THE APPLICATION OF “PAY WHEN PAID” PROVISIONS
IN CONSTRUCTION SUB-CONTRACT
NASYIRA BINTI IBRAHIM
UNIVERSITI TEKNOLOGI MALAYSIA
THE APPLICATION OF “PAY WHEN PAID” PROVISIONS IN CONSTRUCTION
SUB-CONTRACT
NASYIRA BINTI IBRAHIM
A project report submitted in partial fulfillment of the
requirements for the award of the degree of
Master of Science (Construction Contract Management)
Faculty of Built Environment
Universiti Teknologi Malaysia
JULY 2009
iii
DEDICATION
Specially dedicated ………
To my parents …… ‘Encik Ibrahim Mohd Amin & Puan Jaradah Hj Abdul Majid’
To my sisters …… ‘Nadya Alina, Nadwanie Harniza, Nazlin, Nazirah’
To my brother …… ‘Mohd Nazriey’
To my lovely friends …… ‘Sakina, Hairani, Roslinda, Haizan’
………………………………… Thank you for everything
iv
ACKNOWLEDGEMENT
A debt of gratitude is owed to many individuals who have given me the benefit of
their unconditional help, tolerance and knowledge in writing and completing this master
project. First for all, I would like to express my highest gratitude to my supervisor, Encik
Norazam Othman for his guidance, advice and support in order to complete this master
project.
Next, to my special thanks are due to all the lecturers for the course of Master of
Science (Construction Contract Management), for their patient and kind advice during the
process of completing of master project.
Not forgetting my dearest parents, brothers and sisters, a token of appreciation
goes to then for giving full support. Lastly, I would like to express my special thanks my
fellow classmates, who have in their own way helped me a great deal throughout the
preparation and production stages of this master project.
v
ABSTRACT
For years, general contractors have often enclosed a contractual provision of “pay when
paid” in their subcontracts providing that payment to the subcontractor is conditioned
upon the general contractor’s actual receipt of payment from the owner. “Pay-when-paid”
clauses while seemingly straightforward at first glance but many are actually ambiguous.
Instead of “pay when paid” arrangement waiving the right of the subcontractor to be paid,
there is competing argument that this clause speaks to timing of payment. Hence, this
research intends to identify whether “pay when paid” arrangement in construction subcontract waiving the right of the subcontractor to be paid or simply a timing mechanism.
This research was carried out mainly through documentary analysis of law journals and
law reports. Results shows that 8 out of 11 cases identify that “pay when paid” provision
in the sub-contract constitute as timing mechanism. “Pay When Paid” provision may
become either as timing mechanism and waiving the subcontractor right to be paid. Most
of the cases cited that wording of the contractual language in the sub-contract is critical in
identify the application of “pay when paid” provis ion. Unambiguously and sufficiently
clearly contractual language must have been used in order for a court to construe such a
clause imposed payment to the main contractor as condition precedent to the
subcontractor’s right to be paid, rather than limiting the time for payment. Once a judge
decides that provision is ambiguous there is nothing for the jury to decide or interpret.
Therefore, the subcontractor may take the legal action to challenge the enforceability of
the clause to seek immediate payment when they have suffering the risk of non-payment
due to the performance problems unrelated to their own work.
vi
ABSTRAK
Selama bertahun-tahun, kontraktor utama kerap kali memasukkan peruntukan berkontrak
“bayar apabila dibaya r” dalam sub-kontrak pembinaan dengan memperuntukkan bahawa
pembayaran kepada subkontraktor berdasarkan keadaan kontraktor menerima
pembayaran sebenar daripada pemilik. Kluasa “bayar apabila dibayar” sekilas pandang
jelas dan mudah maknanya tetapi kebanyakkannya adalah kabur maknanya. Selain
daripada provisyen “bayar apabila dibayar” mengenetepikan hak subkontrak untuk
mendapat pembayaran, terdapat percaturan lain yang menyatakan bahawa klausa ini
bercakap mengenai masa untuk mendapatkan pembayaran. Oleh itu, kajian ini bertujuan
untuk mengenalpasti samada peruntukan “bayar apabila dibayar” di dalam sub-kontrak
pembinaan mengenepikan hak subkontraktor untuk mendapatkan pembayaran atau ianya
mengenakan tempoh masa untuk membuat pembayaran. Kajian ini dijalankan melalui
analisis dokumen, iaitu laporan dan jurnal undang-undang. Kajian ini menunjukkan 8
daripada 11 kes menunjukkan klausa “bayar apabila dibayar” mengenakan tempoh masa
untuk membuat pembayaran. Peruntukan “bayar apabila dibayar” boleh dianggap sebagai
mekanisme masa dan juga sebagai mengenepikan hak subkontraktor untuk mendapat
pembayaran. Kesuluruhan kes menyatakan bahawa bahasa kontrak adalah kritikal (amat
penting) dalam menentukan aplikasi klausa “bayar apabila dibayar”. Klausa yang cukup
jelas dan terang tanpa maksud yang samar adalah penting untuk memastikan mahkamah
memutuskan bahawa klausa tersebut mengenakan pembayaran kepada kontraktor adalah
duluan kepada hak subkontraktor untuk dibayar, selain daripada menghadkan tempoh
pembayaran. Apabila hakim memutuskan apabila klausa tersebut samar maknanya adalah
tiada kemungkinan untuk juri dan hakim untuk memutuskan dan mengolahkannya lagi.
Oleh itu, subkontraktor boleh mangambil tindakan mahkamah dalam mencabar
keberkuatkuasaan klausa tersebut dalam mendapatkan pembayaran secara cepat apabila
mereka dalam risiko tidak dibayar berdasarkan masalah perlaksanaan yang tiada kaitan
dengan kerjanya.
vii
TABLE OF CONTENT
CHAPTER
TITLE
PAGE
DECLARATION....................................................................................... ii
DEDICATION.......................................................................................... iii
ACKNOWLEDGEMENT....................................................................... iv
ABSTRACT ............................................................................................... v
ABSTRAK ................................................................................................ vi
TABLE OF CONTENTS ....................................................................... vii
LIST OF TABLES .................................................................................... x
LIST OF ABBREVATIONS ................................................................... xi
LIST OF CASES .................................................................................... xiii
LIST OF APPENDICES ...................................................................... xvii
1
INTRODUCTION..................................................................................... 1
1.1 Background of Research ....................................................................... 1
1.2 Problem Statement ................................................................................ 3
1.3 Objective of Research ........................................................................... 8
1.4 Scope and Limitation of Research ........................................................ 8
1.5 Significance of Research....................................................................... 9
1.6 Research Methodology.......................................................................... 9
1.6.1 Stage 1: Identifying the Research Issue ..................................... 10
1.6.2 Stage 2: Literature Review ......................................................... 10
1.6.3 Stage 3: Data Collection............................................................. 11
1.6.4 Stage 4: Data Analysis ............................................................... 11
1.6.5 Stage 5: Conclusion and Recommendations .............................. 12
viii
2
LIABILITY OF THE SUB-CONTRACTOR ...................................... 13
2.1 Introduction ......................................................................................... 13
2.2 The Contractual Chain ........................................................................ 14
2.3 The Contractual Status of a Subcontractor with the Owner................ 15
2.4 Liability of the Sub-Contractor ........................................................... 16
2.4.1 Liability in Contract .................................................................... 16
2.4.2 Liability in Tort ........................................................................... 17
2.5 Legal and Contractual Background of Subcontractor Rights
to Payment ........................................................................................... 18
2.6 Relationship of Subcontractor’s Statutory Right to Recover
for Non-Payment with “Pay When Paid” Provisions in the
Sub-Contract ......................................................................................... 19
2.6.1 Security of Payment ..................................................................... 19
2.6.2 Enforcement of Payment .............................................................. 21
2.7 Summary .............................................................................................. 22
3
APPLICATION OF “PAY-WHEN-PAID” PROVISIONS
IN SUB-CONTRACT .............................................................................. 23
3.1 Introduction .......................................................................................... 23
3.2 Definition of “Pay When Paid” ............................................................ 25
3.3 “Pay When Paid” Provisions in Sub-Contracts.................................... 26
3.4 Non-Payment by the Employer/Owner
(Relying on “Pay When Paid” Provision in Sub-Contract) .................. 29
3.4.1 Contractor Contribution to Non-Payment by the Employer ........ 29
3.4.2 The Insolvency by the Employer ................................................. 30
3.4.3 Final Payment Pending Dispute between the Employer
and the Main Contractor ............................................................... 32
3.5 Application of “Pay When Paid” Provisions in Sub-Contract ............ 33
3.5.1 The “Pay When Paid Clause is a Covenant Establishing
the Time of Payment ..................................................................... 33
3.5.2 “Pay When Paid” Provisions as Condition Precedent .................. 40
ix
3.6 Reasonable Time ................................................................................. 55
3.6.1 A Mechanism to Determine When Payment is due ................... 56
3.7 Issues Regarding to “Pay When Paid” Provisions .............................. 59
3.7.1 Prevention Doctrine ................................................................... 59
3.7.2 Summary Judgment.................................................................... 61
3.7.3 Payment Bond Surety................................................................. 63
3.7.4 Contractor’s Own Default .......................................................... 65
3.8 Conclusion........................................................................................... 67
4
ANALYSIS ON THE APPLICATION OF “PAY WHEN PAID”
PROVISIONS IN SUB-CONTRACTS .................................................. 69
4.1 Introduction .......................................................................................... 69
4.2 The Application of “Pay When Paid” Provision in Sub-Contract ....... 70
4.2.1 “Pay When Paid” Suggest Time of Payment .............................. 72
4.2.2 “Pay When Paid” As Condition Precedent ................................. 95
4.3 Conclusion.......................................................................................... 106
5
CONCLUSION AND RECOMMENDATIONS ................................. 109
5.1 Introduction ........................................................................................ 109
5.2 Summary of Research Finding ........................................................... 109
5.3 Problem Encountered during Research.............................................. 128
5.4 Conclusion.......................................................................................... 128
REFERENCES ....................................................................................... 129
APPENDIX A ......................................................................................... 133
x
LIST OF TABLES
TABLE NO
3.1
TITLE
The Application of the “Pay When Paid” Provisions
PAGE
48
In Construction Sub-Contracts
5.1
Judgment on the Application of the ‘Pay When Paid”
Provisions in Construction Sub-Contracts
111
xi
LIST OF ABBREVATIONS
AC
Law Report Appeal Cases
ALJ
Australian Law Journal
ALR
Australian Law Report
CA
Court of Appeal
CIDB
Construction Industry Development Board
DC
Division Court England
DLR
Dominion Law Reports
FC
Federal Court
HL
House of Lords
HKC
Hong Kong Case
HKLR
Hong Kong Law Reports
IEM
The Institution of Engineers, Malaysia
LGR
Local Government Reports
LR
Law Reports
JP
Justice of the Peace
MBAM
Master Builders Association
MLJ
Malayan Law Journal
NS
Nova Scotia
NZLR
New Zealand Law Reports
PAM
Pertubuhan Arkitek Malaysia
PWD
Public Work Development
PD
Probate, Divorce, and Admiralty Division of High Court
xii
SLR
Singapore Law Report
UM
University of Malaya
USA
United State of America
WLR
Weekly Law Report
WR
Weekly Reports
xiii
LIST OF CASES
CASES
PAGE
Timbro Development Ltd. v. Grimsby Diesel Motors Inc.
