con-
tractor to obtain the affidavits of those under him, or
which makes the contractor's affidavit a representation by
implication that he has in fact obtained such other
affidavits and has based his affidavit on them.
SUMMARY
The 1987 amendments to chapter 162 of
the Property Code do not affect prior law
concerning the applicability of that chapter
to banks, savings and loans, or other
lenders.
In section l62..031(b) of the Property
Code "actual expenses directly related to the
construction or repair of the improvement,"
include overhead and other expenses which,
though not readily traceable to a particular
job, are necessary to obtaining or completing
the job, so long as such expenses are
"actual," i.e., have in fact been incurred.
A contractor, subcontractor or owner who
becomes a trustee of construction funds
within the meaning of chapter 162 may not
also be considered a beneficiary of such
funds within the meaning of that chapter.
If a trustee has paid all current or
past due obligations to beneficiaries of
trust funds under Property Code section
162.031, he may use remaining trust funds for
other lawful purposes whether related or
unrelated to the project in connection with
which the trust fund was created.
Section 162.03‘1, subsection (b),
requires notice to a beneficiary who has made
a request for payment only where the trustee
has retained funds as a result of the
,-- trustee's reasonable belief that the
p. 4770
Honorable John T. Montford - Page 12 (JM-945)
beneficiary is not entitled to such funds.
The notice requirement in subsection (b) is
not applicable to the other affirmative
defenses provided for in that subsection.
Section 53.085 does not require, but
only entitles, a contractor to request, as a
condition of final payment, affidavits from
all persons who have furnished labor or
materials on the project.
In making an affidavit under section
53.085, a contractor does not, by virtue of
that section, impliedly represent that his
affidavit is based on affidavits from those
persons from whom the contractor is entitled
to request affidavits.
JIM MATTOX
Attorney General of Texas
MARYKKLLKR
First Assistant Attorney General
mu MCCREARY
Executive Assistant Attorney 'General
JUDGE ZOLLIE STEAKLHY
Special Assistant Attorney General
RICK GILPIN
Chairman, opinion Committee
Prepared by William Walker
Assistant Attorney General
p. 4771