The New Prevailing Wage Law Trap — SB 975 and Beyond

I. INTRODUCTION In order to make difficult in-fill sites feasible to develop and reduce the burden of complying with expensive governmental requirements, many developers and builders in recent years have successfully sought and obtained financial assistance or relief from redevelopment agencies, cities, and counties – fee waivers or deferrals, land “write downs,” public contributions to site preparation costs or the cost of installing offsite public improvements, and various types of grants and below-market rate loans. Beware of public agencies bearing gifts! Based upon recent administrative and legislative changes to California’s prevailing wage law requirements, your acceptance of cash or in-kind governmental assistance may very well result in your “private” development project being reclassified as “public works” subject to all of the onerous prevailing wage law requirements set forth in the California Labor Code. The difference in labor costs between “private” works of improvement and “public works” that are subject to prevailing wage laws can be as much as 15%-30%. Moreover if your project is a “public work” you must maintain detailed certified payroll records for all workers on the job, comply with apprenticeship program requirements, and meet other regulatory standards as well. Finally, if you ignore the rules and fail to comply with applicable prevailing wage requirements you are liable not only for full back pay to any workers who were paid less than the prescribed minimum wage rates (as determined by the California Department of Industrial Relations or “DIR”), you are also subject to severe civil and even criminal penalties as well, including (1) penalties of up to $50.00 per worker per day for each worker who was not paid the minimum prevailing wage rate, (2) an order from the DIR compelling the withholding of funds due under a construction contract (to secure payment of the unpaid wages and penalties), and (3) misdemeanor charges for failing to make certified payroll records available and felony charges for any contractor “who takes, receives or conspires with another to take or receive, for his own use or the use of any other person any portion of the wages” of any worker entitled to the higher “prevailing” wage. Union watchdogs are actively monitoring compliance with prevailing wage laws in many communities and are filing complaints with the DIR when they believe violations have occurred. The benefit of that fee waiver, land write down, or public agency contribution to site preparation or offsite public improvement costs you were so happy to receive can be vastly outweighed by the financial burden of having your private development project to become a “public work.” How did this happen? What can you do about it? While there are fewer structuring techniques that can be used today to obtain public agency financial assistance and still avoid the applicability of California’s prevailing wage law requirements, several options still do exist and it is important for all developers, builders, and contractors to understand them. Moreover, even if prevailing wage law requirements cannot be avoided, it is vital that you understand the expanded reach of the prevailing wage laws for obvious budgeting, planning, and contracting purposes. II. THE CONSEQUENCES OF HAVING YOUR PROJECT CLASSIFIED AS A “PUBLIC WORK”: A BRIEF SUMMARY OF CALIFORNIA’S PREVAILING WAGE LAW REQUIREMENTS. In general, developers, builders, and contractors who are subject to California’s prevail­ing wage requirements must, among other things: (i) Pay or cause to be paid not less than the prevailing wage to all workers on projects in excess of $1,000. (See California Labor Code §§ 1771 and 1774 and Section 16000 of Title 8 of the California Code of Regulations (promulgated by the DIR).) The DIR sets the prevailing per diem, holiday, and overtime wage rates for various crafts, classifications, and types of workers by locality and periodically updates its determinations. See generally, Labor Code §§ 1773-1773.1. Commercial/industrial wage rates are generally published in advance, whereas wage rates for residential projects must be obtained on a project-by-project basis by separate request to the DIR. If a wage rate for a craft, classification, or type of worker is not published in the DIR’s general prevailing wage determinations, a request for a special determination must be made through the Chief, Division of Labor Standards and Research, P.O. Box 420603, San Francisco, CA 94142, at least forty-five (45) days prior to the project bid advertisement date. In general, the DIR pegs prevailing wage rates at or near closely analogous union scale wages negotiated through the collective bargaining process, although no automatic rule applies. (ii) Post the prevailing rate of per diem wages (as determined by the DIR) at each job site. (Labor Code § 1773.2.) (iii) Maintain and make available for inspection certified payroll records containing detailed information on a worker-by-worker basis. (California Labor Code § 1776 and Section 16400(e) of Title 8 of the California Code of Regulations.) (iv) Comply with statutory apprenticeship requirements. (California Labor Code § 1777.5.) Two common misconceptions held by many developers, builders, and contractors are that the prevailing wage requirements apply only to construction contracts awarded by a public agency and then only if the public agency expressly