et. al. (1988) 32 C.L.R. 32 (Ontario Court of Appeal)
6,44
Arnoldin Construction & Forms Limited v. Alta Surety
Co (1995) 19 C.L.R. (2d) 1 (Nova Scotia Court of Appeal)
6
Schindler Lifts (Hong Kong) Ltd v. Shui On Construction Co Ltd (1984)
7
Nin Hing Electronic Engineering Ltd v. Aoki Corporation (1987)
7
Brightside Mechanical & Electrical Services Group
Ltd v. Hyundai Engineering & Construction Co Ltd (1988)
7
Thomas J Dyer vs. Bishop International Engineering Co.
303 F 2d 655 (1962)
7,31,
35,37
Markel & Co. Contractors vs. Christian Co
7
Tweddle v. Atkinson (1861) IB & S 393
14
R&G Engineering Sdn Bhd v. ESPL (M) Sdn Bhd[2004] 4 CLJ 674
20
Kah Seng Construction Sdn Bhd v. Selsin Development Sdn Bhd
[1997] 1 CLJ Supp 448
21
DEC Elec., Inc. v. Raphael Construstion. Corp 558 So. 2d 427
(Fla. 1990)
25,30,
34,43
xiv
North Market Assn., Inc. v. Case
Lezzi Construction Pty Ltd v. Watkins Pacific
(Queensland) Pty Ltd (1995) 2QdR350
25
Moore Brothers Co. v. Brown Root Inc. (2000) 207 F.3d 717
29
Aqua Design and Play International Limited and Fenlock
Hansen Limited v. Kier Regional Limited (2002) CA
31
United Plate Glass Co. v. Metal Trims Indus Inc. (1987)
106 Pa. Commw. 22,525 A.2d 468
32
28
Pace Construction Corporation v. OBS Co[1988] 531 So.
2d 737 Fla. Dist. Ct. App.
David C. Olson, Inc. v. Denver & Rio Grande W.R.R. Co.,
789 P.2d 492 (Colo. Ct. App. 1990)
33
Power & Pollution Services, Inc. v. Suburban Power Piping Corp
47 Ohio App. 3d 89 (Cuyahoga County 1991)
36
Seal Tite Corp. v. Ehret, Inc589 F. Supp. 701 (D.N.J. 1984)
37
Mignot v. Parkhill391 P.2d 755, 758 (Or. 1964)
37
Berkel & Company Constractors v. Christman Company 210
Mich. App. 416, 533 N.W.2d 838 (1995)
West-Fair Electric Contractors v. Aetna Casualty & Surety Company
87 N.Y. 2d 148, 638 N.Y.S. 2d 394, 661 N.E.2d 967 (1995)
38
A.J. Wolfe Co. v. Baltimore Contractors Inc.,
244 N.E.2d 717, 720 (Mass. 1969)
38
Southern States Masonry Inc. v. JA Jones Construction
Company (1987) 507 So. 2d 198
39
John J. Calnan Co. v. Talsma Builders, Inc.,
395 N.E.2d 1076, 1080 (lll App. Ct. 1979).
41
Harvey Concrete, Inc. v. Agro Construction & Supply Co.
939 P.2d 811 (Ariz. Ct. App. 1997)
41
Printz Services Corp. v. Main Electric Ltd. 949 P.2d 77
(Colo. Ct. App. 1997)
42
xv
Robert F. Wilson, Inc., v. Post-Tensioned Structures, Inc.,
522 So. 2d 70 (Fla. 3d DCA 1988)
42
Peacock Construction Co., Inc. v. Modern Air Conditioning,
Inc353 So.2d 840 (Fla. 1977)
44,45
OBS v. Pace Construction Corporation 558 So. 2d 404 (Fla. 1990)
44
Kor-Ban Inc. v. Pigott Construction Ltd.
44
J.J. Shane v. Aetna Casualty & Surety Company
723 So. 2d 302 (Fla. 3d DCA 1998), reh. den.
46
Smith & Smith Glass Ltd. v. Winstone Architectural
Cladding System Ltd. (1991).
60
Goldblatt v. Longacre Const. Co. 170 N.Y.S. 54
(1st Dept. App.T. 1918)
61
Wetter v. Kleinert139 A.D. 220, 123 N.Y.S. 755 (2nd Dept. 1910)
61
ADF Int’l, Inc. v. Baker Mellon Stuart Court., Inc.
Case No. 6:98-cv-1310-Orl-31B, (M.D.Fla.Dec.28, 2000),
2000 U.S.Dist.LEXIS 22597
62
R&L Acoustics v. Liberty Mut. Ins. Co. (September 27, 2001)
Conn. Super., LEXIS 2854
62
Framingham Heavy Equip. Co. v. John T. Callahan & Sons
No.02-P-1159 (2003) 61 Mass. App. Ct. 171, 807 N.E.2d 851
62
Lafayette Steel Erectors, Inc. v. Roy Anderson Corp.
71 F. Supp. 2d 582; (S.D. Miss. 1997) LEXIS 23587
63
Lowy and Donnath, Inc. v.New York98 A.D.2d 42, 469
N.Y.S.2d 760 (1st Dept. 1983), aff’d 62 N.Y.2d 746, 476
N.Y.S.2d 830 (1984).
64
Grossman Steel and Aluminum Corp. v. Samson Window Corp.,
78 A.D.2d 871, 433 N.Y.S.2d 31 (2nd Dept. 1980), aff d 54
N.Y.2d 653, 442 N.Y.S.2d 769 (1981)
Galloway Corp. v. S.R. Ballard Constr. Co. 250 Va 493,
494 S.E.2d 349 (1995) (Virginia Supreme Court)
64
xvi
Blakeslee Arpaia Chapman v. EI Construction, Inc. 239 Conn.
708, 687 A.2d 506 (1997)
64
Moore Brothers Co. v. Brown & Root, Inc. 207 F.3d 717 (2000)
66,69
Northeast Drilling, Inc. v. Inner Space Services, Inc.
66
Alloy Automotive Sdn Bhd v. Perusahaan Ironfield Sdn Bhd
[1986] 1 MLJ 382 (SC)
67
Malayan Insurance (M) Sdn Bhd v. Asia Hotel Sdn Bhd
[1987] 2 MLJ 183 (SC),
67
Hong Kong Teakwood Works Ltd. v. Shui On Construction Co. Ltd.
[1984] HKLR 23
68
Schindler Lifts (Hong Kong) Ltd. v. Shui On Construction Co. Ltd.
[1985] HKLR 118
68
United States ex rel. Walton Technology v. Weststar Engineering
Inc. 290 F.3d 1199 (9th Cir. 2002)
69
Brown & Kerr, Inc. v. St. Paul Fire and Marine Insurance
Co. 940 F. Supp. 1245, 1249 (N.D. III. 1990)
70
Casey Indus. Inc. v. Seaboard Surety Co 2006 WL 2850652,
*7 (E.D. Va. 2006)
71
Durabella Limited v. J. Jarvis & Sons Limited (2001)
70
Sassenrath v. Sassenrath657 S.W. 2d 671, 674 (Mo. Ct. App. 1983)
73
AEE-EMF v. Passmore906 S.W. 2d 714 (Mo. Ct. App. 1995)
73
Preload v. Marino Construction1991 WL 202651 (N.D. I11. 1991)
73
xvii
LIST OF APPENDICES
APPENDIX
A
TITLE
PAGE
Contingent Payment Clauses in the 50 States” by the
Foundation of the American Subcontractors Association
(FASA)
133
1
CHAPTER 1
INTRODUCTION
1.1
Background of Research
The modern construction project is so marvelously complex that is amazing that
anything ever gets built 1 . Construction projects can best be understood in the context of
the whole industry. Technological complexity ranges from the familiar, well knownmaterials and trades through to highly complex facilities involving multiple interacting
sub-systems 2 . Besides that, it is labor intensive with manpower remaining the most
important and critical resources for a cons truction project 3 . Project have multitude of
1
Fullerton, J.D. (2008). Changes, Delays and Other Claims.
Murdoch, J. and Hughes, W. (2008). Construction Contracts: Law and Management 4th Edition. London
and New York: Taylor & Francis. Pg 3
3
Ng Chu Yin (2006). Problems Associated With Nominated Subcontractor in Malaysian Construction
Industry. Johor: Universiti Teknologi Malaysia. Pg1
2
2
players, including owners, general contractors, subcontractors, architects, engineers, and
various material suppliers and laborers 4 .
Letting work to subcontractors is a very common practice in construction
industry. It is common for 80 percent to 90 percent of the work to be performed by
subcontractors 5 . Subcontractor is specialized providers of particular construction
services and often the necessary materials for their work. Subcontractors include
masons, plumbers, electricians, painters, glaziers, roofers, and other mechanics.
