Texas builders can be criminally liable for failing to comply with financial bookkeeping requirements and misusing project funds paid by the owner. While many district attorney offices are reluctant to prosecute construction industry fraud, some DA offices will seek criminal prosecution in egregious circumstances. As a result, a builder needs to be aware of what conduct could be considered criminal. Because of the severity of the consequences for builders, I will separate this topic into two articles. This article will deal with what trust funds are, and the consequences for the misapplication of those funds.
In 2014, a contractor, Mr. Alexander, was convicted and sentenced to three years in prison for making a false statement to obtain property or credit. Alexander was the general contractor for a company that was hired to oversee construction for a used car dealership in Fort Worth. Alexander submitted payment invoices to the dealership owner for work completed by sub-contractors, but Alexander was not fully paying the sub-contractors. The fraud came to light after seven liens totaling about $100,000 were filed against the dealership.
Similarly, in May 2018, a builder, Joseph Charles “Chuck” Cole, contracted with an owner in Parker County to construct a residence but misused the owner’s money. He was convicted and placed on probation with deferred adjudication for misapplication of fiduciary property over $200,000 and ordered to pay over $1 million in restitution. Instead of paying the restitution, he bought a beach house near Destin, Florida, put some money in a trust for his daughters, and bought and paid off several vehicles including a Porsche and BMW for himself and his family. His probation was revoked, and he was sentenced to 50 years in prison.
In such construction fraud cases, prosecutors rely on standard criminal statutes and Chapter 162 of the Texas Property Code (Act). The Act is commonly referred to as the “Texas Trust Fund Statute.” The purpose of the Act is to protect those furnishing labor or materials for the construction or repair of property by requiring that funds are held in trust for all parties in the construction chain. The thought is that because most of the money builders receive from owners, is typically owed to others – subcontractors and vendors – the builder holds the money in trust for those to whom it is owed. Importantly, monies received that are to pay the builder’s fees are not considered trust funds. As to the money that is considered trust funds, if a builder misuses these funds, the builder can be criminally and personally liable.
As the terms are used in the Texas Trust Fund Statute, the parties to the trust are defined as the:
Trustee: a builder, subcontractor or owner who receives or has control or direction of funds, which were paid in connection with labor or material provided by others (Banks, title companies, and any corporate surety that issues a payment bond are not trustees).
Beneficiary: an artisan, laborer, mechanic, contractor, subcontractor, or materialman who labors or who furnishes labor or material for the construction or repair of an improvement on specific real property in Texas.
The applicable criminal penalties depend on whether the trust funds were misapplied or misapplied with “intent to defraud.” A misapplication occurs if a builder intentionally or knowingly or with intent to defraud directly or indirectly retains, uses, disburses, or otherwise diverts trust funds without first fully paying all current or past due obligations incurred by the builder to the beneficiaries of the trust funds. If the builder misapplies trust funds amounting to $500 or more, it is a Class A Misdemeanor with a potential fine up to $4,000 and up to one year in jail. If the builder misapplies trust funds amounting to more than $500 with the “intent to defraud,” the builder could face a Third-Degree Felony with a potential fine up to $10,000 and jail confinement for no less than 2 years and no more than 10 years.
Intent to defraud occurs when the builder uses or diverts trust funds:
- with the intent to deprive the beneficiaries of the trust funds;
- and fails to establish or maintain a construction account as required by the Act, or
- that were paid to the trustee in reliance on an All-Bills Paid Affidavit.
This article should make builders realize that misapplying trust funds could lead to severe consequences. The article next month will deal with bookkeeping and financial requirements, possible personal liability for officers and directors of a corporate builder, and defenses available to builders. If you have any questions about the Texas Trust Fund Statute, the attorneys at Brackett & Ellis, P.C. can help.