mandates in the construction contract that prevailing wages be paid. Both notions are untrue. In Lusardi Construction Co. v. Aubry (1992) 1 Cal.4th 976, the California Supreme Court held that the prevailing wage laws also apply to a construction contract entered into between a private developer and its contractor (Lusardi) and, in addition, the court ruled that the obligation of private contractors to pay prevailing wages on public works projects derives directly from the California Labor Code regardless of whether the public agency has also violated the law by failing to include the prevailing wage language in its contract with the developer or the developer has similarly violated the law by failing to include these requirements in its contract with the contractor. In other words, ignorance of the law is no excuse and you can’t defend yourself by saying nobody told you the rules. While a truly “innocent” private party may be relieved of the obligation to pay the statutory penalties of up to $50 per worker per day, it will not be relieved of the liability for back pay. III. THE WORLD PRIOR TO SEPTEMBER 2000: WHEN “PUBLIC WORKS” MEANT “PUBLIC” WORKS. California’s prevailing wage law requirements apply only to “public works” projects. You may think you know a public work when you see one. Guess again. The classic “public works” project is obviously a public facility or improvement intended for public use and contracted for by a public agency. Prior to the Fall of 2000, very few private development projects were classified as “public works.” Examples of common situations found not to constitute “public works” triggering prevailing wage law requirements in prior years included: (i) A private development occurring after a public agency’s sale or lease of property to the developer at less than fair market value or fair rental value. McIntosh v. Aubry (1993) 14 Cal.App.4th 1576 and County of Sonoma, Valley of the Moon Boys and Girls Club, DIR Public Works Case No. 99-002 (April 9, 1999). (ii) A private development for which the public agency waived development impact fees or building permit or inspection fees. McIntosh v. Aubry, supra and Mendocino Solid Waste Management Authority, DIR Public Works Case No. 97-016 (January 28, 1998). (iii) A private development assisted with non-cash benefits provided by the public agency. See, e.g., Carver-Greenfield Demolition/Salvage Project (Los Angeles County Sanitation District) DIR Public Works Case No. 97-014 (March 17, 1998) (salvage materials from demolition of a waste water treatment plant). (iv) A private development that a public agency assisted by funding related offsite public improvements. County of Sonoma, Valley of The Moon Boys and Girls Club, supra (offsite public improvements paid for by the local agency constitute “public works” for which prevailing wages must be paid, but this does not “transform” the private improvements into public works for which prevailing wages must be paid). (v) A private development to which a public agency lent funds on favorable terms to assist in the financing of the private improvements. McIntosh v. Aubry, supra. (vi) A private development for which a public agency provided financial assistance in the form of payment of certain site preparation costs. Big League Dreams Jurupa/Riverside County Redevelopment Agency Jurupa Valley Sports Center, DIR Public Works Case No. 98-009 (December 8, 1998) (site preparation work directly paid for or reimbursed by the public agency was a “public work” for which prevailing wages must be paid, but “[t]he use of public funds for specific aspects of the entire project does not transform the privately financed . . . project into a public works . . . .”). So far, no problem. But then the world changed. IV. THE DIR’S CHANGE OF POSITION, PUBLIC CONTROVERSY, AND THE ADOPTION OF SB 975. Commencing in the Fall of 2000, the DIR suddenly and unexpectedly repudiated a number of its own earlier decisions, some of which are cited above, and commenced reclassi­fying private development projects as “public works” subject to California’s prevailing wage law requirements. Among the new crop of DIR rulings were the following: (i) Land “write down” and loan forgiveness provisions in a disposition and development agreement for a mixed-use commercial redevelopment project triggered prevailing wage requirements. Town Square Project, City of King, DIR Public Works Case No. 2000-011 (December 11, 2000). (ii) A private development project for which a public agency provided assistance by paying for the cost of installing incidental offsite public improvements triggered prevailing wage requirements for the entire project, not just for the offsites, based upon five vague factors: (a) the manner in which the construction is organized in terms of bids, construction, and contracts, (b) the physical layout, (c) direction and supervision, (d) financing and administration of construction funds, and (e) the interrelationship of various aspects of the construction. Vineyard Creek and Conference Center, Redevelopment Agency of the City of Santa Rosa, DIR Public Works Case No. 2000-016 (October 16, 2000). (iii) Redevelopment agency payment of a developer’s development impact fees and plan check fees to the city converted the private office and industrial developments into “public works” for which prevailing wages must be paid. Downtown Redevelopment Plan Projects in the City of Vacaville, DIR Public Works Case No. 2000-015 (October 20, 2000; affirmed