Over the past 30 years, late and delayed payments in the construction industry have become common practice. Bill Barton, director of Barton Legal, explores the consequences and solutions
Late payment is not universal. If you buy a cup of coffee, you pay before you drink. If you buy fuel, you pay immediately.
If you visit the dentist, then you will usually pay immediately to have your treatment. In all of these instances, payment is straight away.
However, this is not always the case in the construction sector. Over the last 30 years, terms and conditions, contract terms, and general industry practice have allowed for payments to be made in a 30-day window.
Where possible, employers and main contractors can extend payment beyond that.
As such, the industry has effectively normalised late payments that can have profound consequences for the financial viability of firms, especially smaller ones.
How do we then tackle delayed payments in the construction industry and ensure payments are made on time? First, we must understand the problem.
The 30-day payment window has encouraged slow payment
Whilst an employer or client does not always have the money to pay at the commencement of a project, this fact is unlikely to be known (for sure) by the other parties involved.
Therefore, if we presume that at the commencement of a project, the paying party has the money, why is payment not made straight away?
The 30-day payment window set by the industry has only encouraged slow payment. It is unlikely that it will take a month for a party’s assessment to be reviewed and a decision to be made as to whether the sum claimed should be paid.
To tackle this, adjudication was introduced to help with cash flow: “the life blood of the industry” is the phrase we all remember.
However, this was immediately undermined by parties finding ways to work around restrictions, as the suspension provisions were almost toothless.
The right to suspend if you are not paid for seven days following service of notice exists. However, parties simply make trickle payments so that the bulk of payment is still overdue but not in its entirety.
Put simply, despite there being legislation in place, the industry still struggles with getting the ‘cash to flow’.
Now, years on from the inception of adjudication, we now have equally ineffective terms where if a payment date is missed, then it will be assessed as being an application for the following month.
There is no clear agreement as to who will be responsible for increases in material prices, labour, and other cost rises caused by a variety of challenging current issues such as the Ukraine War, inflation, Brexit, currency fluctuations and many others to come.
The risks involved with delayed payments
Payment may trickle down to the supply chain, but the cost essentially trickles up.
This leaves the smallest company at risk as high prices continue to place significant strain on the working capital of construction firms. It is crucial that payments are made on time to ensure firms don’t risk finding themselves staring down the barrel of administration.
Yet it is smaller firms that are usually the ones that are left waiting for the longest as their payment application slowly travels upwards and is subject to contractor review, employer/client review and then assessed and paid in whole or in part, increasing pressure on and impacting the viability of smaller companies.
Indeed, it is all too often presumed that the paying party can afford a project and has the money.
The reality is that the employer/client is also subject to application to their funder and further review. In the UK, this has been the approach to payment, as far as the writer is aware since time began.
It could be time for those within the contractual chain to have a right to ask for evidence that funding is in place and for direct payment from the funder, helping to potentially reduce the risk of insolvency for smaller companies.
However, we must bear in mind that whilst upfront payments for certain elements of work would assist, it is vital that these go hand in hand with additional security for the paying party.
There have been too many instances over the last couple of years, primarily on smaller projects, of upfront payments being made and then a combination of no work, substandard work, and delayed work occurring.
Therefore, the need for payment can be established, but there is no clawback mechanism or process whereby if the ‘cash’ is to be paid, whether direct or via a third party, which would reduce the risk of instances when there is no matching performance.
How can the construction industry tackle the problem?
In turn, this raises the issues and risks that exist with direct payment.
In order for it to work well, there must be a clear agreement and records as to who is to be paid, for what and when.
Additionally, there must also be checks and balances to ensure the sums claimed are correct and properly due as well as ways to ensure that if started, the process cannot be stopped without due regard for the impact on the middle party.
For example, if an employer pays a subcontractor direct. Fine. However, if payment stops and the subcontractor suspends then provision must be made for this in the contract.
If the employer uses the payment of one subcontractor direct to spread false rumours as to the solvency of the main contractor, that is not acceptable. Equally, the main contractor must continue to administer and properly control the subcontractor, their workflow and progress.
Large projects have multiple payment stages and processes, with the payment application route spanning from suppliers to subcontractors, to main contractors and the employer.
Even then, if there is a funder, there is likely to be a monitoring surveyor in place as well. This means sums claimed are checked multiple times and each party has their own vested interests to protect, as to the amount calculated to be due, versus the amount they are willing and able to pay.
This is a process that not only takes time but is also open to abuse. Whilst it is true that a Pay Less Notice (PLN) exists to set out the sum deducted and the reason or reasons why, it is often difficult for parties to challenge those reasons and calculations.
Indeed, adjudication as a route to settle disputes is not always cheap and whilst relatively quick, if a decision requires enforcement, then it becomes a very expensive and lengthy process.
Mindful of this, more could be done at the outset of a project to consider actual and potential risks, their likely impact on programme completion, variations, and the proper execution of the works.
For example, parties could be asked to provide proof of funding and there might be a standard option to allow for direct payment, where pre-agreed criteria are met.
Alternatively, elements with a higher risk might in turn be subject to a different payment criterion, thereby separating the simpler standard items. In fact, parties might consider subjecting more complex areas of a structure to a different inspection and approval regime, with different payment periods and ascertainment.
It does not need to be the case that one size of payment fits all elements of work, no matter how much more complex some work is.
Indeed, in the modern age more could be done between parties at the outset of a project to encourage open disclosure of funding, to discuss upfront payment risks and to consider two-way security, so the paying party can be sure about what they are paying for, such as materials, and that if those materials do not appear or are defective there is an effective claw back provision/form of surety.
The industry needs to change its mindset towards late payments
In general, the construction industry is not good at confronting issues at the start. Instead, it prefers to wait for claims later on, and it is important that this changes.
All solutions to delayed payments in the construction industry should require additional advice, consideration, collaboration, and expense at the outset.
Late payment is a problem for everyone, and no one is immune.
However, simply applying the same terms that have been used for decades to increasingly complicated projects may no longer be the answer.
Instead, open discussion at the outset, with clear and precise drafting as to who does what, when, and how, as well as the provision of clear default provisions, might offer a suitable alternative.
In case of reputational damage, no-one wants to be the first to be seen to pay earlier or on easier terms.
However, this should no longer be a reason that deters parties at the top of the contractual food chain from leading by example, instead it should be seen as their obligation. Otherwise, construction firms, especially smaller firms, will continue to routinely face the threat of administration.