Traditionally, subcontractors enter into contracts with the Contractor (not the Owner)
and acquire the materials necessary to perform the subcontracts from Supplier. First-tier
Subcont ractors often subcontract various portions of their responsibilities to lower-tier
subcontractors, each of which may acquire their materials from numerous suppliers 6 .
The general contractor is responsible for coordination of all these subcontractors.
Variance in experience or competence in this coordination can dramatically impact a
project 7 .
Subcontracting has always been important in the construction industry,
particularly in building construction where the production process is divided into
number of discrete. These task or activities are often carries out sequentially and may
require specialized labor. Subcontractors help contractors overcome problems including
the need of special expertise, shortage in resources, and limitations in finance 8 . The
successful completion of construction contracts, particularly in building construction,
depends in large measure on the quality and timely performance of the subcontractor.
4
Rippeon, Z. (2007). Conditional Payment Clauses in Construction Contracts. Georgia: Georgia State
University College of Law.
5
Ng Chu Yin (2006). Problems Associated With Nominated Subcontractor in Malaysian Construction
Industry. Johor: Universiti Teknologi Malaysia. Pg 2
6
McCarroll, B. (2006). The Construction Process from Start to Finish in Texas. Lorman Education
Services, Texas. Pg4-5
7
Fullerton, J.D. (2008). Changes, Delays and Other Claims.
8
Ng Chu Yin (2006). Problems Associated With Nominated Subcontractor in Malaysian Construction
Industry. Johor: Universiti Teknologi Malaysia
3
Contingent payment provisions are found in nearly every construction contract,
particularly for commercial development 9 . A contingent payment clause is a contractual
provision that makes payment contingent upon the happening of some event. In
construction subcontracts, the typical contingent payment clause makes the
subcontractor’s payment contingent upon the payment of the contractor by the owner10 .
One common form is the “pay when paid” clause, which establishes a reasonable
timeframe for subcontractor payment to occur, not when the relevant sum was certified
by the contract administrator, but only when the general contractor actually received the
money from the employer11 . The “pay when paid” clause does not shift the risk of
owner nonpayment to the subcontractor, unless specifically and unambiguously stated
otherwise 12 .
1.2
Problem Stateme nt
Contractors and subcontractors in the construction industry know the real
meaning of the famous phrase “cash flow is the lifeblood of the industry”. A contractor,
who pays a subcontractor before being paid by the employer, is effectively funding the
project. Add to this the cost of pursuing the employer for non-payment and the
precarious nature of construction becomes obvious. Insolvency of the employer in that
9
Rippeon, Z. (2007). Conditional Payment Clauses in Construction Contracts. Georgia: Georgia State
University College of Law.
10
Hill, K.B. & Ritter (2008). Contingent Payment Clauses in the 50 States. Ohio: Foundation of the
American Subcontractors Association
11
Murdoch, J. and Hughes, W. (2008). Construction Contracts: Law and Management 4 th Edition.
London and New York: Taylor & Francis. Pg 276
12
Rippeon, Z (2007). Conditional Payment Clauses in Construction Contracts. Georg ia: Georgia State
University College of Law.
4
situation can threaten the continued existence of the contractor. In the Government Inspired Banwell Report in 196413 , Sir Harold Banwell commented that:
“The operation of the payment system is not always smooth. Payments to
the main contractor by the clients are often slow and uneven, with
consequential delays in payment to suppliers and subcontractors. This has
an adverse effect on the efficiency and stability of the whole industry …”
A recent survey done by the Construction Industry Development Board (CIDB)
in collaboration with the University Malaya (UM) ‘merely’ formally documents what
many in the construction industry already know is there is a chronic problem of delayed
and non-payment in the Malaysian construction industry affecting the entire delivery
chain 14 . Master Builders Association (MBAM) has long been lamenting on the problems
of delayed and non-payment in the construction industry.
Industry form documents can be used to create a fair contract for both parties.
Those same documents, however, can also be manipulated to gain unbalance the
agreement. While there are a multitude of clauses that can cause substantial and
unexpected financial trouble for the company, one of the most flagrant is the payment
clause 15 . In every construction contract, the general contractor and its subcontractors
must allocate the risk that the owner of the project either cannot, or will not, pay for the
work performed. The allocation of the risk can have a significant impact on the
profitability of the project for all parties, and can lead to protracted litigation16 .
13
Pettigraw, R. (2005). Payment under Construction Contracts Legislation. Thomas Telford Ltd: London.
Pg 2
14
Sr Nourshad Ali Naseem Ameer Ali (2006). A “Construction Industry Payment and Adjudication Act”:
Reducing Payment-Default And Increasing Dispute Resolution Efficiency In Construction. Master
Builders Journal 3rd Quarter 2006. Pg 4.
15
Russell, R. (2003). The Right Contract Means Preserving Cashflow. Builder Exchange Magazine Vol 8
Issue 03
16
.Goodin, P.W. and Dickinson, J.C. (2002). Who Bears the Risks of Owner Non-Payment.? Midwest
Construction Law, Contracts and Claims.)
5
General contractors sometimes try to avoid being stuck with liability for
subcontractor claims which can be passed through by writing “pay-when-paid” clauses
into their contract. These clauses attempt to pass the risk of the owner not paying on to
the subcontractor. This is something that may be missed by the subcontractor and can
work unfairly, especially where the subcontractor as in no position to assess the financial
strength of the owner 17 . In the absence of any such clause, if an owner fails to pay the
contractor for the work performed by the subcontractor, the main contractor is still
responsible for making any contractual payments due to the subcontractor 18 .
Dealing with contingent payment clauses is a frequent headache for
subcontractors. Contingent payment clauses make subcontractors bear numerous risks
completely unrelated to their own performance. Delayed approval of applications for
payment by the architect, cash flow problems, pending and unpaid claims, and defective
performance by other subcontractors all may prevent payment to the general contractor
through no fault of the subcontractor. The resulting delay in payment impairs the
subcontractor's credit rating, depletes operating capital and lines of credit, and hurts the
subcontractor's relationships with its own trade creditors. Even worse, contingent
payment clauses compel subcontractors to continue to work even though they have not
been paid 19 .
The Employer may for instance withhold payment because of default by the
contractor or other subcontractors. Not surprisingly, contractors argue that “pay-whenpaid” clauses are a valid and legitimate protection against these risks. The subcontractor
on the other hand has an equally valid argument against “pay when paid” clauses. If he
has properly carried out the work, he argues, he should be entitled to be paid; otherwise
17
Logan, J.M. Pay-When-Paid Clauses-Construction Law. Canada. Pg1
Beckwith, A (2002). Pay-When-Paid Clauses: Risk Allocation and the need for Careful Drafting. Miller
Thomson Construction Law Newsletter Summer 2002, Miller Thomson LLP:Washington DC, Pg 1
19
Nadine, H. G. and Patrick, C. B. (1999). Waiting to Get Paid: Pay When Paid Provisions a Matter of
When or If. The Florida Bar Journal Volume LXXII No.9, October 1999, pg 64
18
6
he will run the risk of continued existence instead of the contractor. He should not
become involved in disputes between the employer and contractor, which may have
nothing at all to do with his work20 .
Huxtable (1988) cited that, the way in which “pay when paid” clauses shift the
risks on to subcontractors has for a long time been criticized as unfair but they are still in
everyday use in standard form of sub-contracts in the countries of South-East Asia
(Murdoch, 2008). Therefore, it is no surprise that the courts have struggled. From the
cases of Timbro Development Ltd. v. Grimsby Diesel Motors 21 and Arnoldin
Construction & Forms Limited v. Alta Surety Co.22 , there are two lines of arguments.
The first is that if a clause indicates that the subcontractor will be paid when the
contractor is paid, that is a clear indication that “unless and until the contractor is paid
the subcontractor has no right to be paid and the risk of non payment by the owner is
borne by the subcontractor.” The competing argument is that the “pay-when-paid”
clause speaks to the timing of the payment but is not conclusive right to be paid. In other
words, in the ordinary course “the subcontractor will have to wait until the contractor is
paid but does not give their right to recover against the contractor in the event the
owner never pays the subcontractor23 .” Therefore, the issue is whether a payment clause
is a true “pay when paid” arrangement waiving the right of the subcontractor to be paid
which payment to the subcontractor is condition precedent to payment by the owner to
the main contractor or is simply a timing mechanism.
Throughout the country, courts have differed on the interpretation of “pay-whenpaid” clauses which purport to make a general contractor’s duty to pay a subcontractor
conditional on its receiving payment from the owner. Some courts maintain that these
clauses should be loosely construed to mean that the general contractor’s obligation to
20
Atkinson, D (2001). Payment-Pay-When-Paid Clauses. England: Daniel Atkinson Limited.
Inc. et. al. (1988) 32 C.L.R. 32 (Ontario Court of Appeal)
22
(1995) 19 C.L.R. (2d) 1 (Nova Scotia Court of Appeal)
23
Logan, J.M. Pay-When-Paid Clauses- Construction Law. Pg 1
21
7
pay is not excused in the event of nonpa yment by the owner 24 . Courts in Hong Kong and
Singapore have treated “pay when paid” clauses as valid and enforceable, at least to the
extent of protecting the main contractor’s cash flow by merely delaying the obligation to
pay the subcontractor 25 . Courts in several jurisdictions have followed the reasoning of
Dyer 26 to conclude that such a clause merely establishes a reasonable time in which
contractor can delay payment, but that is does not completely excuse payment. The
Michigan Court of Appeals in the case of Markel & Co. Contractors vs. Christian Co27
has held that such provisions are enforceable and that they indefinitely suspend the
contractor’s obligation to pay subcontractors until it has received payment from the
owner. However, such a provision may be excused under some circumstances, and they
may be unenforceable.
“Pay-when-paid” provisions may vary widely from state to state. Just because a
contractor presents a subcontractor with a contract provision does not mean that
provision is legally enforceable 28 . So, this research is looking to identify the application
of “pay when paid” clauses in construction sub-contracts, either “pay when paid”
arrangement in construction sub-contracts waiving the right of the subcontractor to be
paid or simply a timing mechanism. To what extend the “pay when paid” provisions
constitutes as a timing mechanism and as waiving the right of subcontractor to be paid.
