Court of Appeals Rules that Assignee Bank’s Security Interest in Contractor’s Accounts Receivable is Junior to the Rights of the Contractor’s Subcontractors and Suppliers to be Paid for Completed Work

On July 9, 2014, the Georgia Court of Appeals ruled, in Vinings Bank v. Brasfield & Gorrie, LLC –GA. App.– (2014), that when a bank holds a valid security interest in a defaulting subcontractor’s accounts receivable by virtue of an assignment, a general contractor is entitled to withhold from the bank any amount necessary to finish the subcontractor’s uncompleted work or to pay its laborers and suppliers before turning over the balance to the bank. This case could have significant implications for general contractors, subcontractors, and financial institutions that provide construction loans. It is particularly significant for subcontractors worried about getting paid by another contractor they suspect of being on shaky financial ground. Vinings Bank affirms their right to be paid for their completed work over the banks’ ability to proceed against the other contractor’s accounts until the contractor’s subcontractors and suppliers have been compensated.

Wagener Construction Enterprises, Inc. (“Wagener”) entered into a dozen subcontracts to provide drywall work for prime contractor Brasfield & Gorrie (“B&G”). It also took out a $1.4 million business loan from Vinings Bank (the “Bank”). The collateral for this loan included Wagener’s accounts receivable. Soon thereafter, Wagener closed its business, defaulted on the loan, and left multiple B&G projects unfinished. In response, the bank froze Wagener’s account and applied the money in the account towards the loan balance and demanded that B&G pay it the money B&G owed Wagener for any work that it had done for which it had not been paid. B&G refused, claiming that it could not determine how much was due to Wagner until it had been determined how much it would cost to complete the unfinished work and pay any Wagener subcontractors, laborers, and suppliers. The bank sued B&G to recover the funds and for wrongful conversion. B&G counterclaimed for conversion, as well, alleging that some of the money in Wagener’s account was paid by B&G and may be owed to Wagener’s unpaid subcontractors and suppliers. The trial court granted B&G partial summary judgment, holding that because Wagener would not have been entitled to payment until B&G had made itself whole after Wagener’s breach of contract and paid off all Wagener’s subcontractors and suppliers, the Bank was likewise not entitled to any funds until the other parties were paid.

In affirming the trial court, the Court of Appeals noted its prior holding that an assignee’s right to payment is no greater than its assignor’s right to payment, and an assignee’s rights are subject to any defenses that could be asserted against the assignor. See Lamb v. First Union Brokerage Servs., Inc., 263 Ga. App. 733, 736 (2003). Here, because the contract clearly gave B&G the right to withhold from final payments to Wagener, any amounts needed to complete unfinished work and pay all subcontractors and suppliers, the Bank’s security interest was taken subject to B&G’s right. This is to say nothing of the statutory duty imposed upon all contractors to pay their subcontractors and suppliers, who are otherwise permitted to file mechanics liens against the properties on which they work. See O.C.G.A. § 44-14-361(a)(2).

Therefore, construction professionals should be advised that financial institutions’ rights to accounts receivable from a security interest will be subordinated until any subcontractor or supplier of the contractor against whose accounts the bank has its security interest are paid in full. This ruling should be viewed favorably by those who may be owed for completed work by a contractor who has recently filed for bankruptcy or otherwise ceased operations. Subcontractors who find themselves in such a predicament should take comfort in the Court of Appeals’ holding that their right to be paid will be senior to any bank’s right to take the bankrupt contractor’s accounts receivables.

By: Tiffany Winks, Esq.