One of the main advantages for contractors and subcontractors that operate under a corporation or limited liability company is that their business entities generally protect the owners and officers from being held personally liable for the acts of the business entity. However, these protections are not absolute. Under the Michigan Builders Trust Fund Act (MBTFA), if a contractor company fails to use the payments received from an owner to pay subs or suppliers, the company’s individual owners and officers can be held personally liable for the money owed. This also applies to a subcontractor who receives money from a contractor and fails to pay its subs or suppliers. The MBFTA provides a powerful remedy for subs and suppliers to collect monies owed on private construction projects, even where the contractor or subcontractor has gone out of business, into bankruptcy, or is otherwise not collectable. Violation of the MBFTA may also result in a criminal prosecution. The MBTFA does not apply to public (governmental) projects.
The MBTFA was created in 1931, and is intended to prevent contractors from diverting funds intended to pay subs or suppliers to other uses and projects. It states that monies paid by an owner to a contractor are held “in trust” by the contractor for the benefit of subs, suppliers, and laborers. The MBTFA requires that the contractor act as “trustee,” and pay subs, suppliers, and laborers first, before using the funds for any other purpose, including the owner’s own business expenses. Good faith is not a defense; nor is the fact that the project is “under water.”
The leading court case is Livonia Building Materials v. Harrison Construction, Bell, and Penner, which was decided by the Michigan Court of Appeals in 2007. In this case, the court found the company’s individual owners and officers personally liable where the property owner paid the contractor (Harrison), but the contractor failed to pay the supplier (Livonia). Harrison went out of business, and the individual owners and officers argued that, because of the economic downturn, they were “upside down” on the project, and therefore, there was not enough money to go around.
The court rejected this argument, stating that even if the owners had acted in good faith, “the difficulties posed by a downturn in the economy or poor business acumen do not excuse non-compliance with the MBTFA’s obligations in regard to accounting practices and ordering of payment.”
Even if the company owner files personal bankruptcy, he cannot escape a MBTFA claim, since no debt is dischargeable in bankruptcy that was incurred by larceny, embezzlement, fraud, or defalcation while acting in a fiduciary capacity. In Michigan, defalcation includes a deficit resulting from a trustee’s duty to make the proper payment of money coming into his possession – such as a contractor’s failure to pay a sub or supplier once he has received payment on a project.
In summary, the MBTFA provides a powerful remedy, beyond a construction lien or payment bond, that should be considered by subcontractors, suppliers, and laborers who do not receive payment once the owner has paid the contractor or the contractor has paid the subcontractor.