Opinion ID: 799695
Heading Depth: 2
Heading Rank: 3

Heading: Surety Liability

Text: Finally, BMD argues that because the payment bond does not expressly incorporate the terms of the Industrial Power/BMD subcontract, Fidelity can be liable to BMD under the bond even though Industrial Power is not liable under the subcontract. This argument contradicts basic principles of surety law. In Indiana, as elsewhere, a surety must answer only for the debts of the principal and cannot be liable where the principal is not. Under Indiana law a surety contract obligates the surety to answer for the debt, default, or miscarriage of another. Meyer v. Bldg. & Realty Serv. Co., 209 Ind. 125, 196 N.E. 250, 253-54 (1935). Surety contracts are not bilateral, but rather create a tripartite relation between the party secured, the principal obligor, and the party secondarily liable, and the rights, remedies, and defenses of a surety cannot be disassociated from this relationship. Id. at 253. Indiana courts therefore recognize that `[g]enerally, a surety's liability is no greater than the principal's.' In re Kemper Ins. Cos., 819 N.E.2d 485, 491 (Ind.Ct.App.2004) (quoting Goeke v. Merch. Nat'l Bank & Trust Co. of Indianapolis, 467 N.E.2d 760, 768 (Ind.Ct.App.1984)). This is the general rule regarding the scope of surety liability. See, e.g., 74 AM.JUR.2d Suretyship § 88 (2001) (As a general rule, a surety on a bond is not liable unless the principal is, and, therefore, he may plead any defense available to the principal.); 72 C.J.S. Principal and Surety § 79 (2005) ([A] surety is not liable to an obligee unless its principal is also liable.). BMD relies on the principle that surety contracts, like insurance contracts, are construed strictly against the surety, with any ambiguity resolved in favor of the covered party. See, e.g., Garco Indus. Equip. Co., Inc. v. Mallory, 485 N.E.2d 652, 654 (Ind.Ct.App.1985) ([T]he contract of a surety for hire is viewed as analogous to an insurance contract, and is construed most strictly against the surety and in favor of the person to be protected.). This is perfectly true but perfectly irrelevant. This case raises a question about the scope of Industrial Power's liability to BMD and whether Fidelity's liability as a surety is coextensive with its principal's. The rule that ambiguities in a surety bond are strictly construed against the surety does not help answer the pertinent questions here. On this point the Indiana Supreme Court's decision in Meyer is instructive: In construing an ambiguous provision in a corporate surety contract, the courts apply the rule applicable to insurance policies, namely, that the language will be construed most strongly against the insurance company. . . . But when the courts are dealing with the rights, remedies, and defenses of a surety, the rules of insurance furnish no help. 196 N.E. at 253. Fidelity is liable up to, but not beyond, the full liability of its principal, unless the surety contract clearly says otherwise. See Kemper, 819 N.E.2d at 493-95. BMD has not identified anything in the surety contract that says otherwise. BMD emphasizes that the payment bond does not expressly incorporate the terms of the Industrial Power/BMD subcontract, but this is legally insignificant. As we have explained, surety contracts create tripartite relationshipsthe very existence of a surety implies an underlying obligation between the principal and its obligee. Accordingly, Indiana courts have recognized that where a contract and a surety bond are executed together, they must also be construed together. See Weed Sewing Much. Co. v. Winchel, 107 Ind. 260, 7 N.E. 881, 883 (1886); Vanek v. Ind. Nat'l Bank, 540 N.E.2d 81, 84 (Ind.Ct.App.1989). This principle of joint construction is really just a restatement of the more general rule that a surety will not be liable where the principal is not. BMD contends that the payment bond and the Industrial Power/BMD subcontract were not in fact executed concurrently. BMD is not entirely clear about the record support for this claim, but it seems to be relying on the fact that the payment bond does not specifically incorporate the Industrial Power/BMD contract. As we have noted, this detail is irrelevant. The payment bond was executed in favor of the claimants of Industrial Power under the Walbridge/Industrial Power contract, and it defines claimant in a way that clearly includes BMD under its subcontract with Industrial Power. The bond thus makes Fidelity a surety with respect to Industrial Power's obligations to BMD under that subcontract. This is really just to say that the bond is, in fact, a surety contract. Perhaps BMD is arguing that the two contracts are not concurrent because one was signed two weeks after the other. Concurrent here does not mean signed on the same day. It is enough that the bond clearly secures Industrial Power's contractual obligation to BMD; there is no ambiguity about that. Indiana surety law is therefore quite clear on two general