In a very recently published case dealing with issues of first impression in California, here, the Second Appellate District in Los Angeles determined that the disgorgement penalty under BPC 7031(b) triggers a one-year statute of limitations given that it is a penalty, and the cause of action accrues from either the completion or cessation of the work, finding that the discovery rule is inapplicable to extend the period of exposure for unlicensed contractors.

The certainty of a ruling is welcome news in an area of California law that is painfully restrictive for contractors, as we have discussed in the past. See, e.g., arguments in the unpublished SunRun decision [here], and [here], and [here].  The impact of licensing failures is legend among lawyers who have to be – usually – the bearer of bad news for contractors, with the legislatively ‘unfair’ result, but the purpose of which is set forth by the Eisenberg decision:  Section 7031(b) does not require the plaintiff seeking disgorgement to have suffered any injury.  That is because

“‘[s]ection 7031 represents a legislative determination that the importance of deterring unlicensed persons from engaging in the contracting business outweighs any harshness between the parties, and that such deterrence can best be realized by denying violators the right to maintain any action for compensation [or requiring them to disgorge compensation already paid].’”

(MW Erectors v. Niederhauser Ornamental & Metal Works Co. (2005) 36 Cal.4th 412, 423 (emphasis and citations omitted); see also White v. Cridlebaugh (2009) 178 Cal.App.4th 506, 518-520.)

The factual circumstances of the Eisenberg decision are interesting, in that the general contractor (Suffolk) was licensed using an employee as the qualifying Responsible Managing Employee (RME).  Under the RME requirements, the court explained the law clearly, stating

[a]n RME is “an individual who is a bona fide employee of the applicant and is actively engaged in the classification of work for which that [RME] is the qualifying person on behalf of the applicant.” (§ 7068, subd. (c).)

At the time of construction at issue in this appeal, the contractors’ law provided that the qualifier “shall be responsible for exercising that direct supervision and control of his or her employer’s or principal’s construction operations as is necessary to secure full compliance with the provisions of this chapter and the rules and regulations of the board relating to the construction operations.” (Former § 7068.1, subd. (a); see Stats. 1991, ch. 145 (Assem. Bill No. 425), § 1.)⁵ CSLB regulations provide that “‘direct supervision and control’ includes any one or any combination of the following activities: supervising construction, managing construction activities by making technical and administrative decisions, checking jobs for proper workmanship, or direct supervision on construction job sites.” (Cal. Code Regs., tit. 16, § 823, subd. (b).)

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⁵ The current version of section 7068.1 provides that the qualifier “shall be responsible for exercising that direct supervision and control of his or her employer’s or principal’s construction operations to secure compliance with this chapter and the rules and regulations of the board.” (§ 7068.1, subd. (a).)

(Eisenberg Village of the L.A. Jewish Home for the Aging v. Suffolk Constr. Co., No. LC100462, slip op at 7-8 (Los Angeles County Super. Ct. August 26, 2020.)

However, Eisenberg had argued that since Suffolk’s RME had moved out of state, stopped attending meetings related to the project, and stopped having any responsibility in the project after he moved, that although perhaps originally “licensed” in 2008, the RME’s failure to comply with the RME obligations left Suffolk “unlicensed” after the RME moved out of state in late 2008.  Eisenberg also argued that it could not make that RME argument and determination until after it knew it had an unresolved construction defect claim in 2015.  After briefing and supplemental briefing at the trial court level following motions on the statute of limitations, the trial judge determined that a one-year statute of limitations applied as the statute is a “penalty” or “forfeiture,” and that in any event, the information available to or known by Eisenberg as to its potential claim was available as early as the end of 2008.  The court thereafter dismissed the disgorgement cause of action on the $49 million project.  On appeal, the court affirmed the trial court’s analysis, and declined to address the remaining arguments of whether the technical lack of compliance with the RME obligations left Suffolk “unlicensed” or not.  In part, the appellate court relied on the public policy reasons that are so harsh to also note that disgorgement is intended to be a penalty.

Instead, for reasons of policy (to deter contractors from operating without a valid license), it provides a windfall to the plaintiff, at the expense of the unlicensed contractor, since the plaintiff also retains the work completed by the contractor.

When viewed in this context, it is clear that the disgorgement provided in section 7031(b) is a penalty. It deprives the contractor of any compensation for labor and materials used in the construction while allowing the plaintiff to retain the benefits of that construction.

(Eisenberg Village of the L.A. Jewish Home for the Aging v. Suffolk Constr. Co., No. LC100462, slip op at 17 (Los Angeles County Super. Ct. August 26, 2020.)

Further, the appellate court held that it would not apply the equitable discovery rule to the accrual of the statute of limitations where “…the disgorgement mandated by section 7031(b) is not designed to compensate the plaintiff for any harm, but instead is intended to punish the unlicensed contractor.”  Highlighting the rather absurd possible applications of a discovery rule claim for disgorgement arising 10 years after completion, with no other basis for a claim against the contractor, the appellate court stated that “[t]o avoid such absurd results, and because there is no reason in equity to apply it, we hold that the discovery rule does not apply to section 7031(b) claims.”

The published opinion, while not addressing all of the potential factual and legal issues raised by the parties in the proceedings, is very instructive and helpful to advise clients (owners or contractors) regarding at least two prior matters of first impression in California.  As we have previously advised clients, in light of the restrictive rules in California regarding contractor licensing, if the question being asked is, “How close can I get to the line before it’s a violation?” you are already asking the wrong question and you should be prepared to address the arguments if not the consequences of the harsh licensing law.  At least now, however, we understand what the time limitation for such a claim will be at the outside – one year from completion of the project or cessation of the performance.