APPEAL from the Appellate Court for the First District; heard
in that court on appeal from the Circuit Court of Cook County,
the Hon. ALBERT E. HALLETT, Judge, presiding.
MR. JUSTICE SCHAEFER DELIVERED THE OPINION OF THE COURT:
Opinion filed October 7, 1970. Modified on denial of rehearing,
This action by Chicago Bridge & Iron Company stems from the construction of a water tower for the Chicago Transit Authority. The general contractor was Taheny Brothers Company, and the plaintiff was a subcontractor. The defendant, Reliance Insurance Company, provided a surety bond for Taheny Brothers. When the plaintiff was not paid for labor and materials which it had supplied, it instituted this action against Taheny Brothers on its contract and against Reliance Insurance Company on its bond. The trial court dismissed the count of the complaint which sought recovery from Reliance on the ground that the plaintiff had executed a lien waiver which barred recovery against the bonding company. The trial court also found that there was no just reason for delaying enforcement or appeal. The Appellate Court, First District, affirmed (105 Ill. App.2d 91), and we granted leave to appeal.
On April 12, 1965, Taheny Brothers Company entered into a general contract with the Chicago Transit Authority for construction work which included the furnishing and installation of a 75,000 gallon water tank. The general contract and the statute (Ill. Rev. Stat. 1965, ch. 29, par. 15) required Taheny Brothers to give a performance and payment bond, and on April 12, 1965, Taheny Brothers, as principal, executed a bond with the Reliance Insurance Company as surety in the amount of $1,264,000.
On April 26, 1965, the plaintiff entered into a subcontract with Taheny under which the plaintiff agreed to construct and install the water tank. On December 8, 1965, the plaintiff had completed more than 95% of its work and submitted an invoice to Taheny Brothers requesting a partial payment of $30,200.50. The subcontract provided that partial payments were to be made "not later than five days after the date payment has been made by the Owner to the Contractor for such work." The general contract required Taheny to deliver a contractor's affidavit and waivers of lien to date to the CTA "prior to or at the time of receiving partial payments." Taheny Brothers requested that the plaintiff first execute a waiver of its lien on public funds, so that Taheny could comply with the requirement of the general contract and receive a partial payment from the CTA. The plaintiff executed the waiver in contemplation of payment, and Taheny took it to CTA and received a partial payment but never made payment over to the plaintiff. On April 1, 1966, CTA declared Taheny Brothers in default under the principal contract, and the plaintiff filed this action.
In the count of its complaint which is now before us, the plaintiff sought recovery from the surety on three grounds. First, it alleged that the very purpose of the payment bond was to guarantee against the default of the general contractor in failing to pay over construction funds to the subcontractors. Second, it alleged that it was the custom in the industry that subcontractors issue lien waivers before receiving payment, that the defendant knew of this custom, and therefore the plaintiff's release of its lien did not prejudice the defendant. Third, it alleged that the payment bond statute (Ill. Rev. Stat. 1965, ch. 29, par. 15) independently makes the surety liable to the plaintiff even though the plaintiff may have voluntarily released security and thereby prejudiced the defendant.
The defendant relies basically on the fact that the plaintiff executed a partial release of lien which enabled Taheny Brothers to obtain payment from CTA in the amount of $30,200.50, and on the general principle of surety law that a release of security by a creditor without the consent of the surety releases the surety pro tanto.
The plaintiff's first argument is that "the payment bond * * * is needed protection only when the subcontractor has, by furnishing lien waivers, permitted the general contractor to withdraw from the total municipal construction fund the money allocable to the particular subcontract. Otherwise, if the lien waivers of the subcontractor are not furnished to the municipality by the general contractor, the municipality is not obligated under the General Contract conditions to make payment and will not make payment; and the construction fund then stands intact for the subcontractor's share of the over-all contract amount."
We are not convinced by this argument, for there are other risks which the payment bond was intended to cover. As the defendant points out, "in many cases, because the contract price is inadequate or because the contractor is incompetent the contract funds will be inadequate to pay the contractor's obligations incurred in performance of the contract." See Campbell, The Protection of Laborers and Materialmen Under Construction Bonds[*] Part I, 3 U. Chi. L. Rev. 1, 7 (1935).
It is a well-settled principle of surety law that if a creditor releases collateral security without the consent of the surety, the surety is pro tanto released from its obligation. (See Restatement of Security, sec. 132; Alexander Lumber Co. v. Aetna Co. (1921), 296 Ill. 500; Pittsburgh Steel Co. v. Standard Accident Ins. Co. (DCSC 1944), 55 F. Supp. 36; Wisconsin Electric Sales Co. v. Langdon (1926), 191 Wis. 645, 211 N.W. 670; Crane Co. v. Park Construction Co. (Mass. 1969), 247 N.E.2d 591; Annotation, False receipts or the like as estopping materialmen or laborers from recovering on public work bond, 39 A.L.R.2d 1104.) As the plaintiff points out, if Taheny had paid the money it received from CTA over to the plaintiff, this loss would not have occurred.
But it is equally clear that if the plaintiff had not delivered lien waivers to Taheny, no loss would have occurred. Indeed, it is precisely because of a possible default that payment to the principal is conditioned upon production by him of some kind of assurance that he has paid his subcontractors. "It is the obligation of the creditor to protect the underlying security for the surety and if that security is dissipated without the consent of the surety, the creditor must bear the loss." (New Amsterdam Casualty Co. v. F. Redondo & Co. (Texas 1942), 158 S.W.2d 334.) We think, therefore, that the decision in Board of Education v. Hartford Accident and Indemnity Co. (1965), 60 Ill. App.2d 320, upon which the Appellate Court relied, is correct on its facts. The plaintiff has cited no case, and we have found none, which allows recovery against a non-consenting surety by a supplier who has given a waiver which allowed the principal to obtain payment.
Prepakt Concrete Co. v. Fidelity and Deposit Co. (7th cir. 1968), 393 F.2d 187, upon which the plaintiff heavily relies, does not support its position. In that case Prepakt was a sub-subcontractor to Mid-Continent Construction Company which was a subcontractor to Goethe Building Corporation, the prime contractor. The defendant, Fidelity and Deposit Company, furnished a bond for Mid-Continent. Continental Illinois National Bank was the owner of the building being constructed. Prepakt, at Mid-Continent's request, delivered a lien waiver to Goethe prior to being paid. The waiver was accompanied by a letter explaining that Prepakt had not been paid. Upon receipt of the waiver and letter, Goethe made a payment of $30,000 to Mid-Continent. When Prepakt was not paid it brought suit against Mid-Continent and Fidelity and also sought to foreclose its mechanics lien against Continental and Goethe.
The court determined that the waiver "was effective to waive the lien `on the premises' * * * but did not purport to release the statutory lien on moneys due under the contract." The court then went on to say that "[w]hen Goethe paid the $30,000 it knew Prepakt had not been paid and that the waiver's statement that Prepakt had received the $25,000 was not true. It also knew that the waiver was not an effective release of the lien on the funds due under the contract." The decision in that case is therefore not pertinent here, where there is no question but that the plaintiff effectively waived its lien on the public funds available for the payment of its claim.
Nor can we accept the plaintiff's argument that the payment bond statute was intended to guarantee payment to subcontractors like the plaintiff regardless of their own conduct. ...