points: (1) sureties are generally liable only where the principal itself is liable; and (2) concurrently executed bonds and the contracts they secure are construed together. These surety-law principles firmly support Fidelity's position that it cannot be liable under the payment bond if Industrial Power is not liable under the subcontract. Although there are no Indiana cases applying these general principles in this particular context, courts in other jurisdictions have done so. See Faith Techs., Inc. v. Fid. & Deposit Co. of Md., Civ. Action No. 10-2375-MLB, 2011 WL 251451 (D.Kan. Jan. 26, 2011); Fixture Specialists, Inc. v. Global Constr., LLC, Civ. Action No. 07-5614 (FLW), 2009 WL 904031 (D.N.J. Mar. 30, 2009); Wellington Power Corp. v. CNA Sur. Corp., 217 W.Va. 33, 614 S.E.2d 680 (2005). [5] Each of these cases is essentially identical to this case: The underlying subcontract contained a pay-if-paid provision that excused the principal from its payment obligation; the principal failed to pay because it did not receive payment; the subcontractor sued on a payment bond; and the surety asserted the pay-if-paid clause as a defense to liability even though the bond itself contained no such provision. In all three cases, the court held in favor of the surety, relying on the general principle that the surety could assert all the defenses of its principal. Against this weight of authority, BMD cites Culligan, a decision of this court that has some superficial similarity to this case. On close reading, however, Culligan is distinguishable. There, as in this case, a subcontractor sued on a surety bond securing the prime contractor's payment on the subcontract. The property owner did not pay the prime contractor, the prime contractor in turn failed to pay the subcontractor, and the subcontractor looked to the surety for payment. Applying Indiana law, we held that the owner's nonpayment of the prime contractor did not affect the surety's liability on the bond. 580 F.2d at 254. We held that the bond's identification of the subcontract was merely a reference, not an incorporation, and therefore did not change or modify the terms of the bond itself. Id. BMD argues that Culligan supports the proposition that a surety bond and a subcontract may be construed independently and that a subcontractor may recover against a surety under the terms of the bond alone, regardless of whether the principal itself was liable. Stated as such, Culligan would seem to support BMD's position. But this argument elides a critical distinguishing factthe subcontract in Culligan contained only a pay- when -paid clause, not a pay- if -paid clause, [6] so the contractor in that case was itself liable to the subcontractor. Not only had the owner breached its obligation to the contractor, but the contractor had also breached its obligation to the subcontractor. Because the pay-when-paid provision did not excuse the principal in the first place, the surety was liable to the same extent as the principal. Admittedly, our decision in Culligan does not specifically state this principle in so many words; the opinion simply holds that the owner's breach did not discharge the surety of its obligations. But as we have noted, the subcontract in Culligan did not contain a pay-if-paid clause, so there was no reason for the court to address the hypothetical scenario in which a surety is sued but the principal is not itself liable for payment. It is telling that the primary case cited in Culligan is Midland Engineering Co. v. John A. Hall Construction Co., 398 F.Supp. 981 (N.D.Ind.1975), which likewise involved a subcontract containing only a pay-when-paid clause. To whatever extent Culligan can be read to contain principles broader than its actual holding, we are authorizedindeed required to conform our decision to predict how the current Indiana Supreme Court would rule. See Taco Bell Corp. v. Cont'l Cas. Co., 388 F.3d 1069, 1077 (7th Cir.2004). Indiana surety law has not changed since Culligan was decided, but it has been explained, and the principles relevant to this case have been affirmed and clarified. See Kemper, 819 N.E.2d at 491 (`Generally, a surety's liability is no greater than the principal's.' (quoting Goeke, 467 N.E.2d at 768)). More importantly, we are now confronted with a question that we did not consider in Culligan whether the subcontractor has a claim against a payment bond regardless of whether the principal is liable for payment under the subcontract. Nothing in Culligan addresses this question, so there is no contradiction in now clarifying that the Culligan rule does not apply where a pay-if-paid clause excuses the principal entirely. Our holding, of course, simply affirms the prevailing general rule that a surety is only liable where the principal itself is liable. The district court identified a somewhat different reason for distinguishing Culligan. The Fidelity bond provides that a claimant may sue to recover such sums or sums as may be justly due