Managing the payment process in construction contracts

Ensuring a regular and undisturbed flow of payments is critical to business survival. However, this can be particularly problematic in the construction industry, where maintaining relationships is important, but timely cash flow throughout the supply chain is crucial. 

With firms in the construction sector continuing to face tough conditions the industry saw the highest number of insolvencies out of all sectors in 2023, and the trend is set to continue. Now is a good time to review your contracts and internal processes to ensure you can act quickly in the event of late payment. Some practical hints and tips are set out below. 

So what tools does a construction company have at its disposal to assist it in avoiding unpaid bills?

a) Know your client

First and foremost, it's common sense to familiarise yourself with your client and their internal payment processes. Whilst these are not contractual requirements, it is often these practical requirements that can delay a payment being released. 

b) Seek security for payment 

If your client will agree, forms of payment security such as advance payments, bonds, the use of escrow accounts and parent company or personal guarantees can all be effective in minimising payment risk.

Retention of title clauses can also provide certain security in respect of goods that have not been paid for, although they can be difficult to enforce.

c) Know the law

The Housing Grants, Construction and Regeneration Act 1996, as amended by the Local Democracy, Economic Development and Construction Act 2009 (commonly known as the Construction Act) gives parties performing works or services under a construction contract numerous rights. Indeed, one of its very purposes was to increase cash flow in the construction industry. ‘Pay when paid’ clauses in subcontract are no longer valid, unless there is an insolvency event further up the contractual chain. 

If you have a construction contract as defined by the Construction Act, certain provisions must be included in the contract (and if they are not, terms will be implied), including:

• A right to interim payments: where the duration of the work exceeds 45 days.
• A right to payment in the absence of certain notices: the paying party must ensure that payment notices are issued within five days of the due date and has the opportunity to issue pay less notices within specified time periods. If it does not issue one or both of these notices, the contractor may be entitled to payment of the sum claimed in its application in full, at least in the short term.
• Right to suspend: if the client fails to pay a notified sum by the final date for payment, you have a statutory right to suspend works upon giving at least seven days’ notice. 
• Interest: you may be entitled to interest on late payments either under the terms of your contract, or pursuant to the Late Payment of Commercial Debts (Interest) Act 1998.

d) Know your contract

Although the Construction Act requires certain provisions to be included in construction contracts, and the Scheme for Construction Contracts (England and Wales) Regulations 1998 (as amended) implies terms as to payment if anything is missing, every contract is different. Therefore, it’s essential that you’re familiar with the specific detail and requirements of your contract. (Read our previous article on statutory payment process here).

Ensure that you read and understand the payment mechanism and process and that you are on top of the dates for monthly applications and services of notices to avoid missed opportunities. 

Read and comply with the provisions relating to applications for extensions of time, loss and expense, variations and so on. Some contracts place a time bar on applications for extensions of time and/or loss and expense, with the effect that if you fail to submit your claim within the stated time period, you will lose your entitlement. All of these can impact on cash recoverability and cash flow.

e) Take action

Make cash collection a priority in your business, and think about the following:

• Communication: this is key, as non-payment issues can often be quickly resolved by addressing any of the client's concerns, and providing any missing information.
• Cash collection process: implement your own debt recovery systems and have mechanisms in place for chasing debts each month, including letters, statements and follow-up phone calls. 
• Letter before action: if you're not getting a favourable response, considering sending a more formal ‘letter before action’, indicating that action will be taken if the debt is not paid by a certain date.
• Adjudication: take professional advice on whether to start an adjudication against the debtor. Adjudications can be particularly useful where the paying party has failed to issue the correct notices in the appropriate timescales.
• Statutory demands: if a debt is not disputed, consider taking advice on serving a statutory demand on the debtor, seeking payment within 21 days.

It is not always possible to avoid unpaid debts entirely, but with the right information and tools at your disposal, it is possible to keep them to a minimum. 

Employers should also be aware of the rights and remedies available to contractors to avoid being on the receiving end of a ‘smash and grab’ adjudication, whereby a contractor is entitled to make an immediate claim for payment due to an employer’s failure to serve payment or pay less notices on time. ‘Smash and grab’ adjudications can require the employer to make significant payments to the contractor regardless of the true value of the works completed.

Information 

If you would like to discuss any of the issues referred to in this article please contact Lianne Edwards or Sian Barrett from our construction and infrastructure team.