24
Reeves, G.D. (1999). Enforceability of Conditional Payment Provisions in Construction Subcontracts.
CAM Magazine August 1999 Edition
25
Schindler Lifts (Hong Kong) Ltd v. Shui On Construction Co Ltd (1984); Nin Hing Electronic
Engineering Ltd v. Aoki Corporation (1987); Brightside Mechanical & Electrical Services Group Ltd v.
Hyundai Engineering & Construction Co Ltd (1988)
26
The 1962 6th Circuit United States Court of Appeal decision in Thomas J Dyer vs. Bishop International
Engineering Co. 303 F 2d 655 (1962). The approach taken principles in mind, which has been followed by
most courts, is to examine the principles in mind: (1) the clear intention of the parties’ control; (2)
ambiguous contracts should be construed against the drafter; and (3) conditions precedent is generally
disfavored.
27
Reeves, G.D. (1999). Enforceability of Conditional Payment Provisions in Construction Subcontracts.
CAM Magazine August 1999 Edition
28
Danner, P.D. Enforceability of Pay-When-Paid and Pay-If-Paid Clauses May Vary From State to State.
8
1.3
Objective of Research
Following the issues stated above, this research attempts:
1. To identify whether “pay when paid” arrangement in construction subcontract waiving the right of the subcontractor to be paid or simply a timing
mechanism.
1.4
Scope and Limitation of Research
The approach adopted in this study is case law based. The court cases referred in
this study include Malaysia, Singapore, Hong Kong, Florida, Ohio, Ontario, Illinois and
English cases. There is no limit to the cases chosen in terms of time frame, as long as it
has not been overruled by higher court and establishes a good law.
9
1.5
Significance of Research
Basically, this study is expected to answer some of the uncertain issues that arise
in “pay-when-paid” provisions in construction sub-contract. In accordance to that, issues
will be analysed based on the judge interpretation and judgment by the courts in various
state. Thus, by identifying the application of “pay when paid” arrangement either
waiving the right of the subcontractor to be paid or is simply a timing mechanism, it is
hope that this study would contribute toward enhancement of the subcontractor’s
knowledge and more understanding on how to defense their rights and take the legal
action to challenge the enforceability of the clause to seek immediate payment when
they have suffering the risk of non-payment due to the performance problems unrelated
to their own work. Finally, hopefully it assists in avoiding unnecessary disputes while
assuring the success and better relationship among the contractual parties.
1.6
Research Methodology
In order to achieve the objectives of this study, a systematic process of
conducting this study had been organized. Basically, this study process comprised of
five major stages, which involved identifying the study issue, literature review, data
collection, data analysis, conclusion and recommendations.
10
1.6.1
Stage 1: Identifying the Research Issue
The study issue arises from intensive reading of books, journals and articles
which can be attained from the UTM library and from internet. At the same time,
discussion with supervisors, lecturers, as well as friends, were held more ideas and
knowledge relating to the topic could be collected.
Based on the study issue, the
objective of the study has been identified. In addition to that, this research is executed to
review the relevant court decisions, with the intention of identifying and determining the
application of “pay-when-paid” arrangement, either merely as timing mechanism or a
true “pay when paid” arrangement waiving the subcontractor(s) rights to be paid. To
what extend the court judgment tend to held that the application of “pay when paid”
provisions constitutes as a timing mechanism and waiving the right of subcontractor to
be paid.
1.6.2
Stage 2: Literature Review
Afterward, a research outline will be prepared in order to identify what kind of
data will be needed in this research. Collection of various documentation and literature
regarding the study field is of most important in achieving the research objectives.
Besides, secondary data is collected from reading materials in printing form like books,
journals, research paper, magazines, reports, proceedings, seminar paper as well as
information from internet and also by referring to standard contract forms (the PAM
1998 Form, PAM 1998 Sub-Contract Form, JKR PWD Form 203A and JKR PWD Form
203N).
11
Books, articles and journals relating to sub-contracting, “pay-when-paid”
clauses, and payment under construction contract will be read to know depth the theories
relating to the research field. All sources are important to complete the literature review
chapter.
1.6.3
Stage 3: Data Collection
Data will be collected mainly through documentary analysis. All collected data
and information were recorded systematically. Data collected to analyse mainly from
Malayan Law Journal, Hong Kong Law Report, Singapore Law Report, Building Law
Report, All England Law Report, and other law journals via UTM library electronic
database, namely Lexis-Nexis Legal Database. All the cases relating to the research
topic will be sort out from database. Important cases will be collected and used for the
analysis at the later stage.
1.6.4
Stage 4: Data Analysis
Once the previous related court cases are collected, it will be conducted by
reviewing and clarifying all the important facts of the cases and critical issues and
judgments. The application of “pay when paid” arrangement where the judges tend to
held that the contingent payment provision on “pay when paid” clauses in construction
subcontract merely as a timing mechanism or as waiving the subcontractor(s) rights to
be paid will be determined from the relevant cases. After issues presented by each cases,
thorough discussion and comparison will be done in order to achieve objectives of this
study.
12
1.6.5
Stage 5: Conclusion and Recommendations
The last stage of the research mainly involves writing up and checking the
writing. In this stage, reviews on the whole process of the study will be made with the
intention to identify whether the study objective has been achieved. Conclusion and
recommendation were made based on the findings during the stage of analysis.
13
CHAPTER 2
LIABILITY OF THE SUB-CONTRACTOR
2.1
Introduction
Construction was in highly technical in its nature. Even for those in the industry,
every trade in the team has varying levels of understanding and individual areas to focus
for the same item of work and, as such, everyone experience and point of view may be
unique. 29 Construction projects generally involve a complex network of complimentary
and occasionally conflicting contractual rights and obligations. Standard forms of
contract exist which, with varying degrees of success, are meant to address the
29
Teresa Cheng, Evia Wong and Gry Soo (2004). Construction Law and Practice in Hong Kong. Sweet &
Maxwell Asia. Pg 7
14
commercially reasonable balancing of rights and obligations, risks and rewards that is
necessary to the orderly functioning of this important construction industry30 .
The used of standard form provides many advantages, and although standard
forms are not mandatory in practice their used should be encouraged in all possible
circumstances31 . Sub-contracting as a phenomenon is not unique to the construction
sector. There are many influences on a business that encourage sub-contracting, and it is
useful to distinguish those pressures that are general (affecting all business) and those
that are specific (affecting the unique position of construction). 32
This chapter provides an overview on the sub-contracting in the construction
industry. This include the contractual chain, the liability of the sub-contractor in contract
and tort, the subcontractors right to payment and the statutory rights to recover nonpayment by the main contractor relying to the “pay when paid” provision in sub-contract.
2.2
The Contractual Chain
The basic position in law that the main contract and sub-contract and the subsub-contract (if there is one), are regarded as links in a chain 33 . The doctrine of privity of
contract means that the rights and obligations contained in each contract apply only to
30
Sternlieb (2007). Subcontractor’s Right to Payment. New Jersey Law Journal Vol. CXC-No.4-Index 399
October 22, 2007.
31
Ashworth, A. (1986). Contractual Procedures in the Construction Industry. London and New York:
Logman. Pg 8
32
Murdoch, J. and Hughes, W. (2008). Construction Contracts: Law and Management 4 th Edition. London
and New York: Taylor & Francis. Pg 267
33
Ibid. Pg 270
15
those who are parties to it 34 . The ‘chain liability’ works perfectly well as long as all the
links are intact. However, a chain can only as strong as its weakest link, and considerable
problems arise as soon as one of the links breaks 35 .
2.3
The Contractual Status of a Subcontractor with the Owner
There are normally exists no what one could call, in legal terms, ‘privity of
contract36 ’ between an Owner and his contractor’s sub-contractor. An owner is not
normally liable to a sub-contractor for payment, whether or not there is a “pay-whenpaid” provision in the sub-contract. The simple reason for this is that the owner is not a
party to the sub-contract. In the case of nominated sub-contracts under P.A.M. Form, it is
the case that the sub-contract entered into is instructed by the Owner or by the Architect
acting as an agent of the Owner, but the contractor in all such instances accept as a term
of his contract with the Owner that he will enter into the sub-contract and will take the
risk of non-performance by the sub-contractor 37 .
34
Ibid Pg 270
Ibid Pg 276
36
“Privity of Contract” provides that only the parties to the contract can claim benefits under it or be
subject to the obligations which it imposes, See Tweddle v. Atkinson (1861) IB & S 393
37
Ir. Oong Chee Keng (2004). Institution of Engineering Public Forum On “Pay-When-Paid” Clauses in
Construction Sub-Contracts-Held on 27 November 2004. Kuala Lumpur: IEM
35
16
2.4
Liability of the Sub-Contractor
As with other relationship in construction, liability may in principle arise either in
contract or in tort.
2.4.1
Liability in Contract
The doctrine of privity of contract means that it is not possible for a subcontractor
to be made directly liable to the employer for a breach of the main contract. Equally the
employer, who is not a party to the sub-contract, cannot claim damages for breach of it.
This means that, unless the main contractor is liable to reimburse the employer for the
loss caused by the sub-contractor, neither of them can sue the sub-contractor for the loss.
The only possible exception to this would be if the sub-contractor specifically undertakes
not to raise the ‘no loss’ defence when sued by the main contractor 38 .
