Authored by Darren Rowles and Scott Cahalan
When a surety receives notice that its principal has defaulted, the surety is faced with a decision. Depending on the terms of the bond, the surety can either complete the work at its own expense, obtain bids from completion contractors and then arrange for them to contract directly with the owner or other obligee, allow the obligee to arrange for completion of the work with the costs to be paid by the surety, settle with the obligee, or it can choose to defend against the default and assert the principal’s claims, if any, against the obligee. In any event, the law provides the surety a right of subrogation, allowing the surety to “step into the shoes of” the principal and use rights available under the construction contract to recover the unpaid balance of the bonded contract to set off against the cost of making payment or performing on the principal’s behalf, even in the absence of an express agreement to that effect between the surety and the principal.
In State of Georgia Dep’t of Corr. v. Developers Sur. & Indem. Co., A13A0969 (October 28, 2013), the Georgia Department of Corrections (“GDOC”) argued that the doctrine of sovereign immunity protected it from a surety’s subrogation claims. Sovereign immunity precludes legal action against the Government without its consent, premised on the principle that “the king can do no wrong.” Consent may be established by contract or statute.
In June 2008, GDOC awarded a contract to Walker Roofing. As a prerequisite to contracting, Walker Roofing was required to obtain payment and performance bonds that would assure its performance under the contract. Developers Surety and Indemnity Company (“Developers Surety”) issued the bonds.
On September 23, 2010, GDOC issued a formal notice of default with respect to Walker Roofing’s performance of its contract, thus triggering Developers Surety’s obligations under the performance bond. On July 12, 2011, Developers Surety filed a complaint against GDOC for breach of contract and for a declaratory judgment that it had no obligation under the payment and performance bond it issued to Walker Roofing as a result of GDOC’s breach. The GDOC argued that Developers Surety’s claims were barred by the doctrine of sovereign immunity.
Specifically, the GDOC argued that the State’s waiver of sovereign immunity for breach of contract did not apply to Developers Surety because Developers Surety was not a party to the construction contract between GDOC and Walker Roofing. In response, Developers Surety argued that GDOC waived sovereign immunity by entering into a contract with Walker Roofing and that the doctrine of equitable subrogation gave Developers Surety the ability to “step into the shoes” of Walker Roofing and file suit against GDOC once it incurred liability and paid the obligations of its principal under the bond.
Recognizing that the waiver of sovereign immunity in the context of equitable subrogation was an issue of first impression, the Georgia Court of Appeals turned to federal law for guidance. In Ins. Co. of the West v. U.S., 243 F.3d 1367, 1367 (C.A. Fed., 2001), the court found that the federal government’s waiver of sovereign immunity under the Tucker Act for “any claim against the United States founded . . . upon any express or implied contract with the United States” was not limited to claims asserted by the original parties to the contract, but that the waiver of sovereign immunity applied to subrogees as well. Similarly, the language of the Constitution of Georgia does not limit the waiver of the State’s sovereign immunity for breach of contract actions to particular claimants. Rather, Georgia’s Constitution provides that “[t]he state’s defense of sovereign immunity is hereby waived as to any action ex contractu for the breach of any written contract . . .” Ga. Const. Art. I, Sec. II, Para. IX(c).
Accordingly, the Court found that a surety subrogee stepping into the shoes of its principal government contractor may rely upon the waiver of sovereign immunity that applies to a government contractor. As noted by the Court,
“If the rule were otherwise, what rational business would agree to issue a payment or performance bond to benefit the State government? Under the rule proposed by the GDOC, if a dispute arose under such a bond, only the government or the government contractor would have a right of action. The business issuing the bond would not.”