Third Circuit Rules That Filing of Mechanic’s Lien Violates Bankruptcy Stay

In a decision that will impact how subcontractors deal with an insolvent general contractor, the Third Circuit in In re Linear ElectricCompany, Inc., Case No. 16-1477, ruled that a subcontractor creditor violated the automatic stay imposed by a general contractor’s bankruptcy filing when, post-bankruptcy, the subcontractor filed a mechanic’s lien against the owner of the construction project. Much like New Hampshire’s statutory system, New Jersey’s construction lien statute allows subcontractors and suppliers to lien an owner’s property to the extent of any unpaid balance that remains due and owing to the general contractor under their contract.  

In this case, the subcontractor claimed that it did not violate the stay, because it had filed its lien only against property of the owner, not property of the general contractor. The Third Circuit, however, disagreed. Because the subcontractor could only assert the lien against the owner to the extent any money remained owing to the general contractor, the Circuit found the lien violated the stay by preventing the owner from paying over the money it owed to the general contractor’s bankruptcy estate. In other words, the mechanic’s lien had effectively attached the bankrupt general contractor’s receivable, which is prohibited under Section 362 of the Bankruptcy Code.

This is another reminder for subcontractors and suppliers that they may need to exercise their lien rights earlier in the process to preserve those rights. Delay in pursuing unpaid invoices could deprive them of the benefit of a statutory lien against the project.

Gregory Moffett from Preti Flaherty's Bankruptcy, Creditor’s Rights and Business Restructuring Practice Group contributed to this blog.