Trial Court: Superior Court of Solano County Trial Judge: Honorable James Ritchie (Marin County Super. Ct. No. CV083670)
The opinion of the court was delivered by: Rivera, J.
CERTIFIED FOR PUBLICATION
The City of Berkeley and Arntz Builders entered into a construction contract. Under the contract, the City was entitled to retain a percentage of the moneys earned by Arntz to ensure satisfactory completion of the work (the retention funds). As permitted by law, Arntz placed securities into escrow as a substitute for the retention funds. The terms of the escrow agreement are dictated by statute; they provide, among other things, that the City has the right to draw upon the securities if the contractor defaults, and that the escrow agent (here, Westamerica Bank) must immediately convert the securities to cash and distribute it to the City "[u]pon seven (7) days written notice to Escrow Agent from the City of the default." The escrow instructions also provide that the City and Arntz "shall hold the Escrow Agent harmless from Escrow Agent's release and disbursement of the securities" in reliance on the written notification.
The City sent a written, seven-day notice of default to the Bank and demanded immediate liquidation and distribution of the securities to the City. Arntz objected to disbursement of the securities to the City on grounds that the City was not entitled to the funds pursuant to the terms of the underlying construction contract. Arntz threatened to sue the Bank if the funds were released. Westamerica filed a complaint in interpleader, and the City demurred. The trial court sustained the demurrer without leave to amend.
We affirm. It is our conclusion that the complaint, taken together with the escrow agreement, does not show a reasonable probability that the Bank will be subject to double claims which may give rise to double liability if it complies with the City's demand (Code Civ. Proc., § 386), and, accordingly, the Bank has not stated a claim for the equitable remedy of interpleader.
A. The Purpose of Retained Earnings and Applicable Statutes
Before embarking on our analysis of this case, we will set the stage with a brief discussion of the purpose of retention funds in construction contracts, and a summary of two relevant statutes.
Construction contracts routinely include provisions that allow the owner to withhold a portion of the progress payments earned by the contractor as a means to ensure satisfactory completion of work. As explained by our Supreme Court, "it is common for construction contracts to contain terms that protect an owner's construction funds. Owners and contractors generally structure their contracts to provide for installment payments to the contractor as the work progresses, typically as the work reaches specified stages of completion. [Citation.] '. . . . A percentage of funds held until completion of all of the work is called retainage and is intended both to reduce the risk of nonperformance by the contractor and to assure the completion of the work in accordance with the contract terms.' [Citation.] Progress payments and retainage serve to reduce both the owner's and the surety's risk. [Citation.] [¶] Thus, if an owner avoids overpaying the contractor as the project progresses, then the owner should have funds available to apply toward completion of the project in the event of the contractor's default. Indeed, when the surety, pursuant to a bond, undertakes to complete the project itself or expends funds to enable another contractor to do so, the surety is entitled to reimbursement from the retainage. [Citation.] Likewise, if the surety fails to perform under the bond, the owner/obligee may, on its own, look to the marketplace to find a replacement contractor and use the unexpended sums to pay for that contractor's services." (Cates Construction, Inc. v. Talbot Partners (1999) 21 Cal.4th 28, 55-56, fns. omitted; see also, Western Landscape Construction v. Bank of America (1997) 58 Cal.App.4th 57, 59 [purpose of retention system is to encourage completion of work by withholding part of moneys earned until work is completed in a satisfactory manner].)
By law, there is an alternative to the withholding of retention funds. A contractor on a public works project may elect to deposit into an escrow account securities equivalent in value to the amount that would have been retained by the owner. (Public Contract Code, § 22300.)*fn1 If the contractor does so, it is entitled to receive the full amount of each progress payment, and no funds are withheld for the retainage. (§ 22300, subd. (a).) Thus, the securities held in escrow are, in purpose and effect, the retained earnings of the contractor held by the public entity/owner against the risk of nonperformance by the contractor, except the funds are actually held by an escrow agent in the name of the owner. (§ 22300, subd. (f).) The purpose of allowing escrowed securities in lieu of retentions is to permit the contractor, rather than the owner, to earn interest on the retention. (See fn. 9, post, and accompanying text.) The terms of the entire escrow agreement are mandated by statute, which prescribes how the securities, and the interest they produce, are to be released to the parties. (§ 22300, subd. (f).)
One other statute is pertinent to retention funds and the matters we here address. In the event an owner wrongfully withholds the retained earnings from a contractor, section 7107 grants special remedies. Subdivision (c) of that statute provides that the retention withheld by the public entity/owner must be released to the contractor within 60 days after completion of the work. The statute also provides that if the retention is not released within the time prescribed, "the public entity . . . shall be subject to a charge of 2 percent per month on the improperly withheld amount, in lieu of any interest otherwise due[, and] in any action for the collection of funds wrongfully withheld, the prevailing party shall be entitled to attorney's fees and costs." (§ 7107, subd. (f).) The owner is thus subject to statutory penalties if it refuses to release the retention in a timely fashion, but if there is a dispute between the owner and the contractor concerning the work, the owner may withhold up to 150 percent of the disputed amount beyond the prescribed period. (§ 7107, subd. (e).)
We turn now to the history of this action.
In 1999, the City of Berkeley contracted with Arntz Builders to carry out the restoration and expansion of the Berkeley Central Library (the Library contract). In connection with that contract, as required by law, the City allowed Arntz to "substitut[e] . . . securities for any moneys withheld by [the City] to ensure performance under a contract . . . ." (§ 22300, subd. (a).) Arntz elected to do so, and deposited securities valued at $2,193,895 with Westamerica Bank, the escrow agent. By depositing that sum into escrow, Arntz was entitled to receive the full amount of its progress payments from the City.
An escrow agreement was executed by Arntz, the City, and the Bank. As we have noted, the terms of the agreement, governing the rights and obligations of the parties, are controlled by statute. (§ 22300, subd. (f).) The key provisions of the parties' escrow agreement, tracking the statutory language, are these:
"(1) . . . . Securities [deposited by Contractor] shall be held in the name of the City, and shall designate the Contractor as the beneficial owner. [¶] . . .[¶]
"(5) Interest earned on the securities . . . held in escrow . . . shall be for the sole account of Contractor and shall be subject to withdrawal by Contractor at anytime and from time to time without notice to City.
"(6) Contractor shall have the right to withdraw all or any part of the principal in the Escrow Account only by written notice to the Escrow Agent accompanied by written authorization from the City to the Escrow Agent that City consents to the ...