Tenant Improvements Lead to Mechanic's Lien on Owner's Property

Landlord-Tenant Agency Relationship

Missouri Revised Statute ' 429.010 provides that a mechanic's lien may be placed upon an owner's land for any work or labor completed upon such land by any person who contracts with the owner or his agent. The court of appeals in the Crafton opinion explained: “When a lease requires the lessee to make improvements of a substantial and permanent nature, the lessee, in making such improvements, becomes, as a matter of law, the agent of the lessor within the meaning of the mechanic's lien law.” Crafton, No. ED102910, at *4.

The court noted that this lessor/lessee agency relationship “is not a typical principal-agent relationship, but rather, a special, limited agency arising out of section 429.010.” Crafton, No. ED102910, at *4 (citing Mid-West Eng'g & Constr. Co. v. Campagna, 397 S.W.2d 616, 628 (Mo. 1965)). The express terms and requirements of the lease therefore become of the utmost importance in determining whether an agency relationship has been created in the mechanic's lien context.

Lease Requires Tenant Improvements

In Crafton, the terms and requirements of the lease mandated that the tenant perform a complete build-out of its store. The court pointed to various elements of the lease to illustrate the mandatory nature of the improvements, including the fact that the lease required the tenant to replicate the design of its other Allen Edmonds stores through a complete overhaul of the premises and that the tenant's contractor had to provide the landlord with a security deposit to facilitate the completion of the work if the tenant or contractor abandoned the project.

Substantial and Permanent Improvements

The second element the court looked to was whether the required improvements were of a substantial and permanent nature. The trial court had found that the tenant was not the landlord's agent because the improvements made were only in an area comprising less than 1% of the entire square footage of the mall, and the value of the improvements was no more than 2% of the value of the mall. The court of appeals rejected this limited analysis. Instead, the court noted that the “substantial and permanent” element is not required by the express language of ' 429.010 but had become a part of the mechanic's lien-agency analysis over time, involved a much lower threshold than was used by the trial court, and was not subject to a precise mathematical formula.

The court of appeals explained that “where the improvements are required and completed under the control of the owner with the view of improving the property, it is immaterial whether the owner ultimately benefits by the transaction and it is unnecessary to discuss the effect of the improvements on the property.” When improvements are mandatory and the aforementioned control and intent requirements are met, “the owner's interest is enhanced at least in such a substantial manner as to make the mechanic's liens recoverable.”

The court also noted that the issue of agency in the mechanic's lien context must revolve around the intent of the owner at the time the agreement is made, and not whether the improvements ultimately increased the property's value or were “a wise decision.”

In Crafton, the landlord exercised control over the entirety of the tenant's construction of its improvements. Pursuant to the terms of the lease, the tenant was required to submit plans for the work for the landlord's approval, and the tenant could only begin work once approval was given. The Crafton contractor's bid for the improvements was submitted to and approved by the landlord. The tenant's contractor was also required to give the landlord a security deposit so the landlord could complete the work if the tenant failed to finish it, and the tenant was required to have its contractor cooperate with the landlord and correct any deficiencies found by the landlord. Further, The tenant was only permitted to use the leased premises as an Allen Edmonds shoe store, which has a particular design, and “for no other purpose whatsoever.”

Finally, the improvements constructed by the tenant were to become the landlord's property upon the expiration of the lease. Due to the substantial amount of control and supervision permitted in the lease and exercised by th landlord before and during the construction of the improvements, and because these improvements were made with the intent to improve the property, the court found that the substantial and permanent nature test of the mechanic's lien agency inquiry had been met.

Ultimately, because the tenant was required to construct and complete the improvements under the clear control of the landlord, the Missouri Court of Appeals reversed the trial court's judgment and held that the tenant became the landlord's agent for purposes of Missouri's mechanic's lien laws, and that the liens placed on the mall for work contracted for by the tenant were enforceable against the landlord.

Other Jurisdictions

Mechanic's lien laws are not uniform in each state. Minnesota courts, for example, have found that “[a]n owner of property is not subject to a mechanic's lien for improvements contracted by another if the owner gives adequate notice of the owner's intent not to be bound.” Marksman Const. Co., Inc. v. Mall of Am. Co., C0-97-1030, 1997 WL 757392, at *1 (Minn. Ct. App. Dec. 9, 1997); see also M.S.A. ' 514.06 (“As against a lessor no lien is given for repairs made by or at the instance of the lessee”). A Virginia court has held that a contractor's lien “may only cover property on which they have worked,” precluding the lien from extending “beyond the property worked upon to reach the entirety of the mall.” Elder-Jones, Inc. v. Byers, Inc., 23 Va. Cir. 40, at *2 (Va. Cir. Ct. 1990); see also VA Code Ann. ' 43-20 (“Subject to the provisions of ' 43-3, if the person who shall cause a building or structure to be erected or repaired owns less than a fee simple estate in the land, then only his interest therein shall be subject to liens created under this chapter.”).

Similarly, Texas courts have held that “[a] lien on real property cannot be established merely by virtue of a contract between a lessee of the property and the materialman. 'If a lessee contracts for construction, the mechanic's lien attaches only to the leasehold interest, not to the fee interest of the lessor.'” 2811 Associates, Ltd. v. Metroplex Lighting and Elec., 765 S.W.2d 851, 852 (Tex. Ct. App. 1989) (citing Diversified Mortgage Investors v. Lloyd D. Blaylock General Contractor, Inc., 576 S.W.2d 794, 805 (Tex. 1978)).

Maryland law uses a mathematical approach in determining whether improvements made to leased premises in a building are substantial enough to have a mechanic's lien placed on the entirety of the building. Under statute, tenant improvements on leased property must improve the entire building to the extent of 25% of its value for a lien on more than the tenant's interest in the property to be enforceable. MD. Real Prop. Code Ann. ' 9-103. Maryland courts have interpreted this statute to preclude a mechanic's lien against a portion of a mall leased by a tenant from being enforceable, unless the tenant's improvements increased the value of the entire mall by at least 25%. See Hurst v. V & M of Virginia, Inc., 293 Md. 575 (Md. App. 1982).

Conclusion

Given the complexities of the mechanic's lien laws in each state, real estate counsel for landlords should consult with their construction law colleagues in drafting tenant work letters for the construction of tenant improvements, regardless of whether or not the landlord is providing a tenant improvement allowance, in order to best protect landlords before they become subject to these liens rights.

Krista C. McCormack is an associate attorney in the St. Louis office of Lewis Rice LLC. She practices in the areas of commercial litigation, intellectual property, advertising, data protection and privacy, and labor and employment.