Contractor Not Paying Subcontractor: The Payment Security Crisis

In this Article:

• Words of Industry Insider: Rudi Klein
• The Issue: Contractor not paying subcontractor
• Understanding the Core Issue
• Legal Framework and Subcontractor Protections
• Recent Legal Developments
• Contractor not paying subcontractor: Financial Impacts and Management Strategies
• Case Studies
• Technological Advancements in Payment Enforcement
• Implementation Examples
• Contractor not paying subcontractor: Policy Recommendations and Industry Initiatives
• Contractor not paying subcontractor: The Solution

Words of Industry Insider: Rudi Klein

Payment abuse in construction often involves horrendous commercial bullying, and unfortunately, this has been part of the construction landscape for many years. It has damaged productivity, compromised building safety and quality, stunted investment in training and innovation, and increased mental stress and illnesses.

As everybody accepts, including the Government, the key driver for payment abuse is the industry’s dominant business model, which depends upon firms’ ability to maximise their cash flow and, in doing so, deprive their suppliers of desperately needed cash.

This is much worse because most of the construction value is delivered by supply chains comprising medium- and smaller-size firms. Furthermore, payment cycles usually commence with on-site work, which means that firms carrying out off-site manufacture have to wait months before payment even though the bulk of their contract value has already been expended.

All of this was highlighted in the aftermath of the Carillion collapse, a company which treated its supply chain with contempt, according to a House of Commons Select Committee report. Carillion had 120-day payment cycles with the option of being paid earlier for a fee.

Over some years, I have campaigned for using project bank accounts (PBAs), which have proved to be highly successful in safeguarding the cash intended for suppliers. National Highways now use PBAs as standard on all their projects, resulting in all subcontractors being paid within 19 days of the assessment (valuation) date under the main contract. This demonstrates the effectiveness of PBAs in ensuring timely payments and improving cash flow for suppliers within the construction supply chain.

The Government’s policy is that PBAs must be used unless there are “compelling reasons” not to use them. However, there’s little effort by the Government to enforce this policy and demand that any department, agency, or non-departmental body provide their compelling reasons for not adopting PBAs. This lack of enforcement is a significant barrier to the widespread adoption of PBAs across the public sector.

Another major issue in the construction industry is retention. A government report published in 2017 revealed that suppliers were losing almost £1m worth of retention monies per working day due to upstream insolvencies. The majority of respondents to a consultation held by the Business Department (which closed in 2018) wanted statutory protection for their retention monies; that is, the monies should be stored in a ring-fenced account protected by the trust. Five years later, the Department and its useless offshoot, the so-called Construction Leadership Council, hasn’t done anything to implement this despite a Private Member’s Bill, which garnered the support of almost 300 MPs for legislation to protect these monies.

The use of PBAs and the protection of retention monies are critical steps towards improving payment practices in the construction industry. By addressing these issues, we can help to ensure that subcontractors receive timely and fair payments, reduce the risk of insolvency, and promote a more sustainable and equitable construction sector.

With an impending change of Government, there is now an opportunity to put matters right. There should now be legislation to mandate using PBAs across the public sector and to ring-fence retention monies.

The Issue: Contractor not paying subcontractor

The construction industry thrives on trust and timely payments. Yet, the challenge of having a contractor not paying subcontractor their money remains a significant hurdle, affecting not just business relations but the overall integrity and output of construction projects. This deep dive explores the facets of this issue, outlines legal protections, and presents solutions through policy changes and technology.

Understanding the Core Issue

In the construction industry, the flow of money from contractors to subcontractors is often hindered by several factors: cash flow management, contractual misunderstandings, or deliberate withholding. Such practices not only strain business relationships but also jeopardize project completion. The consequences extend beyond immediate financial strain, impacting mental health, reducing productivity, and compromising construction quality.

Legal Framework and Subcontractor Protections

Contract terms are the bedrock of legal actions in cases of non-payment. Subcontractors armed with a clear understanding of contract laws, particularly the Construction Act, can leverage mechanisms like filing a lien or initiating a breach of contract claim to secure their dues. Legal advice is crucial, as the right contractual wording can protect payments under various circumstances, including contractor insolvency.

Recent Legal Developments

Recent court decisions have started to favor more stringent measures to ensure subcontractors are paid promptly. For example, updated lien laws provide stronger protections and make it easier for subcontractors to claim their rights without extensive legal battles.

Contractor not paying subcontractor: Financial Impacts and Management Strategies

Delayed payments can severely disrupt cash flow for subcontractors, often smaller firms that rely heavily on each payment to sustain operations. Innovative financial strategies such as project bank accounts have shown promise. These accounts ensure that funds are available and designated for payment to subcontractors, thereby preventing misuse by primary contractors.

The construction industry, often characterized by complex supply chains and intricate payment structures, has long faced challenges related to delayed payments, payment disputes, and contractor insolvencies. These issues can have severe consequences for businesses, leading to cash flow shortages, project disruptions, and even insolvency. To address these challenges, a transformative solution has emerged: project bank accounts (PBAs).

Understanding Project Bank Accounts

PBAs are ring-fenced bank accounts specifically designed for construction projects. They act as central hubs for managing payments between the client, main contractor, and subcontractors. By ensuring funds are allocated and distributed directly to the appropriate parties, PBAs help eliminate the risk of payment delays, provide greater financial security for all involved, and improve overall project efficiency.

