Do I have your retention?

Who first said that “cash flow is the lifeblood of the building industry”? It’s a mantra that has been adopted by the industry and politicians alike and spawned a number of initiatives, from the abolition of “pay when paid” by the Housing Grants, Construction and Regeneration Act to statutory provision for interest on late payments. Attention now seems to be on the withholding of retention money by employers under construction contracts. Articles in the press have highlighted the plight of contractors and subcontractors who are owed hundreds of millions of pounds in retentions, only to find that employers have made use of the money on other projects, delayed repayment to benefit their own cashflow and/or due to insolvency, not paid at all.

Retention money is traditionally withheld from payment due to contractors by parties up the supply chain as security until the contractors’ works are complete and the defects liability or rectification periods have expired under their building contracts. If a contract is silent on the matter, retention is to be repaid within a reasonable time following completion.

There is no doubt that contractors and subcontractors have suffered under the rules on retention, but abolition could leave employers without recourse

On the one hand, such security can be viewed as a sensible incentive to contractors to honour their contractual obligations in full, whilst giving the employer use of its money for longer. On the other, retentions can be seen as part of a regime which enables unscrupulous employers to hang onto money already earned and to provide the opportunity to further squeeze beleaguered SMEs.

It appears that the tide has now turned in favour of greater protection for the interests of the contractor/subcontractor and the calls for reform are getting louder. The attack on retentions has begun.

In Section 3 of Part 1 of the Small Business, Enterprise and Employment Bill (currently at committee stage in the House of Lords) the Secretary of State may impose a requirement for a company to publish information about its payment practices and policies. Information about payment terms will presumably include information on how the company deals with retentions. There is also an e petition (signatories required by March 2015) calling for a full parliamentary debate on the subject. Small Business Minister, Matthew Hancock, has called retentions “unnecessary” and the New Construction Payment Charter, officially launched in April last year (which while voluntary, has some heavyweight signatories) has a stated ambition to move towards a policy of zero retentions by 2025.

Alternative proposals for dealing with retentions include: ensuring that the terms for withholding retention apply equally to all members of the supply chain; use of retention or defects liability bonds; placing monies in a separate bank account or requiring the employer to hold the retention on trust for the contractor.

Given this appetite for change, which option will be chosen? Some countries have already passed legislation in favour of trust arrangements. New Zealand is currently in the process of doing so, with the express intention of protecting the interests of subcontractors. For the present, it seems that in the UK at least, it will be business as usual in relation to retentions. However, it is almost certain that changes will be made to current practice, hopefully resulting in a balanced system, recognising the interests of both parties. There is no doubt that contractors and subcontractors have suffered under the rules on retention, but abolition could leave employers without recourse if contractors fail to complete their works. Could a total ban be tipping this balance too far?

As for the originator of the phrase “cash flow is the lifeblood of the building industry”– it was that famous judicial activist and “People’s Judge”, Lord Denning.

Stephanie Canham is national head of projects and construction at law firm Trowers & Hamlins