For modification -- Chief Justice Weintraub, and Justices Jacobs, Francis, Proctor, Hall, Schettino and Haneman. Opposed -- None. The opinion of the court was delivered by Hall, J.
This case involves the right of a creditor to apply an unallocated payment by a debtor, who owes him more than one debt, to that obligation the creditor may select. More particularly, it concerns any limitation thereon where the application made by the creditor detrimentally affects the interests of a third party who is a guarantor of one of the other debts and furnished the funds out of which the payment was made. The third party won in the trial court, the Appellate Division reversed, deciding in favor of the creditor, 73 N.J. Super. 225 (1962), and we granted certification on the third party's petition. 38 N.J. 360 (1962).
The question arises in this quite common factual setting. The plaintiff (Hiller), the third party, was the prime contractor on a public construction job for defendant Borough of
Wood-Ridge. Hiller subcontracted a portion of the work to defendant Universal Pile Co., Inc. (Universal), the debtor, at a price of $39,815.75. Universal purchased materials for the subcontract from defendant Atlantic Creosoting Company, Inc. (Atlantic), the creditor, at a cost of $22,393.30. At the time Universal also owed Atlantic $26,707.53 on an unsecured book account, extending back many months, for materials furnished for other jobs not involving Hiller. Universal's financial condition was somewhat precarious and Atlantic had been continually pressing for payment.
Universal completed the subcontract in January 1960 and billed Hiller a few days later for the full price. Hiller paid Universal's bill on February 19 from an installment payment on the prime contract received from the borough. On the same day Universal remitted $15,000 to Atlantic out of the payment received from Hiller, without, as the Appellate Division properly found, any direction as to how the money was to be applied. Atlantic had apparently simply added the charge for the Hiller job materials to Universal's book account and it credited the $15,000 to the earliest unpaid items in that account. A week later representatives of Atlantic and Universal conferred about the latter's total debt which now amounted to about $35,000 after the $15,000 credit. As will be pointed out more fully, Atlantic knew the source of the payment and seasonably advised Universal of its application to the antecedent debt.
On April 27 Atlantic filed a timely notice of lien claim with the borough under the municipal mechanics' lien law, N.J.S. 2A:44-125 et seq., on moneys due or to grow due to Hiller pursuant to the prime contract. The claim was in the full amount of Atlantic's $22,393.30 charge to Universal. More than that sum remained to be paid by the borough to Hiller under the prime contract. A few days later Universal sent Atlantic a check for $5,000, marked "on a." The source of this payment was other than the Hiller remittance to Universal. Atlantic also credited it to Universal's prior indebtedness. Sometime thereafter the borough advised Hiller of the
lien claim and the latter promptly commenced this litigation in the Chancery Division to discharge the lien. No further payments were ever made to Atlantic by Universal on its total debt and Universal has become financially irresponsible. It did send a check to Atlantic at a later date for $2,393.30, the balance of the charge for the Hiller job material after the $15,000 and $5,000 payments, which bore the notation "Hiller and Skoglund paid in full." Atlantic refused to accept it for that reason, but the parties stipulated that, in any event, Universal did not have the funds to make the check good.
The trial judge found factually that Universal had directed Atlantic to apply the $20,000 to the charge for the material furnished for the Hiller job and that Atlantic had so agreed as well at the conference. He therefore decided in Hiller's favor by utilizing the first of the somewhat mechanical common law rules respecting application of payments made by a debtor owing more than one debt, i.e., the creditor must apply the payment as the debtor directs. (The second of the rules allows the creditor to make the application as he sees fit if the debtor gives no direction; the third is ordinarily stated to be that if neither debtor nor creditor allocates, the court will apply the payment as justice requires, generally to the advantage of the creditor in the absence of supervening equities. For the most recent statement of the rules and supporting authorities, see Borough of Totowa v. American Surety Co. of N.Y., 39 N.J. 332, 338-339 (1963).) The court discharged the lien claim in its entirety, even with respect to the $2,393.30 balance, under the principle that a lien is completely void when filed for a grossly excessive amount.*fn1
On Atlantic's appeal from the discharge of the lien claim, the Appellate Division reversed on new findings of fact. R.R. 1:5-4(b), 2:5. It decided that the evidence did not support a finding that Universal had directed the application of the two payments to the Hiller job or that Atlantic had agreed so to allocate them. Consequently it held proper Atlantic's application thereof to the antecedent indebtedness by virtue of the rule giving the creditor that right when the debtor gives no direction, and ordered the reinstatement of the lien claim in full. The result is that Hiller must pay the $22,393.30 twice and Atlantic receives a windfall to reduce Universal's prior debt, otherwise uncollectible. It will be observed that this is not a case where the materialman has received no payment at all by reason of the utilization of contract payments for unrelated purposes by the prime contractor or, except beyond the $15,000, by the subcontractor, but rather one where the materialman received the last mentioned sum as a result of proper remittances down the contractual ladder, with knowledge of the source of the money.
While Hiller urges here that the Appellate Division erred in overturning the findings of the trial judge, we are satisfied the independent factual conclusion of the intermediate court was eminently justified and indeed the only result that could reasonably be reached on the evidence.
The Appellate Division did not pass upon Hiller's alternative argument -- which is the important question before us -- that the equities of the situation preclude Atlantic from utilizing the payment application rule. We think the contention has substantial merit and that Atlantic was required to apply the $15,000 payment to the charge for the Hiller job. This conclusion turns not on a court's making the application where neither party did, but rather on a determination that, under the particular circumstances, it is inequitable to allow the creditor to select.
The complete circumstances involve not only the factual elements previously outlined, but also the legal relationships of municipal owner, prime contractor, subcontractor and the latter's materialman. These incidents are created by statutes, the pertinent aspects of which may be briefly summarized. We refer at this point to the municipal mechanics' lien law, N.J.S. 2A:44-125 to 142, inc., and the bond act, N.J.S. 2A:44-143 to 147, inc. Both are designed to afford security to subcontractors and to materialmen and laborers having a contractual relationship either with a prime contractor or a subcontractor.
The lien law, first in chronology of enactment (see the legislative history of this and related statutes outlined in Key Agency v. Continental Casualty Co., 31 N.J. 98 (1959)), gives these persons when unpaid a lien "for the value of the labor or materials, or both, upon the moneys due or to grow under the contract and in the control of the public agency * * *." N.J.S. 2A:44-128. The extent of protection is limited to the amount owing by the agency-owner to the prime contractor at the time the notice of lien claim is filed or thereafter becoming due. The former cannot be liable for more than the total amount of the prime contract, provided it pays the prime contractor in accordance with the terms thereof and withholds a sum sufficient to cover lien claims filed, and satisfaction of the claim cannot be had out of the public property which is the subject of the project. In this respect the municipal lien law differs in basic theory
from that applicable to private construction work where the owner does not file his general contract, N.J.S. 2A:44-66 and 75, insofar as unpaid subcontractors, materialmen and laborers are concerned, and is substantially analogous to the "stop notice" procedure provided for in private jobs where the contract has been filed, N.J.S. 2A:44-77 et seq. The important thing in the present context is that a prime contractor may become responsible, by virtue of the municipal lien ...