on administrative appeal March 22, 2001). Several of the DIR’s most recent decisions, issued without any authorizing legislative change and contradicting the DIR’s own earlier interpretations of the law – came under legal attack. Recognizing the vulnerability of the DIR’s new rulings, the building trades unions last year persuaded a friendly California Legislature to pass and the Governor to sign a bill (SB 975) that codifies and in some respects even extends some of the DIR’s challenged administrative decisions. V. THE BASIC PROVISIONS OF SB 975. Under California Labor Code § 1720(a), “public works” means “construction, alteration, demolition or repair work done under contract” and “paid for in whole or in part out of public funds.”1 SB 975 leaves this definition intact but adds a new subdivision (b) to Section 1720 that expands the meaning of the phrase “paid for in whole or in part out of public funds” to include: (i) Payments of money “or the equivalent of money” by a public agency directly to “or on behalf of” a developer, contractor, or subcontractor. (ii) Performance of construction work by the public agency “in execution of the project” (which appears to mean work for the benefit of a related private development project). (iii) A public agency’s transfer to a private developer or contractor of an “asset of value” (e.g., real estate) for “less than fair market price.” (iv) A public agency’s payment, waiver, forgiveness, or reduction of any fees, costs, rents, insurance, bond premiums, or other obligations that “would normally be required” to be paid or performed by the developer or contractor. (v) A public agency’s provision of loan terms (e.g., interest rate or terms of repayment) “at less than fair market value.” (vi) Arrangements whereby payments or repayments to the public agency are reduced by credits for income the public agency receives (e.g., credits for sales taxes or property tax increment revenues generated by the private development). Unless one of the exceptions discussed below applies, SB 975 will require payment of prevailing wages and compliance with other applicable requirements of the California Labor Code applicable to public works for purely private development projects that receive any cash or in-kind financial assistance from a public agency. The scope of the new legislation significantly limits the options available to developers, contractors, and subcontractors to avoid application of California’s prevailing wage requirements to their private works of improvement. SB 975 is effective January 1, 2002. While the bill is prospective only in effect, its applicability to development projects initiated prior to January 1, 2002, is uncertain and developers, builders, contractors, and subcontractors should consult legal counsel as to whether ongoing projects are subject to the old law or the new requirements of SB 975. VI. EXCEPTIONS TO NEW PREVAILING WAGE LAW REQUIREMENTS. Exceptions to the broad reach of SB 975’s new prevailing wage law requirements include or may include the following: (i) Sale or lease of property at fair market value. Redevelopment agencies commonly incur significantly greater costs in acquiring and assembling development sites than they charge to private developers for the properties pursuant to disposition and development agreements. This is because much of the redevelopment agency’s acquisition cost is not reflected in the ultimate resale value of the land – e.g., costs for improvements that are to be demolished and cleared from the property, relocation expenses and payments for loss of business goodwill to existing occupants and business concerns that are being displaced from the property to make way for redevelopment, and costs incurred to remedy defects in the physical condition of the property (e.g., environmental remediation). The fact that the redevelopment agency “writes down” the ultimate resale price to the developer should not result in a determination that the agency has transferred an “asset of value for less than fair market price” so as to trigger prevailing wage requirements so long as the resale price is not less than fair market value. The developer in this situation would be wise, however, to insist that the redevelopment agency obtain an independent appraisal of the resale value of the property and to have this opinion reflected in the public record of the transaction in order to protect against a possible later legal challenge. (ii) Sale or lease of property at “fair reuse value.” Redevelopment agencies are authorized under California Health & Safety Code § 33433 to sell or lease property at the lesser of fair market value or the “fair reuse value at the use and with the covenants and conditions and development costs authorized by the sale or lease.” The justification is that the redevelopment agency is requiring the developer to assume extraordinary development costs or risks that should be reflected in a lower land price. Unfortunately, SB 975 does not clearly state whether the developer who receives land at a “fair reuse value” that is less than “fair market value” determined in accordance with open market highest and best use principles is obtaining an “asset of value for less than fair market price” so as to trigger prevailing wage requirements on its private development project. From the developer’s standpoint, a strong argument can be made that it has not received a financial benefit or subsidy in this circumstance, but without any clear