The normal contractual structure consist a ‘chain of contract’ does not provide for
a direct claim by an employer against a sub-contractor. However, it is common for
nomination procedures to include a requirement that the sub-contractor and the employer
should enter into a direct contractual agreement. Where this is done, the agreement is
likely cover such matter as design warranty from the subcontractor and a direct payment
undertaking by the employer. 39
38
Murdoch, J. and Hughes, W. (2008). Construction Contracts: Law and Management 4 th Edition. London
and New York: Taylor & Francis. Pg 273
39
Ibid Pg 289
17
In addition to direct contracts that are expressly entered into, there is the
possibility that a court may construct, which means invent a collateral contract between
the employer and a subcontractor or supplier. 40
2.4.2
Liability in Tort
There is at least the possibility that a nominated sub-contractor might incur direct
liability to the employer in tort of negligence in respect of work which is simply
defective. However, even if such liability can arise, it appears very unlikely that it will
extend to domestic sub-contractors, since their relationship with the employer is not
normally of sufficient ‘proximity’ to carry with a legal duty of care. 41
As for the domestic sub-contractors who negligently cause physical damage,
either to the contract works or to existing structures (in cases where the contract is not a
new build), a different legal problem surfaces. It is whether something that appears to be
a straightforward case of negligence may be affected by the way in which the main
contract and sub-contract have chosen to allocate the risk among the parties. 42
A nominated subcontractor is specifically selected by the employer raises an
additional possibility. This is that the reliance placed on the sub-contractor by the
employer may give rise to a relationship of such ‘proximity’ that the sub-contractor will
owe the employer a duty of care in tort not to cause pure economic loss through
negligence of performance of the sub-contract.
40
Murdoch, J. and Hughes, W. (2008). Construction Contracts: Law and Management 4 th Edition. London
and New York: Taylor & Francis. Pg 289
41
Ibid Pg 273
42
Ibid Pg 274
18
2.5
Legal and Contractual Background of Subcontractor Rights to Payment
The vast majority of commercial construction is performed by subcontractors. It
has been estimated that subcontractors accomplish between 80 percent and 90 percent of
the commercial construction. Subcontractors provide the majority of labor and materials
and have more capital invested in a construction project than general contractors and
design professionals. Thus, it could be argued that the subcontracting industry has more
at risk that those other segments of the construction industry43 .
A subcontractor’s rights against the main contractor are concerned mainly with
payment. A straightforward application of contract law leads to the conclusion that the
payment rights of a sub-contractor are to be found exclusively within the terms of the
relevant sub-contract and that the main contract has no bearing on “pay-when-paid”
issue 44 .
A prime contractor prefers not to pay subcontractors until it is paid for their work
by the owner. If the contractor must pay despite the owner’s inability or refusal to pay,
the contractor in effect is acting as the owner’s surety, a role for which it is not really
suited. On the other hand, the subcontractor if anything is less equipped to handle owner
nonpayment. It has no direct contractual rights against the owner. Its contract instead is
with the prime. Unless the subcontracts validly provides otherwise, the failure of an
owner to pay the prime will not relieve the prime of its duty to pay a subcontractor 45 .
43
Thomas , R.G. (2007). Killer Subcontractor Clauses. Texas:Thomas, Feldman & Wilshusen, L.L.P.
Murdoch, J. & Hughes, W. (2008). Construction Contracts Law and Management-Fourth Edition.
London: Taylor & Francis Group
45
Lybeck, K.L. and Shreves, H.B. (1998). The Law of Payment Bonds. American Bar Association. Pg 262
44
19
2.6
Relationship of Subcontractor’s Statutory Right to Recover for NonPayment with “Pay When Paid” Provisions in the Sub-Contract
2.6.1
Security of Payment
It has been suggested that there are only three effective legal mechanisms to
provide security of payment, i.e the concept of the lien, trust and bond. Federal and
statutes govern mechanics’ liens (absent in Malaysia) on private projects and
performance and payment bonds on public projects that for subcontractors remain the
primary techniques for remedying nonpayment by a contractor. Legislation of these
remedies guarantees a subcontractor’s right to receive payment. Subcontractors, which
typically stand in a weaker bargaining position vis -à-vis contractor, depend on this
legislation to guarantee that contractors do not utilize their greater leverage during
contract formation to avoid payment for their subcontractors’ work46 . The availability of
bonding and mechanics’ lien remedies may offer addition protections to alleviate the
subcontractor risks under “pay-when-paid” clause 47 .
The problem of security is to a considerable extent addressed in USA and Canada
by way of mechanic lien statutes which is absent in Malaysia. In gist, any unpaid
claimant who has expended labour or material to build has the right to apply for a lien to
be attached to the land whereon the building was constructed. After the entry of the lien,
the claimant can then apply to auction the building wherein the proceeds of sale will then
be utilized for payment. The dispute thus always centers on the unpaid claimant’s
application for lien which is often resolved via arbitration. The lien security nevertheless
usually takes effect from visible construction of the building long before the conclusion
46
Crushman , R.F. and Myers, J.J. (1999). Construction Law Handbook . Published by Aspen Publishers
Online. Pg 895
47
Hughes, T.R. (2008). To Pay or Not to Pay. Hughes & Associates P.L.L.C.
20
of the arbitration and this makes the unpaid claimant a secured creditor usually second
only to the lending financier bank taking first priority as an even earlier secured
creditor 48 .
The trust concept is not alien in Malaysia in respect of retention monies. It is
provided in PAM 1969/1998 Form, CIDB 2000 Form and PAM NSC Form. The trust is
however a conditional one in that it permits the employer or the contractor to set off
permissible deductions there from. In the absence of the set off, the employer or the main
contractor may be compelled by way of an injunction to set aside the retention money
into a trust account. However, most of the time, the application is defeated by set offs. In
the unusual case of R&G Engineering Sdn Bhd v. ESPL (M) Sdn Bhd 49 , the Malaysia
Court of Appeal found that the progress payment under a sub-contract was subject to an
express trust and the Court ordered that the corpus of the trust i.e. unpaid progress
payment money be interlocutory secured pending trial notwithstanding set offs50 .
Courts find that conditions precedent do not waive a subcontractors’ statutory
rights to file a mechanic’s lien or collect on a surety bond unless, in the case of
mechanic’s lien s, the legislation does not explicitly preclude the enforcement of
conditions precedent or, in the case of surety bonds, the subcontract has met the
requirements for an effective waiver 51 .
48
Lim Chong Fong . The Malaysian Construction Industry-The Present Dilemmas of the Unpaid
Contractors.
49
[2004] 4 CLJ 674
50
Lim Chong Fong. The Malaysian Construction Industry-The Present Dilemmas of the Unpaid
Contractor.
51
Crushman R.F. and Myers, J.J. (1999). Construction Law Handbook . Published by Aspen Publishers
Online. Pg 895
21
2.6.2
Enforcement of Payment
In United Kingdom, New Zealand, the states of New South Wales, Victoria and
Western Australia and now Singapore, the principal mode of construction dispute
resolution has shifted to adjudication. This is a swift dispute resolution process that
results in a decision which carries “temporary finality” unless reversed in arbitration or
litigation. In the meanwhile the successful claimant is at liberty to enforce the decision 52 .
There are limited remedies and security pending dispute resolution for the unpaid
claimant in Malaysia. There is no general common law right of suspension of work for
non payment. In the Kah Seng Construction Sdn Bhd v. Selsin Development Sdn Bhd 53 ,
Low Hop Bing J succinctly held:-
“In my judgment, it is trite law that a contractor can only terminate his contract
with his employer (at common law, as opposed to the exercise of an express
termination clause) if he shows, inter alia, a repudiatory breach by the employer
in the sense that the employer has evinced an absolute refusal not to perform his
side of the contract. There is no intermediate right in a building contract to
suspend works. If the contractor insists on the continued performance of the
contract, i.e. he affirms the contract he must himself continue to perform his
primary obligations under the contract, i.e. to continue performing the contract
works. This is why suspension of the works by the contractor, i.e. not continuing
with his primary obligations, becomes itself a repudiatory breach by the
contractor. Even if the plaintiff can establish that the defendant is in repudiatory
breach of contract, the plaintiff would have no right to suspend works, but instead
would have had to elect to wither terminate the contractor or insist on due
52
Lim Chong Fong. The Malaysian Construction Industry-The Present Dilemmas of the Unpaid
Contractors.
53
[1997] 1 CLJ Supp 448
22
performance. By suspending works without valid legal cause, the plaintiff has in
fact repudiated its contractual obligations.”
The standard forms of construction contract do not provide for such a remedy
other than the CIDB 2000 Form and the PAM-NSC Form. The right of suspension is
quite useless if the sub-contracts are subjected to a “pay-when-paid” condition which is
rather common unless of course the contractor has absconded with the money paid by the
employer 54 .
2.7
Summary
The practice of efficient and timely payment in construction projects is a major
factor leading to a project’s success. Payment had been referred to as the lifeblood of the
construction industry due to latter’s inherent nature that takes relatively long durations
and large amounts to complete. Payment, or rather late and non-payment issues are
considered to affect many players in the local construction industry, whether in
government or private projects
54
Lim Chong Fong. The Malaysian Construction Industry-The Present Dilemmas of the Unpaid
Contractors.
23
CHAPTER 3
APPLICATION OF “PAY-WHEN-PAID” PROVISIONS IN SUBCONTRACT
3.1
Introduction
For years, throughout the country up-stream contractors, such as general
contractors, have often included a contractual provision in their subcontracts providing
that payment to the subcontractor is conditioned upon the general contractor’s actual
receipt of payment from the owner55 . If drafted correctly, these clauses require the
subcontractor to wait for payment on their completed work until the general contractor
receives payment from the owner56 . This essentially passes on the owner’s solvency risk
to the downstream subcontractor. No payment from the owner means no payment is due
55
Perlmuter, G.E. (2007). Michigan’s Winning Economy Wallops Construction Contractors. Has the Sting
of a Pay-When-Paid Clause Gotten Your Attention?. Foster, Swift, Collins & Smith Construction Law
Newsletter, November 2007.
56
Ibid
24
to the subcontractor. This clause, depending on their language, is commonly know n as
“pay when paid” clauses 57 .
“Pay when paid” clauses while seemingly straightforward at first glance but many
are actually ambiguous 58 . Therefore, a subcontractor may want to take legal action to
challenge the enforceability of the clause and seek immediate payment from the general
contractor 59 .
