Author: Eugene Lenehan
A Brief Guide to Payment Procedures and the Construction Act
Payment has long been the most adversarial issue in the Construction Industry. So much so that in 1998 a law was passed by Parliament to help contractors and subcontractors achieve confidence in what to expect in respect of payment procedures, and to ensure that interim payments are made regularly and promptly throughout the supply chain.
The Construction Act
Parliament’s laws in respect of payment procedures in the construction industry were:
• introduced by the Housing Grants, Construction and Regeneration Act 1996; and
• amended in October 2011, by the Local Democracy, Economic Development and Construction Act 2009
(“the Construction Act”)
The Construction Act provides parties to a construction contract with certain rights and obligations that cannot be taken away, regardless of what their contract might say.
The Construction Act applies to construction contracts, entitling contractors and subcontractors to:
• A right to be paid “by instalments, stage payments or other periodic payments for any work under the contract unless—
a) it is specified in the contract that the duration of the work is to be less than 45 days, or
b) it is agreed between the parties that the duration of the work is estimated to be less than 45 days”.
(refer to s.109(1) of the Construction Act).
• A right to be informed of the amount due and any amounts to be withheld.
• A right to suspend work for non-payment.
• A right to adjudication. (Please see our article on “A Brief Guide to UK Construction Adjudication”)
The Construction Act does not specify payment periods. Instead, the “parties are free to agree the amounts of the payments and the intervals at which, or circumstances in which, they become due” (s.109(2) of the Construction Act). Hence, the contract must set out an adequate mechanism for determining these matters.
Payment Rules and Procedures Under the Construction Act
The payment rules and procedures provided by the Construction Act include as follows:
1. A right to payment by instalments.
2. An “adequate mechanism for determining what payments become due under the contract, and when” (s.110(1)(a) of the Construction Act). Linking payment to another contract does not constitute an “adequate mechanism”. Hence, the release of retention cannot be prevented by conditions within another contract.
3. A right to prior notice of sums due specifying “the basis on which that sum is calculated” (s.110(2) of the Construction Act). This is generally referred to as a ‘Payment Notice’.
4. The payer must issue the Payment Notice “not later than five days after the payment due date”, even if no amount is due (s.110A (1) of the Construction Act).
5. If the payer or the specified person (e.g., the Architect, Contract Administrator or Project Manager) is supposed to serve the Payment Notice but fails to, then the Construction Act provides that the payee can serve a default Payment Notice instead, stating the sum it considers due and “the basis on which that is calculated” (s.110B of the Construction Act). The final date for payment is extended by the period between when the payer should have issued a Payment Notice and when the payee issued the default Payment Notice. If the payer does not issue a Pay Less Notice, it must pay the amount in the default Payment Notice.
6. ‘Pay when paid’ clauses are “ineffective”, except in the case of insolvency of a third party upon whom payment depends (s.113(1) of the Construction Act).
7. Subject to the issue of any Pay Less Notice, “the payer must pay the notified sum (to the extent not already paid) on or before the final date for payment” (s.111(1) of the Construction Act).
8. A right to prior notice of any intention to pay less than the “notified sum” (i.e., less than the amount specified in the Payment Notice). This is generally referred to as a ‘Pay Less Notice’, which must specify:
a) “the sum that the payer considers to be due on the date the notice is served”; and
b) “the basis on which that sum is calculated”
(s.111(4) of the Construction Act).
9. A right to suspend work for non-payment of the “notified sum” provided “at least seven days’ notice” is provided (s.112 of the Construction Act).
However, the Construction Act allows the parties to agree:
• the amount of any instalments or periodic payments.
• the mechanism for determining this.
• the intervals at which such payments become due.
• the intervals between the “due date” and the “final date for payment”.’ (i.e., the latest date by which payment must be received).
Standard forms of construction contract (such as the JCT and NEC) deal with the above issues in different ways. It should also be understood that when standard forms of contract are utilised, they are frequently amended, especially in respect of payment periods and notice periods.