guidance from the Legislature or the DIR no definitive answer can be provided. (iii) Financial assistance from a charter city acting within the scope of its “municipal affairs.” SB 975 did not change the prior law that authorizes charter cities to exempt themselves from California’s prevailing wage law requirements when acting pursuant to the “home rule” provisions in their charters. Charter cities generally are not required to pay prevailing wages on city projects paid for with city funds, except as may be otherwise provided for in the charter or local ordinance or policy. The DIR has very narrowly construed the “home rule” authority of charter cities, however, and takes the position that this charter city exemption does not apply if the city is acting in concert with another public agency that is not exempt (e.g., its own redevelopment agency), if any non-city public revenues are involved, or if the assistance involves a project or facility with impacts beyond the city’s jurisdiction which are a matter of “statewide concern” (e.g., an arterial highway that provides access between neighboring jurisdictions). The DIR’s rulings in this field generally have not been tested in court. Developers, builders, and contractors should exercise great caution in relying upon a charter city exemption from prevailing wage law requirements. (iv) Public assistance that is not promised and provided until after the private construction is completed. The prevailing wage law requirements of Labor Code § 1720(a) apply only to “[c]onstruction, alteration, demolition, installation, or repair work done under contract.” (Labor Code § 1720(a)(1).) In past years, public agencies and developers have attempted to avoid the applicability of prevailing wage laws by contractually allocating the public financial assistance as consideration for some non-construction or post-construction obligation or undertaking by the developer/owner – e.g., as consideration for an operating covenant that commences after construction is completed, for an easement or license granted to the public agency (e.g., for “public” parking purposes), or for a covenant to sell or rent housing units at an affordable housing cost or rent. While SB 975 is not explicit on this issue, it does not appear that a developer or builder can any longer safely avoid prevailing wage law requirements by contractually allocating the public agency’s financial assistance to non-construction or post-construction obligations. The one exception is that if the developer or property owner waits until after the private development project is completed before entering into the contract with the public agency that provides the public financial assistance there would not appear to be any “construction alteration, demolition, installation, or repair work” left to be performed to which prevailing wage requirements could apply. The obvious problem with this avoidance technique, however, is that the developer/builder ordinarily wants the public agency’s binding financial commitment in place prior to commencing (and completing) its private development project. (v) Offsite public improvements – limiting prevailing wage requirements to the public improvements and facilities. One of the few bright spots in SB 975 is its repudiation of the DIR’s decision in the Vineyard Creek and Conference Center case (see clause (ii) of the first paragraph in ¶ IV above) in which the DIR ruled that a public agency’s assistance in providing offsite public improvements resulted in the developer’s entire private development project being classified as a “public work.” Under new Labor Code § 1720(c)(2)(A), a public agency can pay for public infrastructure needed for a private project without triggering prevailing wages for the private project so long as: (a) The public infrastructure is required as a condition of the regulatory development approvals/entitlements for the private project; (b) The public agency “contributes no more money, or the equivalent of money, to the overall project than is required to perform this public improvement work;” (c) The public agency maintains “no proprietary interest” in the private development project; and (d) Prevailing wages are paid for construction/installation of the public improvement work. The uncertain meaning of the “no proprietary interest” requirement is the most troublesome aspect of this exception. Careful structuring of a transaction may help to reduce the risk of an adverse prevailing wage determination, but until the meaning of this phrase is better defined in future court decisions or DIR rulings, great care must be taken in relying upon this particular exception. (vi) Reimbursement for “normal” public costs. New Labor Code § 1720(c)(2) (B) exempts from prevailing wage law requirements situations in which public agency reimburses a private developer for costs “that would normally be borne by the public.” Again, the scope of this exemption is unclear. The exception may be useful in commonly occurring situations in which a public agency reimburses the developer for costs above its “fair share” when the public agency requires the developer to oversize a public improvement (e.g., water, sewer, and storm drains) or it obligates the developer to construct/install a facility for which the developer is only partially responsible (e.g., a traffic signal). It is also possible, although not certain, that this exception could be useful in situations in which the public agency has a generally