Contractors who have filed workers compensation exemption status with the Contractors State Licensing Board (CSLB) have significant exposure should circumstances arise during a project where such exemption no longer applies.   It can result in automatic suspension of the contractors’ license during a construction project.  (Business & Professions § 7125.2.)  Further, the contractor may have exposure for personal injuries, face misdemeanor charges and fines, and be required to reimburse the owner for all money it received in the performance of the contract as the result of a disgorgement claim.  (Business & Professions §§ 7028, 7031.)

Plaintiffs’ construction defect bar has become more cognizant of alleging disgorgement claims against contractors in single-family home construction defect cases.  In a disgorgement claim, the homeowner seeks the return of all money paid to the contractor including additional costs and fees because the contractor was unlicensed at any time during the course of the project. (Business & Professions § 7031 (b), See Also, CACI 4561.)

Business & Professions Code § 7031 states[1], in part:

(b) Except as provided in subdivision (e), a person who utilizes the services of an unlicensed contractor may bring an action in any court of competent jurisdiction in this state to recover all compensation paid to the unlicensed contractor for performance of any act or contract.

(e) The judicial doctrine of substantial compliance shall not apply under this section where the person who engaged in the business or acted in the capacity of a contractor has never been a duly licensed contractor in this state.  However, notwithstanding subdivision (b) of Section 143, the court may determine that there has been substantial compliance with licensure requirements under this section if it is shown at an evidentiary hearing that the person who engaged in the business or acted in the capacity of a contractor (1) had been duly licensed as a contractor in this state prior to the performance of the act or contract, (2) acted reasonably and in good faith to maintain proper licensure, and (3) acted promptly and in good faith to remedy the failure to comply with the licensure requirements upon learning of the failure.

(Emphasis added.)

Courts have acknowledged the punitive nature this statute imposes on a contractor.  In Hydrotech Systems LTD v. Oasis Water Park (1991) 52 Cal. 3d 988, 995, the California Supreme Court set forth the legislative intent behind Business & Professions Code section 7031:

 . . . to protect the public from incompetence and dishonesty in those who provide building and construction services . . . The licensing requirement provide minimal assurance that all persona offering such services in California have the requisite skill and character, understand applicable local laws and codes. . . The obvious statutory intent is to discourage persons who have failed to comply with the licensing law from offering or providing their unlicensed services for pay. Because of the strength and clarity of this policy, it is well settled that section 7031 applies despite injustice to the unlicensed contractor.   Section 7031 represents a legislative determination that the importance of deterring unlicensed personal from engaging in contracting business outweighs any harshness between the parties . . .

  Attempts to allocate moneys paid by the owner based upon relevance to the unlicensed work performed is not allowed. (See, e.g. Jeff Tracey, Inc. v Pico (2015) 240 Cal.App.4th 510.)  Even when the owner knows the contractor is unlicensed during the construction for part of the project, the owner is still entitled to recover all the money the owner paid to the contractor for the entire project.  (Alatriste v. Cesar’s Exterior Designs, Inc. (2010) 183 Cal. App.4th 656.)

Similarly, Business & Professions Code section 7031(b), a substantial compliance provision, is strictly construed.  All four elements must be met.  (Oceguera v. Cohen (2009) 172 Cal.App.4th 783.)

There are many ways a contractor may become unlicensed.  In Wright v. Issak (2007) 149 Cal.App.4th 1116, although the contractor held a California contractor’s license, he grossly underreported his payroll to the State Compensation Insurance Fund, and never obtained workers compensation for his crew working on the home remodeling project.  Both the trial court and court of appeal agreed with the homeowners that, under California Business & Professions Code section 7125.2, the contractor’s license was automatically suspended for his failure to obtain workers compensation insurance for his employees.

Over 50% of contractors licensed with the California Contractors State Licensing Board have certified they are exempt from the workers compensation requirements because they have no workers.   In 2016, as part of the CSLB 2016 enforcement campaign, the CSLB in partnership with Employment Development Department and Department of Industrial Relation started sending informational letters to contractors claiming workers compensation exemption status advising them of the exemption requirements.  CSLB, has been partnering with investigators from district attorneys’ offices to inspect active construction sites, work with counties to battle workers compensation fraud, and expand its own construction site sweeps.  Such efforts are indicative that Business & Professions Code section 7031 will continue to be enforced regardless of the punitive and inequitable impact it has on the contractor absent legislative intervention.

As defense counsel for such contractors, thorough investigation is required to that end at the outset of the case or matter.   Defense counsel will find it beneficial to investigate the contractor’s workers compensation status, if the contractor hired any workers on the project, the scope of such work, licensing requirements for such work, and the licensing status of those workers.  If the investigation leads to a possible disgorgement claim, the client should be promptly advised.

This is only a thumbnail sketch of the application of Business & Professions Code section 7031(b), and further independent research is recommended on a case by case basis.

[1] Business & Professions Code § 7031 : (a) Except as provided in subdivision (e), no person engaged in the business or acting in the capacity of a contractor, may bring or maintain any action, or recover in law or equity in any action, in any court of this state for the collection of compensation for the performance of any act or contract where a license is required by this chapter without alleging that he or she was a duly licensed contractor at all times during the performance of that act or contract regardless of the merits of the cause of action brought by the person, except that this prohibition shall not apply to contractors who are each individually licensed under this chapter but who fail to comply with Section 7029.

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