The Perils of Associations Using Unlicensed Contractors

Associations are on the hook if an unlicensed contractor gets injured on the jobHere’s one of those issues that keeps turning up like a bad penny: the use of unlicensed, unbounded and uninsured contractors on association projects and properties. Sometimes it’s a matter of ignorance or laziness on the part of association managers or board members who should know better. Sometimes it’s a matter of a board member or manager routing business to a friend or relative or just someone willing to provide a kickback in exchange for the work.

Regardless of the reasons behind the use of unlicensed contractors, it’s a bad idea because it’s part of the fiduciary and oversight duties of any condo or HOA board of directors to ensure that all projects done under their auspices are executed by licensed and bonded contractors and that the work is done in accordance with the proper permitting procedures.

Here’s why: Unlicensed contractors generally don’t carry the vital forms of insurance that exist to protect consumers – and by extension, the homeowners in your community.

Example: Gutter Repair Goes Wrong – and Gets Expensive and Litigious

Imagine you bring in an unlicensed contractor for some rain gutter repairs. It?s a minor job, and you expect no complications. Your association manager recommends the repair and further recommends a contractor they’re familiar with, ACME Services, to do the contracting. The price looks a little steep, and a board member mentions they have a buddy at Sluggo Construction who can do the work for much less.

The board approves Sluggo’s low bid, and their crew show up to do the repair. All seems to be going well, but one of the workers, Jim, fell off a ladder and wrenched his back. He now has an insurance claim.

Here’s what happens next: Jim can’t work with an injured back, and he’s got some medical bills. So he files a workers’ compensation claim against Sluggo Construction. But Sluggo’s not a licensed contractor so they aren’t carrying the required workers’ compensation coverage. Jim may or may not have individual health insurance in place, but it’s not supposed to cover workplace claims.

Eventually, Jim’s lawyer advises him to file suit. But not against Sluggo. They know Sluggo has no money and no assets they could collect against. Without insurance, a judgment to collect would be worthless.

So, who’s got the deep pockets in this case? Your condo or homeowners’ association.

If you don’t hire a licensed, bonded, street-legal contractor, and something goes wrong, you are going to be in the line of fire. Because your HOA represents and is entirely made up of the owners in your complex, your owners are the ones who will be left with the liability.

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Your HOA could be forced to issue a special assessment to pay this worker’s medical bills and compensation for lost wages – maybe for years – because your board of directors failed to perform oversight and insist that all work be done by licensed and bonded contractors with all requisite insurance protection in place.

If your board or management company allows the use of an unlicensed contractor, and a worker gets hurt, you can expect courts to hold your association and management property jointly liable as employers.

Your risk isn’t limited to workplace injuries, either. If you get cheap and hire unlicensed contractors, and the workmanship is deficient, or if one of your tenants or residents is hurt because a roof or deck collapsed, you’ll have no recourse against the contractor. If they don’t have workers compensation insurance, they probably won’t carry contractors’ liability insurance either.

Minimum Due Diligence for Contractors

At a minimum, before you authorize any third-party contractor to do any task, you should ensure that either your board of directors or your property manager carries out the following due diligence:

  • Get the state contractors’ license number
  • Verify with state officials that the license number is valid.
  • Make checks payable to LLCs and corporations, not to individuals.
  • Don’t pay huge deposits up front (escrow is normally fine, or materials charges).
  • Get proof of insurance – both workers compensation and contractors’ liability insurance.
  • For larger projects, you may ask the contractor to put up a ‘completion bond,’ or ?surety bond,? which pays your association in the event the contractor can’t or won’t complete the project according to contract.
  • Put contracts in writing.
  • Have the contractor obtain necessary permits and show them to the board’s representative. Sure, the association can get the permits, but they won’t be granted without insurance in place. This is a useful reality check to screen out unlicensed and irresponsible contractors, while also limiting the association’s liability.

Limit Your Liability: Don’t Use Unlicensed Contractors

If the association gets sued, association members could have an opening to sue incompetent or corrupt board members who use unlicensed contractors for projects over a specific amount established by law (usually about $500 depending on the state).

