A considerable problem for real estate lenders existed when a potential borrower approached a lender for a construction loan after construction commenced.
The prior version of the Pennsylvania Mechanics Lien Law (the “Law”) provided that if visible work commenced on a project, a mechanics’ lien would relate back to the date the work began. A subsequent mortgage lien was only protected to the extent the monies secured by such mortgage were used for “hard costs” (costs of labor and materials). No such priority protection was afforded to “soft costs” (costs of refinancing, engineering fees, etc.).
Recently, the Law was amended in two areas of particular interest that benefit secured lenders. First, the definition of “costs of construction” was enlarged to include all costs, expenses and reimbursements related to “soft costs” (costs that are not labor and materials) such as taxes, insurance, architect and engineering fees, accounting, legal, consulting and management fees, payment of prior mortgages and closing costs. Secondly, if sixty percent (60%) of the proceeds of a loan secured by an open-end mortgage are intended to pay, or are used to pay, the “costs of construction”, then a mechanics lien is subordinate to such open-end mortgage even if it is recorded after construction has commenced. The priority now given to an open-end mortgage is effective September 8, 2014, and applies to liens for work commenced prior to September 8, 2014, but not filed until after September 8, 2014.
Two things to take away from the amendment to the Law are: (1) even if work commenced on a project, so long as a mechanics lien is not filed of record and sixty percent (60%) of the loan proceeds pay “costs of construction”, the open-end mortgage securing the loan will have priority over subsequently filed mechanics’ liens, and (2) the Law as amended provides that ‘costs of construction” now include reimbursement of “costs of construction” to the borrower, to any person acting for the benefit or on behalf of the borrower, or to an affiliate of the borrower.