applicable policy to reduce or waive its requirements – e.g., a policy to waive development impact fees or processing fees for affordable housing projects. Because of the ambiguity of this exception, however, we would advise caution in relying upon it. (vii) Payment of fees instead of construction/installation of public improvements. Public agencies often rely upon the private development community to construct and install public infrastructure that is needed in conjunction with private development. Many developers prefer to perform this work themselves rather than rely upon the public agency to get the job done, due to concerns regarding timing, control, and coordinating work with the developer’s own contractor as much as for reasons of efficiency and cost.2 Given the increased risk that SB 975 poses to developers and builders that their construction/installation of public infrastructure may subject even their private projects to prevailing wage requirements, however, developers/builders may elect in the future to press public agencies in more instances to accept development impact fees (even developer loans of the added funds above fee amounts needed to complete the improvements) and construct/install the public improvements themselves. (viii) De minimis public assistance. Governmental assistance to a private development project that is “de minimis in the context of the project” will not trigger prevailing wage requirements for the private project. (Labor Code § 1720(c)(2)(B).) Unfortunately, the Legislature has not deigned to define what the phrase “de minimis in the context of the project” means. Pending further legislative or administrative clarification or judicial interpretation (not expected any time soon), developers and builders should exercise extreme care in relying upon this exception. (ix) Residential projects with no agreement with certain public agencies. New Labor Code § 1720(c)(1) exempts from SB 975’s prevailing wage requirements “[p]rivate residential projects built on private property . . . if the projects are not built pursuant to an agreement with a state agency, redevelopment agency, or local public housing authority.” This exception would appear to exempt purely residential projects (as distinguished from mixed-use projects with non-residential components) for which a city or county provides financial assistance (e.g., fee reductions, waivers, or contributions to offsite improvement costs) through the vehicle of a development agreement, subdivision improvement agreement, or reimbursement agreement. (x) Redevelopment agency housing fund expenditures. New Labor Code § 1720(c)(3) exempts from SB 975’s prevailing wage requirements housing constructed or rehabilitated for low- or moderate-income persons with public funding that is limited “solely” to a redevelopment agency’s 20% housing set-aside funds. The way this exception is worded, it would not apply if the housing project is assisted with any other sources of governmental funding, including without limitation CDBG or HOME funds (even if federal regulations would not trigger Davis-Bacon prevailing wage require­ments). Use of a redevelopment agency’s non-housing fund money for an affordable housing project would also appear to trigger prevailing wage requirements the way this exception is worded. Redevelopment agencies do have the option, however, of depositing more than the statutory minimum of 20% of their tax increment revenue into their Housing Fund, so rather than using non-Housing Fund money for an affordable housing project (and running the risk that prevailing wage requirements would be triggered) a redevelopment agency would be well advised to first transfer the non-housing funds it proposes to use on the project into its Housing Fund. (xi) Short-term exception for affordable housing projects financed with mortgage revenue bonds, mortgage credit certificates, and tax credits. SB 975 further exempts from prevailing wage law requirements affordable housing projects financed with mortgage revenue bonds, and projects receiving mortgage credit certificates and state or federal low-income housing tax credits so long as the project receives an allocation of bond capacity, mortgage credits, or tax credits prior to the “sunset” date of December 31, 2003. One or a combination of the foregoing exceptions to prevailing wage requirements potentially may be applicable in a given situation. Structuring your contract or financial arrangement with the public agency to take advantage of the proper exception(s) may save your “private” project from being classified as a “public work.” VII. CONCLUSION. SB 975’s new prevailing wage law requirements are a trap for the unwary. Developers, builders, and contractors who think they know what a “public works” project is and who don’t pay attention to the intricacies of the new law may find themselves in the unpleasant position of facing greatly increased labor costs, potentially high and uncertain statutory penalties, and civil and even criminal enforcement action. There are still certain “safe harbors” that developers, builders, and contractors can rely upon to prevent or minimize the risk of having their private development projects reclassified as “public works.” Careful structuring of a transaction can help you to avoid having a minor public agency favor turning into a major private headache. _______________________ 1 It should be understood that Labor Code § 1720(a) is only one of several provisions in the Labor