Construction sub-contracts which include the “pay when paid” clauses are the
most troublesome for the subcontractors and suppliers. One practical reason for risks
allocation in this manner is that owners were frequently successful transferring many of
these risks to general contractors in prime contracts. Having contractually accepted these
risks in prime contracts, it’s become prudent for general contractors to attempt to pass
them along the subcontractors. Regardless of the merits of the rationale behind the
extreme shifting of risks to subcontractors, the practice had many practical effects. First,
most subcontractors were smaller than the general contractors and less sophisticated in
these matters. That created unequal bargaining position in favor of the general
contractors. The studies conducted by the Construction Industry Institute 60 find that the
risks shifting practice, unfortunately, promoted an adversarial attitude between the parties
which promoted disharmony on projects. Disharmony, in turn, created disputes on the job
site resulting in legal battles where no one is the real winner. In the end, unreasonable and
inequitable risk shifting in contracts worked to the detriment of overall project
performance 61 .
57
Sklar, A.J. & Sternlieb, M. (2007): The “Pay-If-Paid” Clause-A Suspect Subcontract Provision. Cole
Schotz Docket, Fall 2007
58
Goodman, N.H. and Barthet, P.C. (1999). Waiting to Get PAID: Are Pay When Paid Provisions A Matter
of When or If? The Florida Bar Journal, October 1999 Volume LXXIII, No.9
59
Sklar, A.J. & Sternlieb, M. (2007): The “Pay-If-Paid” Clause-A Suspect Subcontract Provision. Cole
Schotz Docket, Fall 2007
60
Thomas R.G. (2007). Killer Subcontractor Clauses. Texas:Thomas,Feldman & Wilshusen, L.L.P.
61
Ibid.
25
This chapter provides the discussion on the non-payment regarding to the issues of
“pay when paid” provision in construction sub-contract. This discussion also concentrates
on the application of “pay-when-paid” provisions or arrangement in sub-contract and the
reasonableness of time the subcontractor have to wait to get paid from the general
contractor in the present of “pay when paid” provision in the sub-contract.
3.2
Definition of “Pay When Paid”
In the case of DEC Elec., Inc. v. Raphael Const. Corp.62 , the “pay when paid”
language can be interpreted on the one hand as establishing a condition precedent in
which payment must first be received from the owner before it can be paid out to the
service provider, or, on the other hand, as simply fixing a reasonable time frame for when
payment is to be made 63 .
Rosenberg (2007) stated that a clause that provides that payment is due when a
certain performance is completed is a pay-when-paid clause, imposing the obligation to
pay upon the general contractor within a specified or reasonable time. Further, in North
Market Assn., Inc. v. Case, a clause providing that payment is due if and when funds are
available was held to be pay-when-paid clause.
62
558 So. 2d 427 (Fla. 1990)
Goodman, N.H. and Barthet, P.C. (1999). Waiting to Get PAID: Are Pay When Paid Provisions A Matter
of When or If?. The Florida Bar Journal, October 1999 Volume LXXIII, No.9
63
26
Pay-when-paid clauses are those clauses which defer the time when payment is
due from say a main contractor to a sub-contractor until the main contractor has received
payment from the client 64 . Devine (2006) stated, the “pay-when-paid” language is an
absolute agreement of the general contractor to pay the subcontractor within a period of
time after the general contractor is paid by the owner. The general contractor has made an
unconditional promise to pay with the time payment postponed until happening of a
certain event, or for a reasonable period of time if the owner’s payment does not happen.
Such provisions do not absolutely bar payment, but merely delay the payment by the
contractor to the subcontractor for only a reasonable period of time to allow the general
contractor to attempt to collect payment from the project owner65 .
Unlike a “pay-if-paid” clause, where the obligation to pay the subcontractor may
never ripen, a “pay-when-paid” clause is arguably only acts to delay payment to the
subcontractor 66 .
3.3
“Pay When Paid” Provisions in Sub-Contracts
None of the nominated sub-contracts published in Malaysia including under the
PAM 69, PAM 98, PWD 203 series, IEM or CIDB 2000 contracts contain a “pay when
paid” clause. They all have “pay when certified” clauses. In other words, payment must
64
Sr Nourshad Ali Naseem Ameer Ali (2006). A “Construction Industry Payment And Adjudication Act”:
Reducing Payment-Default And Increasing Dispute Resolution Efficiency In Construction. Master Builders
Journal 3rd Quarter 2006. Pg 11
65
Devine, P. (2006). When Must A Subcontractor Be Paid Under A “Pay-When-Paid” Clause. Business
Credit July/August 2006. National Association of Credit Management
66
Sklar, A.J. & Sternlieb, M. (2007). The “Pay-If-Paid” Clause-A Suspect Subcontract Provision. Cole
Schotz Docket, Fall 2007.
27
be made by the main contractor upon certification by the certifier whether or not the main
contractor is paid in a timely manner as provided under the main contract 67 .
In PAM 98 contract form Clause 27.2 (vii) and Clause 11.3 in PAM Subcontract
form, the main contractor has to pay within 14 days to the nominated subcontractor after
he received payment certificate from the architect. It does not states that the contractor
has to wait until receipt of payment by the employer. So, in PAM 98 contract form, the
condition precedent of a nominated subcontractor to get his payment is certificate issued
to the main contractor.
Many contractor drafted ‘domestic’ sub-contract or sub-sub-contract contain
“pay-when-paid” provisions. Domestic sub-contracts are contracts which a contractor
enters into with a sub-contractor chosen by the contractor. The only standard terms of
‘domestic’ sub-contract published in Malaysia is the ‘Model Terms of Construction
Contract for Subcontract Work’ published in September 2006 does not have “pay-whenpaid” provision68 .
Section 113(1) of the Housing Grants, Contract (sic “Construction”) and
Regeneration Act 1996 provides:
“(1) A provision making payment under a construction contract conditioned on
the payer receiving payment from a third person is ineffective, unless that third
person, or any other person payment by whom is under the contract (directly or
indirectly) a condition of payment by that third person, is insolvent.
67
Sr Nourshad Ali Naseem Ameer Ali (2006). A “Construction Industry Payment And Adjudication Act”:
Reducing Payment-Default And Increasing Dispute Resolution Efficiency In Construction. Master Builders
Journal 3rd Quarter 2006. Pg 10.
68
Ibid. Pg 11
28
It is submitted that under the 1996 Act, ‘pay when paid’ arrangement is
illegitimate. Hence, all contractors need to pay subcontractor despite they may not
receive interim payment from the Employer, unless the Employer is insolvent. This is the
UK scenario.
In Australia, the main contractor would be required to pay the subcontractor even
when the Employer went into liquidation as reported in an Australian case Lezzi
Construction Pty Ltd v. Watkins Pacific (Queensland) Pty Ltd (1995) 2QdR350.69
According to Hudson’s 70 , under a Joint Venture attitude, the Contractor should not be
liable to pay nominated subcontractor (NSC) when the Employer goes bankrupt.
The proposed Construction Industry Payment and Adjudication Act (CIPAA)
aims to prohibit the practice of “pay when paid” in all construction contracts. All work
done and all services rendered must be paid upon the services being rendered. If there is
default up the chain of contracts the parties must resolve it themselves and not pass that
risk to third parties.
The effect of “pay when paid” clauses is that sub-contract may well end up not
being paid for reasons beyond their control. Worse still is a situation where s client may
set off amounts due to main contractor due to the main contractor’s own fault. The
subcontractor then does not get paid although they may have done their work properly
and were not in breach of their contract.
69
Bernard S C Wu (2005). Pay When Paid/Pay If Paid Under the Standard Form of Building Contract
2005. Hong Kong: Surveyors Times. Pg 38-39
70
Hudson’s Building & Engineering Contracts 11th Edition
29
3.4
Non-Payment by the Employer/Owner (Relying on “Pay When Paid”
Provision in Sub-Contract)
As stated in standard form of contract, the contractor have to pay the nominated
subcontractor when he receive s payment certificate from the employer (PAM 98) or
when he receive payment from the employer (JKR 203N). The problems occur when the
employer does not pay the main contractor. There are three reasons contribute to nonpayment by the employer which are contractor contribution to non-payment by the
employer, the insolvency by the employer and final payment pending dispute between the
employer and the main contractor.
3.4.1
Contractor Contribution to Non-Payment by the Employer
The non-payment by the employer does not necessarily due to the employer
default in payment but the employer might withhold the payment due to the contractor
default. Question arises when the subcontractor request for payment but there is a paywhen-paid provision in construction subcontract between general contractor and
subcontractor(s).
It was illustrated in the case Moore Brothers Co. v. Brown Root 71 . The case arose
out of construction of a toll way in Virginia. Brown & Root was the general contractor
and also was an equity owner in the project. The developer was Toll Road Investors
Partnership II (TRIP). Moore Brothers (Moore) was a subcontractor on the project. In the
subcontract, there was “pay when paid” provision. The lender (financing company for
client) insisted that Brown & Root provide assessments of the total project cost with a
71
Inc. (2000) 207 F.3d 717
30
high degree of certainty. TRIP and Brown made changes of scope of works but those
changes were not revealed to the lender and the subcontractor. The subcontractors were
instructed by Brown & Root to perform the work. Because the lenders had not been made
aware of the change orders, financing had not been arranged for the extra work. TRIP
was unable to obtain sufficient funding to pay Brown & Root, thus triggering the paywhen-paid clause in the subcontractor.
The issue arose in this case was whether the contractor can based on the paywhen-paid provision and withhold the payment to the subcontractor. It was held that the
main contractor has misled the lenders regarding possible costs of the project and thus,
the lender refused additional funding for the changes orders, the owners lacked sufficient
funds to pay Brown & Root, which then did not pay the subcontractor. So, the main
contractor was not entitled to the protection of the clause.
3.4.2
The Insolvency by the Employer
Problems arose when the main contractor refused to make payment to the
subcontractor when the employer become insolvent before full payment was made. This
problem is illustrating in the following cases. There are two different decision held
regarding to the issue of “pay when paid”, which is “pay when paid” provision in
enforceable and unenforceable.
There are some cases which held that the pay-when-paid clauses enforceable. In
DEC Electric, Inc. v. Rapheal Construction Corp.72 ., the subcontractor provided that ‘No
funds will be due to the subcontractor unless the general contractor is paid by the owner
72
(1989) 538 So. 2d 963, 964
31
in accordance to the sworn statement’. The court found, as a matter of law, that the
language was a condition precedent and that the subcontractor was not entitled to
payment from the general contractor because the general contractor had not been paid by
the owner.