Key Benefits of PBAs

• Improved Cash Flow: PBAs streamline the payment process, ensuring that subcontractors receive timely payments, improving their cash flow and financial stability.
• Reduced Risk of Insolvency: By mitigating the risk of non-payment, PBAs can help prevent contractor insolvencies, which can have devastating consequences for the entire supply chain.
• Enhanced Project Efficiency: PBAs can contribute to more efficient project management by reducing payment disputes and delays, allowing projects to proceed smoothly.
• Greater Transparency: PBAs provide a transparent record of all payments made, increasing accountability and reducing the potential for fraud or misuse of funds.
• Fairer Distribution of Funds: PBAs ensure that all parties involved in the project, including subcontractors and suppliers, receive payments based on their contributions, promoting a fairer distribution of funds.
• Reduced Administrative Burden: PBAs can simplify the payment process, reducing the administrative burden on all parties involved and freeing up resources for other tasks.
• Improved Relationships: By ensuring timely payments, PBAs can help to foster stronger relationships between clients, contractors, and subcontractors, leading to increased trust and collaboration.

Implementation and Best Practices

To effectively implement PBAs, it is essential to:

• Establish Clear Guidelines: Develop comprehensive guidelines and procedures for setting up and managing PBAs, including roles and responsibilities for all parties involved.
• Select a Suitable Bank: Choose a bank with experience in handling PBAs and that can provide the necessary support and services.
• Ensure Proper Funding: Ensure that sufficient funds are deposited into the PBA to cover anticipated payments throughout the project.
• Monitor and Review: Regularly monitor the PBA to ensure that payments are being made correctly and on time. Conduct periodic reviews to identify areas for improvement.
• Address Potential Challenges: Be prepared to address potential challenges, such as disputes over payment amounts or project changes, to ensure the smooth operation of the PBA.

Case Studies and Success Stories

Case Studies

Numerous construction projects have successfully implemented PBAs, resulting in significant benefits for all parties involved. Case studies demonstrate how PBAs have helped to:

• Prevent project delays
• Improve supplier relationships
• Reduce financial risks
• Enhance project profitability
• Improve project quality
• Reduce litigation

The Role of Government and Industry Initiatives

Government agencies and industry organizations play a crucial role in promoting the adoption of PBAs. By providing guidance, incentives, and regulations, they can help to create a more favorable environment for the widespread use of PBAs in the construction industry.

Key Government Initiatives

• The Government Construction Board has been instrumental in promoting the use of PBAs in the public sector.
• The Cabinet Office has published guidance on the implementation of PBAs and their benefits.
• The Scottish government has mandated the use of PBAs on certain public sector projects.

Industry Best Practices

• Clear Contractual Terms: Ensure that contracts clearly outline the use of PBAs and the payment terms associated with them.
• Effective Communication: Maintain open and transparent communication between all parties involved in the project to address any issues or concerns promptly.
• Regular Monitoring: Regularly monitor the PBA to ensure that payments are being made correctly and on time.
• Continuous Improvement: Seek opportunities to improve the PBA process and address any challenges that may arise.

Project bank accounts offer a valuable solution to the longstanding problem of payment delays in the construction industry. By providing a transparent, efficient, and secure payment mechanism, PBAs can help to improve cash flow, reduce risks, and enhance the overall performance of construction projects. As the construction industry continues to evolve, the adoption of PBAs is likely to become increasingly prevalent.

Technological Advancements in Payment Enforcement

Technology plays a pivotal role in mitigating payment issues. New project management tools offer real-time updates and financial tracking, ensuring that payments are made on time and according to contract terms. Blockchain technology, for instance, has introduced a layer of transparency and accountability previously unavailable.

Implementation Examples

Software solutions like C-Link can enable contractors and subcontractors to track project progress and associated payments, significantly reducing the frequency of payment disputes.

Contractor not paying subcontractor: Policy Recommendations and Industry Initiatives

To combat the issue of non-payment, industry leaders and policymakers must collaborate to enforce existing regulations and perhaps introduce new ones. For instance, mandating the use of project bank accounts on all public sector projects could be a transformative step for the industry.

Contractor not paying subcontractor: The Solution

While this is certainly a complex issue, it is not insurmountable. Through a combination of legal knowledge, financial prudence, technological implementation, and strong policy frameworks, the construction industry can move towards a more reliable and equitable future. Ensuring that every party in the construction process gets paid on time is not just a matter of business ethics but a foundational requirement for industry health and sustainability. Book a C-Link demo to see how we ensure timely payments and build a sustainable future for construction. The next thing is

About Rudi Klein

Rudi Klein is Chief Executive of the Specialist Engineering Contractors’ (SEC) Group, an umbrella body representing the interests of 60,000 firms in the specialist engineering sector. He is also an adjudicator on the Adjudication Panel of the Chartered Institute of Building (CIOB). He has lectured extensively on legal and contractual matters.He is an honorary member of the Society of Construction Law.

About Rudi Klein

Rudi Klein is Chief Executive of the Specialist Engineering Contractors’ (SEC) Group, an umbrella body representing the interests of 60,000 firms in the specialist engineering sector. He is also an adjudicator on the Adjudication Panel of the Chartered Institute of Building (CIOB). He has lectured extensively on legal and contractual matters. He is an honorary member of the Society of Construction Law.