What if the contract does not comply with the Construction Act?
If contracts do not comply with the Construction Act, the ‘Scheme’ applies. The “Scheme” is as follows:
i. the Scheme for Construction Contracts (England and Wales) Regulations 1998, which came in to force on 01 May 1998
as amended by
ii. the Scheme for Construction Contracts (England and Wales) Regulations 1998 (Amendment) (England) Regulations 2011, which came in to force on 01 October 2011.
Part 2 of the Scheme relates to payment provisions.
The Scheme is a Statutory Instrument to provide implied contract terms, in order to ensure that parties to a construction contract have rights to the above payment procedures (and adjudication, which is dealt with in part 1).
Where one or more of the Construction Acts’ minimum requirements are not included in the contract, or if no agreement has been reached on the contract terms, the relevant parts of the Scheme come into force, as a ‘default’ mechanism.
The schemes for Scotland and Northern Ireland are slightly different to the above Scheme for England and Wales.
The Right to Suspend Performance
If there is no valid Pay Less Notice issued by the payer and the payment is not made in full by the final date for payment, then the payee is entitled “to suspend performance of any or all of his obligations under the contract” (s.112(1) of the Construction Act). The payee can choose to suspend any part of his works, or all of his works.
The payee must provide a minimum of 7 days’ notice of his intention to suspend work, “stating the ground or grounds on which it is intended to suspend performance” (s.112(2) of the Construction Act).
“The right to suspend performance ceases when the party in default makes payment in full” (s.112(3) of the Construction Act).
The payee has a right to be paid “a reasonable amount in respect of costs and expenses” incurred as a result of the suspension, including any demobilisation and remobilisation costs for example. (s.112 (3A) of the Construction Act)
The payee is also entitled to an extension of time for the period during which performance is suspended (s.114 of the Construction Act).
Key Aspects of the Payment Process
Provided below is a little detail on the key aspects of the interim payment process, on occasion referring to some of the JCT standard forms of contract.
However, it should be understood that terminology varies across standard forms. For example, NEC contracts use different terms to JCT contracts, such as ‘assessment dates’, ‘assessment intervals’ and ‘payment certiﬁcates’.
Applications for Payment
For many construction contracts, the process begins with an application for payment. Generally speaking, the application for payment should specify the sum claimed, along with details of how it is calculated. However, when preparing applications for payment, it is crucial that the contract is considered. It might provide some very detailed requirements about the content and form of the application for payment.
The JCT Design and Build contract 2016 edition (“JCT DB 2016”) refers to the contractor’s “Interim Payment Application”, whereas the related subcontract (i.e., the JCT DB-Sub/C 2016) refers to the subcontractor’s “Payment Application”.
Interim Valuation Dates
JCT contracts have “Interim Valuation Dates” (e.g., refer to clause 4.7 of the JCT DB 2016). The first Interim Valuation Date should be recorded in the Contract Particulars. This should not be more than one month after the Date of Possession. Thereafter, the Interim Valuation Dates shall be the same date in each month or the nearest Business Day in that month.
In the JCT DB 2016, the Contractor should issue an Interim Payment Application in respect of each Interim Valuation Date, stating the sum that the Contractor considers to be due at the due date.
The Due Date
In some other industries, the due date is the date on which a payment or invoice is scheduled to be received by the payer. That is not necessarily the case in the construction industry, but each specific contract needs to be considered individually.
Perhaps somewhat confusingly, the ‘Due Date’ is not the date when the actual payment will be received. However, the date that the payment should be received (the ‘final date for payment’, see below) is usually measured from the due date.
Assuming both the main contract and subcontracts specify the same Interim Valuation Dates, the due dates will be earlier under a JCT main contract than its related JCT subcontract.
Clause 4.7.2 of the JCT DB 2016 provides that:
“.. the monthly due dates for Interim Payments by the Employer shall in each case be the date 7 days after the relevant Interim Valuation Date”.