Besides that in Aqua Design and Play International Limited and Fenlock Hansen
Limited v. Kier Regional Limited (2002) CA, Kier were the main contractors for fitting
out of a health and fitness centre at Chelmsford in Essex for a company called Heathland.
Aqua was engaged as subcontractor for the supply and installation of a swimming pool,
sauna room, and showers. Fenlock was subcontractor for glazed screens. Both
commenced proceedings against Kier who had refused payment on Clause 32 of the
contract, stated that “ Notwithstanding anything to the contrary elsewhere in this
subcontract, if the employer is insolvent as defined in Clauses 32.2, 32.3 and 32.4, the
Contractor shall not be obliged to make any further payment to the subcontractor of any
amount which is due or may become due to the subcontractor unless the Contractor has
received payment in respect thereof from the Employer and only to the extent of such
receipt”, Healthland went into administration. It was held that Kier was entitled to rely
upon the pay-when-paid provision afforded by the clause following the insolvency of its
client. It means that the contract clearly provides that payment is not due from the general
contractor to the subcontractor until the general contractor has been paid by the owner or
it is clearly stated that the contractor does not need to pay the subcontractor if the
employer has not pay the main contractor on the event of employer’s insolvency, such
clauses are enforced.
In the case of Thomas J.Dyer v. Bishop International Engineering Co.73 , the
owner become insolvent before full payment was made to the general contractor, who in
turn refused to make full payment to the subcontractor. The court reviewed a provision
which stated that payment to the subcontractor shall not be due ‘until five days after the
73
(1962) 303 F.2d 655, 659
32
owner shall have paid the contractor’. It was held that ‘… it seems clear to us under the
facts of this case that it was the intention of the parties that the subcontractor would be
paid by general contractor for the labour and materials put into the project. We believe
that to be the normal construction of the relationship between the parties. If such was not
the intention of the parties it could have been expressed in unequivocal terms dealing
with the possible insolvency of the owner … to construe it as requiring the subcontractor
to wait until the general contractor has been paid by the owner, which may never occur,
is to give it an unreasonable construction which the parties did not intend at the time the
subcontract was entered into’. The court concluded that such a clause merely establishes
reasonable time in which the general contractor can delay payment, but that it does not
completely excuse payment.
Next, in the case of United Plate Glass Co. v. Metal Trims Indus74 , the court
found that under the glass contracts in question, payment by the owner to the contractor
and approval by the architect were not absolute prerequisites to the contractor’s duty to
make final payment to the subcontractor. Rather, those conditions were timing
mechanism. Besides, the courts are reluctant to find that a subcontractor assumed the risk
of the owner’s insolvency absent extremely clear and unambiguous language.
3.4.3
Final Payment Pending Dispute between the Employer and the Main
Contractor
The problem which frequently arises is the subcontractor’s right to receive final
payment when there is a dispute pending between the employer and the contractor. It was
described in Pace Construction Corporation v. OBS Co.75 . In this case, the agreement
between the contractor and the subcontractor contained a pay-when-paid clause, which
74
75
Inc. (1987) 106 Pa. Commw. 22,525 A.2d 468
[1988] 531 So. 2d 737 Fla. Dist. Ct. App.
33
provided that final payment of the subcontractor would not be made until the contractor
received final payment for the subcontractor’s work from the owner. The subcontractor
successfully completed its work. The court stated that this “pay when paid” clause clearly
shown that payment from the owner was a condition precedent to the contractor’s
obligation to make final payment to the subcontractor. The subcontractor was found to
have assumed the risk of owner non-payment. It was held that because the owner had not
make final payment to contractor, neither the contractor nor the surety could be held
liable unless the contractor received payment for the subcontractor’s work.
3.5
Application of “Pay When Paid” Provisions in Sub-Contract
3.5.1
The “Pay When Paid Clause is a Covenant Establishing the Time of Payment
Courts take a uniform stance on a general contractor’s duty to pay subcontractors,
stating that absent a contrary contractual provision, failure of an owner to pay a general
does not relieve the general contractor of the obligation to pay a subcontractor or
supplier76 . Inclusion of a third – party payment provisions (“pay when paid” provisions)
refutes the presumption that the contractor has an absolute duty to pay the subcontractor
for services despite the nonperformance of the owner. Nonetheless, the majority of
jurisdictions still find a duty for the general contractor to pay any subcontractors or
suppliers when the construction contract includes a “pay when paid” provision. Instead of
interpreting such a clause as waiving the contractor’s financial obligations to the
76
David C. Olson, Inc. v. Denver & Rio Grande W.R.R. Co., 789 P.2d 492 (Colo. Ct. App. 1990)
34
subcontractor, courts hold that the clause merely delays the time of payment for a
reasonable time 77 .
In arriving at this conclusion, courts typically concentrate on the specific contract
language used as expressing the intention of the parties. When analyzing a “pay when
paid” provision, courts generally find that “if a provision is clear and unambiguous, it is
interpreted as setting a condition precedent to the general contractor’s obligation to pay.
If a provision is ambiguous, it is interpreted as fixing a reasonable time for the general
contractor to pay78 .” While a general understanding persists on when a court will find a
“pay when paid” provision as only delaying the time of payment, no clear guidelines
exist for when a court will find the terms of a particular provision to be ambiguous.
However, analysis of some of the cases reveals a visible trend79 .
The “pay when paid” clause is interpreted by courts across the country to relate
only to the timing of payment. A subcontractor still will be entitled to payment from a
general contractor after a reasonable period even if the building owner has not paid the
general contractor. Although there is no set time period to define what constitutes a
reasonable period, the critical lega l point is that the subcontractor ultimately is entitled to
payment 80 . If the event that was to trigger payment does not occur for reasons not within
the subcontractor’s control, the subcontractor will be entitled to payment within a
reasonable time after completion81 .
77
Crushman, R.F. and Myers, J.J. (1999). Construction Law Handbook . Published by Aspen Publishers
Online. Pg 891
78
DEC Elec., Inc. v. Raphael Constr. Corp., 558 So. 2d 427, 429 (Fla. 1990)
79
Crushman, R.F. and Myers, J.J. (1999). Construction Law Handbook . Published by Aspen Publishers
Online. Pg 892
80
Felin, M.S. and Philips, S.M. (2003). Understanding Payment Provisions. Roofing Magazine February
2003; Crushman, R.F. and Myers, J.J. (1999). Construction Law Handbook . Published by Aspen Publishers
Online. Pg 891
81
Bruner, P.L. and Haley, T.L. Managing and Litigating the Complex Surety Case. American Bar
Association. Tort Trial and Insurance. Pg 749
35
Timing mechanism means the clause merely provide general contractor with some
reasonable time period within which to make payment. When the payment provisions
seen as fixing a reasonable time frame for payment, the “pay-when-paid” language is
treated as absolute, unconditional promise by the general contractor to pay the
subcontractor, with the understanding that the payment may be delayed for some
reasonable time while the general contractor obtains payment from the owner 82 .
Specifically, when the “pay-when-paid” provision omits key words, or if the
provision contains language that mentions an amount of time when payment becomes
due, courts find the provision ambiguous 83 . Those jurisdictions that uphold conditional
payment clauses do so only where the intent of the contracting parties is unquestionably
clear 84 . In Thomas J. Dyer Co. v. Bishop International Engineering Co.85 , it is stated that
the court rejected the general contractor’s defense that the contractual language which
provided that “no money owed to the subcontractor was due until five days after the
contractor’s receipt of funds from the owner” was a condition precedent that prevented
payment where the owner was insolvent. Concluding “that it was the intention of the
parties that the subcontractor would be paid by the general contractor for the labor and
material put into the project,” the Sixth Circuit determined that the provision was
designed to allow the contractor a reasonable period of time in which to pay the
subcontractor for work performed. Id. at 661. The Sixth Circuit opined that the credit risk
inherent in the general contractor’s undertaking could be shifted to the subcontractor, but
only where the contract contained express language “clearly showing that to be the
intention of the parties.’ The court interpreted these standard “pay-when-paid” clauses,
not as creating an absolute condition precedent to payment to the subcontractor, but
rather as affording the general contractor a postponement of payment for a reasonable
period of time to allow the general contractor an opportunity to collect funds due from
82
Goodman, N.H. and Barthet, P.C. (1999). Waiting to Get PAID: Are Pay When Paid Provisions A Matter
of When or If?. The Florida Bar Journal, October 1999 Volume LXXIII, No.9)
83
Crushman, R.F. and Myers, J.J. (1999). Construction Law Handbook . Published by Aspen Publishers
Online. Pg 892
84
Perry II, R.L. (2005). Nos. 31869 and 31870. Supreme Court of Appeals of West Virginia. Pg 3
85
303 F.2d 655, 661 (6th Cir. 1962)
36
the owner to pay the subcontractors, and not to require the subcontractor to wait an
indefinite period of time until the general contractor was paid by the owner.
Most court, including an Ohio appellate court in Power & Pollution Services, Inc.
v. Suburban Power Piping Corp86 ., has agreed with the analysis in Dyer. The general rule
in most jurisdictions is that, unless the contract clearly shows that the parties intended to
make payment from the owner a “condition precedent” to payment of the subcontractor,
the pay-when-paid clause governs only the timing of payments to the subcontractor but
does not allow the general contractor to avoid paying the subcontractor altogether. As in
Dyer, most courts interpret pay-when-paid clauses to require the general contractor to pay
the subcontractor within the “reasonable time” after the work is completed, even if the
owner has not paid the general contractor 87
In paragraph 13.111 Hudson’s Building & Engineering Contracts 11th Edition, it
is stated:
“In the United States, however, there have undoubtedly been a number of cases of
where the courts have held ‘pay-when-paid’ provision to be no bar to
subcontractor recovery once the subcontract has been properly completed.”