claimant. The district court held that this language necessarily implies the existence of the separate contract between Industrial Power and BMD, so that the phrase justly due could only refer to sums justly due under that contract. See Taylor Constr. Inc. v. ABT Serv. Corp., 163 F.3d 1119, 1122 (9th Cir.1998) (sums justly due means due under the subcontract); U.S. for Use & Benefit of Woodington Elec. Co. v. United Pac. Ins. Co., 545 F.2d 1381, 1383 (4th Cir.1976) (same). The surety bond in Culligan did not contain similar qualifying language. This distinction is secondary to the more important distinguishing fact that the principal in Culligan was itself on the hook to the subcontractor, and Industrial Power, the principal here, is not. We also note that the cases the district court cited in support of its interpretation of the phrase justly due are not precisely on point. [7] Both Taylor and Woodington interpreted the phrase sums justly due as used in a federal statute, not in a payment bond. The question in those cases was not whether the sureties were liable, but rather how much they were obligated to pay. To answer this question, the courts naturally looked to the subcontract. That approach is persuasive here, but as an additional basis to distinguish Culligan. The pay-if-paid clause in the subcontractnot the justly due language in the payment bonddoes most of the work here. Finally, BMD relies on the Fourth Circuit's divided decision in Moore Bros. Co. v. Brown & Root, Inc., 207 F.3d 717, 723-24 (4th Cir.2000), which held that even where a pay-if-paid clause excuses the contractor's nonpayment, the subcontractor can still recover against the surety. [8] Moore Bros. cannot overcome the countervailing weight of authority. First, the decision is weak on the merits. The main point made by the Moore Bros. majority was that it would defeat[ ] the very purpose of a payment bond to let the surety assert the pay-if-paid clause as a defense against recovery. Id. at 723. This mistakenly assumes that the purpose of a payment bond is to insure subcontractors against nonpayment under any circumstances, rather than when payment is in fact due under the relevant contract. As Judge Wilkins noted in partial dissent, [t]he simple fact here is that someone either [the contractor], the Subcontractors, or [the surety]had to bear the risk that [the owner] would not pay [the contractor]. Virginia law specifically allows subcontractors to bear that risk, and the Subcontractors here agreed to do so. Id. at 727, 729 (Wilkins, J., concurring in part and dissenting in part). The Moore Bros. majority relied chiefly on a line of reasoning that we have rejected. Second, while the Moore Bros. majority cited three lower-court cases purporting to support its position, see id. at 723 (majority opinion) (citing Brown & Kerr, Inc. v. St. Paul Fire & Marine Ins. Co., 940 F.Supp. 1245 (N.D.Ill.1996); Shearman & Assocs. v. Cont'l Cas. Co., 901 F.Supp. 199 (D.Vi.1995); OBS Co. v. Pace Constr. Corp., 558 So.2d 404 (Fla.1990)), none were exactly on point. Shearman and OBS Co. held that a surety could not assert a pay-if-paid clause as a defense against a suit on the bond, but the outcome in both cases turned on the application of lien statutes specific to those jurisdictions. In essence, those courts held that local lien law would be thwarted if the protection provided by the bonds was not equal to that which would have been provided under the liens. Moore Bros., 207 F.3d at 729 n. 4 (Wilkins, J., concurring in part and dissenting in part). And while the Florida Supreme Court in OBS Co. reached the same result without specifically relying on local statutes, it also held that the subcontract in question contained only a pay-when-paid clause and thus did not excuse the principal in the first place. OBS Co., 558 So.2d at 407. Moore Bros. is therefore unpersuasive and contrary to basic Indiana surety-law principles. It is telling that Faith Technologies, Fixture Specialists, and Wellington Power all of which applied general principles of surety law in the context of pay-if-paid subcontractswere decided after Moore Bros., and all three considered and rejected the Moore Bros. position. Because our responsibility in this case is to predict how the Indiana Supreme Court would rule on this issue, we do best to heed the weight and trajectory of decisions in other courts. See Ludwig v. C & A Wallcoverings, Inc., 960 F.2d 40, 42 (7th Cir.1992) (Courts of appeals must `strive to parse state law and, if necessary, forecast its path of evolution.' (quoting Belline v. K-Mart Corp., 940 F.2d 184, 186 (7th Cir.1991))). The clear trend of recent caselaw bolsters the basic principle of Indiana law that a surety may assert all the defenses of its principal. Fidelity, no less than Industrial Power, may rely on the pay-if-paid clause in the Industrial Power/BMD subcontract to defend against this suit on the payment bond. Summary judgment was properly entered in favor of Fidelity. AFFIRMED.