Practical Law

The Local Democracy, Economic Development and Construction Act 2009 (LDEDC Act 2009), which amended the Housing Grants, Construction and Regeneration Act 1996 (Construction Act 1996) has now been in force for over half a year. This post focuses on one aspect of the statutory requirement that a construction contract includes an adequate mechanism for payment as it affects release of retention, particularly sub-contract retention.

Addressing the amended Act in practice

I’ve now seen various attempts by developers and contractors alike to deal with paying retention monies in light of the prohibition on conditional payments in section 110(1A) of the Construction Act 1996 (as amended). I wrote about that prohibition, from a different perspective, in a previous post.

A typical example of a commonly-used mechanism that would now fall foul of the prohibition is the practice of linking the release of the balance of retention monies to a sub-contractor to the completion of works under the main contract. For example, clause 4.15.3 of the now superseded JCT Design and Build Sub-Contract Conditions 2005 (Revision 2, 2009), linked release of the retention to the “Notice of Completion of Making Good under the Main Contract for the Main Contract Works”.

So, how should contractors deal with these changes? Below, I consider three possible approaches to address the release of retention in light of section 110(1A).

De-linking the retention to the main contract

The quick and easy solution is simply to remove the conditional element of the payment provisions relating to the payment of retention monies in the sub-contract. In other words, “de-linking” the payment of retention and completion (or performance of any other obligation) under the main contract.

This is the approach that the JCT has taken, with clause 4.15.3 of the JCT Design and Build Sub-Contract Conditions (2011 edition) providing that the release of the balance of retention monies to the sub-contractor shall take place on the “Retention Release Date”, being a date specified in the Sub-Contract Particulars. Specifying a calendar date, or a date calculated by reference to the performance of obligations under the sub-contract, for the release of retention monies would be an adequate mechanism for the purposes of the Construction Act 1996 (as amended).

I have seen contractors inserting into sub-contracts a date that falls many months after completion of the sub-contract works. Though there is still a risk that the contractor may have to release the balance of the retention prior to it receiving its own retention monies from its employer, specifying a date far in the future reduces this risk.

Call my bluff

An alternative approach that I have seen taken commercially is to leave the conditional payment provisions in the sub-contract. Clearly, such provisions would fall foul of the Construction Act 1996 (as amended), in which case, subsection 110(3) states that the “relevant provisions” of Part II of the Scheme for Construction Contracts (England and Wales) Regulations 1998 (as amended) would apply in place of the provisions in the sub-contract.

It would have been helpful for paragraph 11 of the Scheme (“Prohibition of conditional payment provisions”) to have been amended to include reference to subsection 110(1A) of the Act, rather than merely section 113 (in relation to the prohibition on pay-when-paid clauses). As this is not the case, it is not entirely clear what the “relevant provisions” of the Scheme would be. (The Scheme does not expressly refer to retention.) This puts the payer in a potentially precarious position:

• A sub-contractor could argue that the “relevant provisions” are merely those relating to the dates for payment of the retention, and therefore that the due date for payment is the date of a claim for the retention monies by the sub-contractor.
• Alternatively, a sub-contractor could argue that the “relevant provisions” include those relating to the withholding of the retention from each payment under the contract in the first place. In other words, the provisions relating to the due date for each payment under the contract are the “relevant provisions” affected by the drafting in relation to retention. Should the courts decide that there was never any right to withhold any monies on account of retention, the payer risks being required to pay back any retention withheld with interest calculated from the date on which the payment should have been made.

Notwithstanding the second possibility, a contractor may decide that it will simply pay the retention monies to a sub-contractor, if, when and to the extent challenged to do so by the sub-contractor. This is a commercial approach, essentially gambling that the sub-contractor will not challenge the terms of the contract. While that may be the case, particularly with simple sub-contracts, the risks are potentially quite serious.

Linking the final date for payment with a long-stop

Given the risks of waiting for a sub-contractor to call your bluff, a contractor may be more inclined to specify a distant future date for payment of the balance of retention monies, to protect itself from being out of pocket. This approach is unlikely to be popular with sub-contractors, who will then be forced potentially to wait a long time until payment of the retention.

However, there may be a middle ground that both parties will be more comfortable with. The requirement in subsection 110(1)(a) to provide an adequate mechanism applies only to setting the due date for payment (and the amount due) and not setting the final date for payment. On one analysis, the sub-contract could therefore specify that the due date for payment shall be the date of completion of the sub-contract works but the final date for payment shall be the date of the earlier of:

• A long-stop date in future; or
• The date of completion under the main contract.

I describe this analysis in more detail (in a different context) in my previous post.

Answers on a postcard

The three approaches considered above are not the only options available to a contractor and, subject to the requirement to provide an adequate mechanism for determining what payments become due under the contract, and when, there is no “right answer”. A contractor keen to avoid the risk of financing its sub-contractors’ works while waiting for payment of retention monies from its employer will no doubt encourage further creativity in drafting retention provisions.