Home Features LEGAL: Scandal of lost retention monies

The use of retentions has been condemned by MPs over the years but they still persist. Barrister, Professor Rudi Klein, considers what options are open to contractors to ensure that all monies that are contractually due are paid.

In the autumn of 2002 the (then) House of Commons Trade and Industry Select Committee published a report titled: The use of retentions in the UK construction industry. This recommended that the government should phase out retentions on public sector works as soon as possible. Retentions were condemned by the Committee as out-dated and poor practice. This demand was repeated in 2008 by the same select committee. Many public sector clients have, in fact, abandoned retentions although they may still be applied by the lead contractor to his supply chain. But eradicating retentions on public sector works has been a slow process.

Current recession

The current recession has highlighted the iniquities in the practice of cash retentions. The recent Patton Group collapse resulted in many businesses losing their retentions. Having provided a cash retention a firm cannot do anything to protect its monies in the event of impending payer insolvency.

Retention monies are withheld from sums that were otherwise contractually due for payment; therefore, they belong to the provider of the work. Although contracts in the industry do not generally make clear the reason for the deduction of retentions it has generally been assumed that they are withheld in case of insolvency and failure to ensure that work and/or materials conform to the contract. In effect they are security for performance but there is no concomitant obligation on the other party to provide any security for payment. Moreover the burden of providing retentions ultimately falls upon the smallest and most vulnerable of firms in the supply chain.

On public sector works those most at risk of losing their retention monies through insolvency are firms lower down the supply chain. Since public sector bodies do not go into insolvency, subcontractors and sub-subcontractors (tier two and tier three contractors) are vulnerable – respectively – to main contractor and subcontractor insolvency. On private sector works tier two contractors are additionally exposed to the risk of client insolvency by virtue of Section 113 of the Construction Act. This allows for pay-when-paid provisions to operate where a third party payer (such as a client) goes into insolvency.

The position in other jurisdictions

Many jurisdictions abroad have in place legislation for protecting retention monies. For example, inFrance, retention monies have to be placed with an independent stakeholder. In the state ofWestern Australiathe Construction Contracts Act 2004 requires that they have to be held in trust. In the majority of the states in theUnited Statesthere is legislation providing varying degrees of protection for retentions including restrictions on the amount that can be deducted and the period over which they can be withheld. Last year the state ofNew Mexicointroduced legislation to outlaw the practice.

Landlord and tenant law

There already exists statutory precedents for protecting monies which are made available to another party for specified or contingent purposes. These exist within landlord and tenant legislation. For example, under section 42 of the Landlord and Tenant Act 1987 there is an obligation upon the landlord to place in a trust fund service charges paid by contributing tenants. The landlord’s recourse to the trust fund is strictly limited to defraying those costs for which the service charges where payable. Section 213 of the Housing Act 2004 provides protection for deposits made by tenants as security for performing their obligations under the tenancy agreement. Such deposits have to be placed in a tenancy deposit protection scheme.

Protection for retention monies

There is now an overriding need to protect cash retention against insolvency risk. I propose that we should have a short bill which could be presented in parliament or in any of the other legislatures in theUK– Scottish Parliament, Welsh and Northern Ireland Assemblies. This legislation should place a statutory obligation upon a party procuring construction works to place the retention monies in a separate account and hold these monies as a trustee. The monies should, therefore, be ring-fenced and not available for access by insolvency practitioners. If the client does not hold cash retentions from the lead contractor but the lead contractor does so in respect of his supply chain, the lead contractor will be the trustee.

The statutory trust protection will be available to most firms in the supply chain including tier three contractors. Where the trustee, in breach of his statutory duty, fails to place the monies in a separate account, then any deduction of cash retentions on the particular project should be declared unlawful.

The trustee has the right of recourse to the fund solely for the purpose for which the monies have been withheld under the construction contract to which the trustee is a party. Where the client, for example, has made the deduction the tier one contractor should be required to replenish the account to the extent of the contribution of each of its tier two contractors provided that they were not responsible for the deductions being made in the first place. This requirement would transfer down into contracts between tier two and tier three contractors.

Disputes arising under this legislation would initially be dealt with by reference to an adjudicator utilising the adjudication procedure in the Construction Act.

Summary

It is extraordinary that cash retentions, which are still the property of the party carrying out the work, are not offered any protection in the event of payer insolvency. There cannot be anything more galling than seeing your £50,000 retention disappear as your payer falls prey to insolvency. If you feel that this needs to be addressed, then the best course of action is to write to your MP asking him/her whether he/she would be interested in tabling a private member’s bill to protect retention monies. If an MP expresses interest please email your details and the MP’s details to the FPDC [Adrian, not sure of correct email address]   At the same time let FPDC know of the MP’s interest and any supportive comments.

 

Professor Rudi Klein, Barrister

Chief Executive

Specialist Engineering Contractors’ Group

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