Escrowed Payments May Leave Federal Subcontractors High And Dry

Companies providing products or services as subcontractors to prime federal contractors often struggle with how best to ensure prompt and full payments from primes. Prime contractors, particularly small business concerns, often struggle to manage competing cash flow demands with the result that subcontractors are left paid late or not at all. Including appropriate payment clauses in the subcontract is important but of limited value - ultimately they are enforceable only as contract claims that may need to be resolved in litigation.

Increasingly, subcontractors who are able will attempt to remove the prime contractor from the payment stream by obligating the prime to instruct the Government to pay contract revenues to an escrow agent for appropriate disbursement to the parties, believing this constitutes an enforceable assignment to the agent of the right to make a claim on contract revenues. But, is that the result?

Imagine the following scenario. A Request for Quote ("RFQ") for hose assemblies is issued to Prime Contractor ("Prime") in a sole source solicitation by the United States Defense Logistics Agency ("DLA"). Prime responds to the RFQ with a quote proposing to obtain the hose assemblies from Subcontractor ("Sub"). The quote contains the following "remit to" and "contractor" addresses respectively: (i) Michael Kawa, Esq., 300 Crown Building, 304 S. Franklin St., Syracuse, N.Y. 13202; and (ii) 1872 Mills St., Bldg F, Tallahassee, FL. The contracting officer believes that payment should be remitted to Mr. Kawa at the address in the Purchase Order ("PO") and that he is somehow associated with Prime, most likely as a banker.

In fact, Mr. Kawa is an escrow agent that Sub insisted be included as the remittee in Prime's POs for which Sub is acting as supplier due to Sub's substantial previous difficulty collecting payments from Prime. Mr. Kawa, a lawyer, prepared an escrow agreement for the purpose of ensuring that Sub would get paid in connection with its work performed pursuant to its subcontracts with Prime. Mr. Kawa consented to act as the escrow agent himself, to receive funds payable on Prime's contracts where Sub is supplier to Prime, and to release those funds in accordance with the escrow agreement agreed to by the parties. The escrow agreement requires both Prime and Sub to take all action necessary to ensure that DLA would pay Mr. Kawa rather than Prime. Sub believes that the PO with Mr. Kawa's name in the "remit to" block...