Virginia Federal Court Limits Surety's Right to Defend Based on Contractor's Right to Set-off

Sureties writing bonds in Virginia should be aware of a new case involving payment bond claims on a federal project which substantially limits the surety's right to defend the case in reliance upon the contractor's right of set-off.  In U.S. ex rel Acoustical Concepts, Inc. v. Travelers Cas. & Sur. Co. of America, 2009 WL 2156909 (E.D. Va. July 17, 2009), a carpentry subcontractor who successfully completed separate subcontracts on two federal projects for the general contractor sued the general contractor's sureties to collect the contract balance on those two subcontracts.  The sureties filed for summary judgment, asserting no payment was due on either federal subcontract because of a large set-off asserted by the general contractor on a separate, unrelated non-federal project subcontract.  The court granted the plaintiff subcontractor summary judgment, finding that the sureties were not entitled to rely upon the broad set-off provisions in the federal subcontracts because the provision operated to frustrate the intent and purpose of the Miller Act of ensuring prompt payment to subcontractors for their work on federal projects.

Acknowledging that the subcontract language determines the "sums justly due" under a Miller Act payment bond, the court found that the set-off provisions are distinct from provisions determining the amount owed to the claimant for its work on the federal project and are not referenced in or supported by the stated intent of the Miller Act.  While recognizing the common law principle that a surety's liability is typically co-extensive with that of its principal, and that the contractor could assert set-off, the court reasoned that allowing a surety to rely on the contractor's right to set-off debts on a non-federal project would unduly delay and complicate the swift payment promised by the Miller Act and, therefore, the common law principle must give way to the rights granted by the Act.  Endorsing prior rulings in which sureties were not permitted to rely upon timing provisions contained in subcontracts (i.e., Moore Bros. Constr. Co. v. Brown & Root, Inc., 962 F.Supp. 838 (E.D.Va. 1997)(sureties not entitled to rely upon the subcontract's pay-if-paid clause)), the court found that sureties were not entitled to rely upon a set-off provision where operation of the clause contravenes the Miller Act's purpose of providing prompt payment to subcontractors for their labor and materials supplied to federal projects.  The only bright spot for sureties was delivered by the court's recognition of a distinction between use of the set-off clause in recoupment - to only partially offset a claim, rather than defeat it completely.  This ruling, while rejecting the use of set-off to toally defeat a claim, leaves the door open for a surety to set-off a portion of the claim by the amount of the subcontractor's debt on a non-federal project.

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