However, pursuant to clause 4.7.3, if the Contractor’s Interim Payment Application is received later than the relevant Interim Valuation Date, “the due date shall be 7 days after the date of receipt by the Employer”.
The JCT Design and Build Subcontract 2016 edition (“JCT DB-Sub/C 2016”) have similar provisions, but different periods. Provided the subcontractor’s Payment Application is received not later than 4 days prior to the Interim Valuation Date, the monthly due dates for interim payments shall be 12 days after the relevant Interim Valuation Date. However, if the Payment Application is received later, the due date shall be 16 days after the date of receipt. This can be seen at clauses 4.6.1 and 4.6.2.
Clause 4.6.1 of the JCT DB-Sub/C 2016 states that:
“.. the monthly due dates for interim payments shall in each case be the date 12 days after the relevant Interim Valuation Date”.
Clause 4.6.2 of the JCT DB-Sub/C 2016 provides:
“Where the Payment Application is received not later than 4 days prior to the Interim Valuation Date, the due date shall be the date that would apply under clause 4.6.1; if the Payment Application is received later, the due date shall be 16 days after the date of receipt.”.
For JCT contracts, the Interim Valuation Dates should be set out in the contract particulars and hence be used to determine the due dates.
The due date starts the countdown for the issue of the payment notice. In JCT contracts, Payment Notices are issued 5 days after each due date.
A ‘Payment Notice’ is usually the document the payer issues to the payee, providing details of the sum payable and how it has been calculated. The sum payable is known as the ‘notified sum’, which should be paid by the ‘final date for payment’.
In JCT contracts, a Payment Notice must be issued no later than five days after the ‘due date’.
In the event of a non-compliant contract, the ‘Scheme’ also stipulates that payment notices should be issue “not later than five days after the payment due date”.
Final Date for Payment
The Final Date for Payment is the latest date that the payee should receive payment from the payer.
For example, the JCT DB 2016 provides that:
“The final date for payment of each Interim Payment and the final payment shall be 14 days from its due date” (clause 4.9.1).
The JCT DB-Sub/C 2016 also provides that “the final date for payment of any payment shall be 14 days after the due date” (clause 4.7.1).
In the event of a non-compliant contract, the ‘Scheme’ stipulates that payment should be made “17 days from the date that payment becomes due”.
NEC contracts have a different payment period i.e., NEC3 clause 51.2 states:
“Each certiﬁed payment is made within three weeks of the assessment date or, if a different period is stated in the Contract Data, within the period stated”
Pay Less Notices
A Pay Less Notice must be issued when a paying party wishes to change its mind on the amount included in a payment Notice, allowing it to alter the amount due to the payee near to the end of the payment cycle.
The payer must issue a Pay Less Notice if it wishes to pay less than the notified sum (i.e., the sum notified in the Payment Notice / default Payment Notice). The Pay Less Notice must set out the sum the payer considers to be due on the date the notice is served and the basis on which that sum has been calculated. The Pay Less Notice must be issued to the payee no less than the prescribed period specified in the contract (or implied by the Scheme) before the final date for payment.
Unless the payer issues a valid Pay Less Notice on time, it must pay the notified sum on or before the final date for payment.
Under JCT contracts, the payer must issue any Pay Less Notice “not later than 5 days before the final date for payment”. However, in the event of a non-compliant contract, the ‘Scheme’ stipulates that this notice must be issued “not later than seven days before the final date for payment”.
The Construction Act has provided rules and procedures to assist cash flow. However, this involves administrative processes that, if not performed correctly, can result in significant payment problems.
The way standard forms of construction contract apply the rules and procedures in the Construction Act is inconsistent, including using different terminology and periods for payment.
Where one or more of the Construction Acts’ minimum requirements are not included in a construction contract, or if no agreement has been reached on the contract terms, the relevant parts of the Scheme come into force, as a ‘default’ mechanism.
Please do not hesitate to contact Coniston with any questions you may have.