As a board member, you have a fiduciary duty to act with reasonable prudence. If your association is damaged because of liability incurred because you failed to perform ordinary due diligence to see if a contractor is even licensed, you could be sued for violating your fiduciary duty as well. This could be a covered claim under directors & officers’ liability insurance, but if you’re a board member, you don’t want to be in that position.

The obvious lesson here is always, always use properly licensed, bonded and insured contractors.

The Danger of Using Unlicensed and Uninsured Contractors

One of the first principles of gambling is this: Never take a risk you can’t afford to lose. Or, as Warren Buffett once said of an investment that went spectacularly wrong: “Never risk what you have and need for what you don’t have and don’t need.”

There are great dangers that come along with hiring unlicensed contractorsWhen you hire an unlicensed contractor to do work on your property, or you fail to secure the necessary permits for that work, you are doing just that.

Here’s why: When a general contractor takes on a job, they’ll hand off parts of it to one or more subcontractors. But the general contractor has overall responsibility for legal compliance, safety, quality of workmanship and just about everything else that happens on the job site.

General contractors therefore take on a ton of responsibility. With that comes an equal measure of potential liability. That’s why licensed and responsible general contractors carry a lot of insurance, from contractors’ liability insurance to workers compensation insurance.

All these different forms of insurance coverage ultimately protect the customer if things don’t go according to plan. In fact, states generally won’t even issue a contractor’s license if the minimum level of insurance isn’t in place.

All subcontractors will either have their own insurance or they’ll be operating under the general contractor’s license and insurance coverage. Either way, you as the customer will enjoy a substantial level of protection simply by virtue of using a licensed and bonded contractor. Their insurance protects you from having to bear the financial consequences of a job gone wrong, or a workplace injury, but only as long as you use their services.

What Can Go Wrong With Unlicensed Contractors?

Many things can go wrong on a construction job, from injuries to shoddy workmanship to destruction of power, sewer or water lines. Ultimately, all issues are the responsibility of the general contractor. The general contractor and their insurance carriers are the primary payers in the event something goes awry on the job.

Now here’s the dirty little secret: If you don’t hire a licensed and insured contractor to handle your project, you’re the general contractor!

If your unlicensed contractor breaks a sewer line, you’re responsible. If a worker gets hurt and can’t work for two years, and there’s no workers compensation coverage in place, you are on the hook for that workers’ medical bills and lost wages.

What’s more, your standard homeowners insurance or landlord liability insurance isn’t going to cover you for these events. Most of these policies exempt damage caused by the knowing use of illegal or unlicensed contractors.

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Consequences for Landlords

Landlords should be very wary of property management companies that make use of unlicensed or uninsured contractors. When they do, they are potentially putting you at risk, too.

If your property manager brings in an unlicensed or uninsured contractor, and something goes wrong, courts have generally held the property owner liable along with the property manager.

The Danger of Hiring Friends as Contractors

Hiring friends as contractors doesn’t make the liability and risk issues go away. Everyone can enter an arrangement with the best of intentions, but when your buddy falls off the ladder and files a claim with their insurance company, they may well pay the claim and then go after you in subrogation proceedings (the area of law in which insurance companies fight to get reimbursed after paying their customers’ claims).

In one California case, Mendoza v. Brodeur, a homeowner asked his neighbor to do some work for him on his home. But the neighbor got hurt on the job. The homeowner thought he was hiring an independent contractor who had his own insurance. The court rejected that reasoning, and found instead that the homeowner was the neighbor’s employer and therefore should have had workers compensation coverage in place to cover the possibility of injury on the job. Since workers compensation wasn’t there, the homeowner has to cover the costs personally.

Summary: the Risks of Hiring Unlicensed Contractors

Failing to hire an insured, licensed and street-legal contractor could potentially cost you everything you own. If the worst happens, you could be sued into bankruptcy, and most state laws only allow you to keep a very limited amount of wealth or property once you declare bankruptcy.

Most homeowners insurance policies specifically exclude damages arising from the work of unlicensed contractors, so they will not protect you. You may be able to isolate investment properties from your own personal holdings via the skillful use of entities. But you could still lose the property in a bankruptcy proceeding if you don’t have the liquidity to pay a judgment.

Using an unlicensed contractor to save a few dollars may be tempting in the short run – but the potential risks far outweigh the benefits.

Save Time and Money With a Conflict Resolution Hotline

Tempers can run hot when it comes to homeowner and condominium association disputes. After all, when associations either pass a new rule or enforce an old one, they are quite literally hitting homeowners where they live. From the homeowners’ perspective, there’s no escaping your association without uprooting one’s entire life.

Use a conflict resolution hotline to amicably solve your association's disputesBecause of this tendency for tempers to flare, we’ve all seen petty disputes escalate to all-out war, demanding a lot of time and money from all parties involved when little to none of both should be required.

One easy and cost-effective technique for handling such disputes is to participate in or create an HOA conflict resolution hotline. These hotlines are phone numbers (or sometimes email addresses) operated by a third party, someone not involved in the dispute who is seen as knowledgeable, neutral and credible to both parties. They work because, in times of conflict, you can quickly calm things down and steer negotiations toward an amicable end merely by getting a third party involved.

Combine Mediation With Your Conflict Resolution Hotline

A conflict resolution hotline is not a court of law. They typically lead either to an education process, where the complainant may realize from an initial conversation that they don’t have a legitimate case, or some variant of mediation, a non-binding, voluntary process that is typically less expensive than settling things in court.

According to the New York City Bar Association, about 70-80% of cases that make it to mediation are settled at that point. This means that there is the potential for substantial cost savings in routing disputes toward mediation rather than taking them to court.

The Volume and Content of Conflict Resolution Hotline Calls

Prepare to be surprised by the volume and nature of complaints that come in through your conflict resolution hotline, should you set one up. For example, when the Colorado Division of Real Estate established and publicized such a hotline, they fielded thousands of complaints of a surprisingly serious nature. “We went in with the assumption that we’d get a lot of ticky-tack complaints,” said one Colorado official. “We were wrong. Most of the issues were major ones.”

Colorado officials broke down most of the complaints filed through the hotline into the following categories:

  • Records and transparency issues: 17% of all complaints
  • Boards not following governing documents: 14% of all complaints
  • Boards not listening to homeowner concerns: 13% of all complaints
  • Failure to perform maintenance: 12% of all complaints
  • Homeowner harassment: 11% of all complaints

Costs of Implementing a Conflict Resolution Hotline

There are two layers to think about when it comes to the cost of setting up a conflict resolution hotline: the cost of setting up a separate phone line and paying someone to answer it. These costs will be significant, regardless of your association, but can fortunately be amortized across as many different properties as you can imagine. Your HOA may also be able to piggyback on an existing program in your area to minimize your costs.

Then there’s the cost of mediation itself, which is typically just a few hundred dollars. While this is by no means an insignificant amount of money, it is well below the cost of taking a dispute to trial or even to mandatory arbitration.

The Role of Hotlines Within Institutions

Don't resolve disputes on your own - get professional help from an association managerA hotline can be a valuable way to hold your association to a high standard. It’s a vital tool that enables whistleblowers to effect change without having to air out problems with media or law enforcement, and may prevent bigger lawsuits for your association down the line.

Other professions and institutions have made hotlines an integral part of their own standards for accountability. For example, according to the Journal of Accountancy, in the accounting industry “internal tips were cited by business and industry CPAs [in a survey] as the most common detection method for frauds that occurred at their organizations.”

Should You Set Up a Conflict Resolution Hotline?

It’s inevitable that all association board members will need to resolve unpleasant disputes at some point during their tenures. While dealing with these disputes is unavoidable, facing them alone is not. Implementing a conflict resolution hotline is an effective method for bringing in experienced third parties to help your association field and respond to homeowner complaints – and avoid escalating their issues into costly litigation in the process.

Unfortunately, conflict resolution hotlines are not for everyone as they can be costly and time-intensive to set up and staff. In comparison, professional association managers serve as conflict resolvers and legal advisors at no extra cost to the fees they charge for the highly-valuable services they usually provide, like dues wrangling and maintenance managing. If you would like to save time, energy and money by having a professional association manager resolve disputes on your behalf, we strongly urge you to get a free quote from one. Click here to browse a list of our favorite association managers.

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