Hudson’s continues in paragraph 13.113 that ‘…those United States judgments
which have followed this trend have paid insufficient regard, it is submitted, to the
commercial background underlying subcontracting in the construction industry, and in
particular to the factor of potential owner insolvency…(for example, administration
severity by government or supervisory officers) it might also be intended that the risk
should be similarly shares … For this reasons, it seems unlikely that English Courts
86
47 Ohio App. 3d 89 (Cuyahoga County 1991)
Gurney, D.S. (2007). “Pay-When-Paid” Clauses: What Happens When the Owner Doesn’t Pay?.
Published in The Constructor. Ohio: Frost Brown Todd LLC
87
37
would afford assistance to an unpaid subcontractor … or would afford dispense with the
condition imposed by a “pay-when-paid” provision … provided they considered that the
intention of the language was clear”
The 1984 Federal District of New Jersey case, Seal Tite Corp. v. Ehret, Inc. 88 and
a 1962 Sixth Circuit Ohio law, Thomas J. Dyer Co. v. Bishop International Engineering
Co.89 decision also suggested that the parties to a subcontract could shift the risk of the
owner’s insolvency to the subcontractor, and make payment to the general contractor an
absolute condition precedent to payment to the subcontractor, provided that the
subcontract clearly and unequivocally so provides.
In Mignot v. Parkhill 90 , the Oregan Supreme Court construe a clause stating that
the “It is fully understood by and between the parties hereto that Contractor shall not be
to pay Subcontractor for any of the work until such time as Contractor has himself
received the money from [ the Owner]” only affected the time of payment. The court
concluded that:
“Where the contract contains a definite and unambiguous promise to pay for
labor and materials performed and furnished, or for other services, equally clear
an unambiguous language, expressing the intention that the happening of a
contingency over which the promise has no control shall be a condition precedent
to payment, must be found in the contract before the positive and absolute
agreement to pay will be considered as superseded.”
The key words of this provision, “until such time as,” combined with the absence
of any clear language that expresses the parties’ intention to create a condition precedent,
88
589 F. Supp. 701 (D.N.J. 1984)
303 F.2d 655, 661 (6th Cir. 1962)
90
391 P.2d 755, 758 (Or. 1964)
89
38
appeared as a stipulation for payment on receipt of a fund “ ‘inserted merely for the
purpose of fixing the time at which performance shall become due.’ ” Initially, this
provision seems to clearly express an intention to make payment to the subcontractor
conditional upon the owner’s payment to the general contractor, but the court required
language of a more specific nature. Short of any precise terms, such as “condition
precedent,” the contractual language could not be construed as anything but merely fixing
the time for payment.
In Berkel & Company Constractors v. Christman Company 210 Mich. App. 416,
533 N.W.2d 838 (1995), a subcontractor argued that the clause at issue was merely a
provision that postponed payment for a reasonable period of time, not indefinitely. The
Michigan Court disagreed, holding that: “The contract clearly provides that all payments
made to the subcontractor are to be made only from equivalent payments received by [the
general contractor] for work done, “the receipt of such payments by the [general
contractor] is being a condition precedent to payments to the subcontractor.”
In West-Fair Electric Contractors v. Aetna Casualty & Surety Company91 , the
New York Court of Appeal held that “a “pay when paid” provision which forces the
subcontractor to assume the risk that the owner will fail to pay the general contractor is
void and unenforceable as contrary to public policy.” However the court also said “by
contrast, a pay-when-paid provision which merely fixes a time for payment does not
indefinitely suspend a subcontractor’s right to payment upon the failure of an owner to
pay the general contractor and does not violate public policy.”
A Massachusetts in the case of A.J. Wolfe Co. v. Baltimore Contractors92 , court
found that a contract which provided that “payment will be made on monthly requisitions
91
92
87 N.Y. 2d 148, 638 N.Y.S. 2d 394, 661 N.E.2d 967 (1995)
Inc., 244 N.E.2d 717, 720 (Mass. 1969),
39
for progress payments “within 10 days after … [the owners’] payment of such monthly
progress payments … [has] been received’ ” by the contractor merely set the time for
payment and did not create a condition precedent. The court concludes that this language
did not amount to a clear provision “should be viewed only as postponing payment by the
general contractor for a reasonable time.”
In Southern States Masonry Inc. v. JA Jones Construction Company (1987) 507
So. 2d 198, the Supreme Court of Louisiana had interpreted a clause reading:
“3 … Contractor shall pay to Sub-contractor upon receipt of payment
from the Owner…”
“A final payment … shall be made within forty-five (45) days after the last
of the following to occur: (a) full completion of the Work by Subcontractor, (b) final acceptance of the work by the Architect … (c) final
payment by Owner …”
The court there held that clause could not be interpreted to mean “if” the subcontractor was to be paid but rather “when” it was to be paid. It interpreted the clauses in
that case as relating to the time when a contractor must pay the subcontractor and not to
the issue of whether the sub-contractor got paid at all.
Other reasons exist for rejecting an interpretation of third-party payment
provisions besides ambiguous contractual language. Invariably, courts hesitate to enforce
these provisions as conditions precedent if enforcement of the terms would result in an
extreme forfeiture by the subcontractor. Courts do not look favorably upon conditions
precedent, and if failure to meet conditions precedent results in a windfall to the general
contractor, courts may consider the condition excused. Furthermore, courts consider
general contractors to be in the best position to assess the solvency of the owner and bear
40
the risk of nonpayment. Unless absolute certain, courts do not transfer this risk from the
general contractor to the subcontractor. Finally courts have even determined that
subcontractors are an oppressed class that needs protection. Liberal application of thirdparty payment provisions as conditions precedent adds another commercial advantage for
genera contractors, who already stand in a position of a greater resourcefulness and
bargaining power 93 . The courts decisions noted above, do acknowledge that third-party
payment clauses can constitute condition precedent. When the contractual language
explicitly stated the conditional nature of the payment relationship between the three
parties, courts have upheld the third-party payment provisions as precluding
subcontractors from recovery.
The court decisions noted above, however, do acknowledge that third-party
payment clauses can constitutes conditions precedent when the contractual language
explicitly stated the conditional nature of the payment relationship between the three
parties, courts have upheld the third-party payment provisions as precluding
subcontractors from recovery.
3.5.2
“Pay When Paid” Provisions as Condition Precedent
Despite the fact that one jurisdiction may conclude that a third-party payment
provision merely delays the time of payment, certain language, such as an agreement
with terms that explicitly state that the provision function as a condition precedent, may
lead the same jurisdiction to a different result 94 . An analysis of jurisdictions that have
ruled in favor of contractors on this issues helps to explain when “pay-when-paid”
93
Crushman, R.F. and Myers, J.J. (1999). Construction Law Handbook . Published by Aspen Publishers
Online. Pg 894
94
Crushman, R.F. and Myers, J.J. (1999). Construction Law Handbook . Published by Aspen Publishers
Online. Pg 894
41
provisions do not create an absolute duty to pay subcontractors 95 .
When payment
provisions interpreted as a condition precedent, the provider will get paid only after
payment by the owner96 .
Most courts have held that a “pay when paid” clause constitutes a conditional
promise and thus a condition precedent to the contractor’s obligation to pay the
subcontractor. These courts, however, have generally done do only after finding the
clause clearly and unambiguously expressed the intention of the parties to have the clause
work as a condition precedent 97 . If there is a valid condition precedent in a contract, the
party in whose favor the condition exists is not obligated to perform an action required by
the contract until the condition has been satisfied98 .
Most obviously, when the language within a third-party payment provision
explicitly states that the owner’s payment to the contractor is a condition precedent to the
contractor’s payment to the subcontractor; courts enforce the provision as a condition
precedent 99 . In other word describe intend of the general contractor to shift the risk of
non-payment to the subcontractor 100 . The Arizona Court of Appeal in Harvey Concrete,
Inc. v. Agro Construction & Supply Co.101 , held that the following clause was plain
enough to shift the credit risk to the subcontractor:
“Subcontractor agrees as a condition precedent to payment…that the owner shall
have first paid the payment…to the contractor, and that payment for wither
95
Crushman, R.F. and Myers, J.J. (1999). Construction Law Handbook . Published by Aspen Publishers
Online. Pg 894
96
Goodman, N.H. and Barthet, P.C. (1999). Waiting to Get PAID: Are Pay When Paid Provisions A Matter
of When or If?. The Florida Bar Journal, October 1999 Volume LXXIII, No.9
97
Bruner, P.L. and Haley, T.L.. Managing and Litigating the Complex Surety Case. American Bar
Association. Tort Trial and Insurance.
98
See John J. Calnan Co. v. Talsma Builders, Inc., 395 N.E.2d 1076, 1080 (lll App. Ct. 1979).
99
Crushman, R.F. and Myers, J.J. (1999). Construction Law Handbook . Published by Aspen Publishers
Online. Pg 894
100
Gurney, D.S. (2007). “Pay-When-Paid” Clauses: What Happens When the Owner Doesn’t Pay?.
Published in The Constructor. Ohio: Frost Brown Todd LLC
101
939 P.2d 811 (Ariz. Ct. App. 1997)
42
progress payments or final payment is not due and owing to the subcontractor as
provided for herein until the owner has made such payment to the contractor”
The language that included the term “condition precedent” sufficed to create an
enforceable condition. Furthermore, the court held that a condition precedent is
established when expressions like “exclusively” or “only” demonstrate that payment was
to be made from a particular fund and no other. Without these key words, one may
assume that these provisions would only effect the time of payment and not waive the
contractor’s duty to pay for services rendered by the subcontractor. In order to create a
condition precedent to the subcontractor’s payment, there must be contractual language
demonstrating the parties ‘unequivocal intent’ that the subcontractor will only be paid if
the contractor is paid.
However, in Printz Services Corp. v. Main Electric Ltd.102 , the court found that a
third – party payment provision that stated the contractor would pay the respective
subcontractor “ ‘provided like payment shall have been made by the Owner to
Contractor’ ” did relieve the contractor of the obligation to pay a subcontractor absent
the contractor’s receipt of full payment from the owner. This ruling, as noted by the
court, represents a minority position. Typically, a court requires a third-party payment
provision in a construction contract to contain more definite language than “provided like
payment shall have been made” to create a condition precedent.
The Third District in Robert F. Wilson, Inc., v. Post-Tensioned Structures, Inc., 103
confirmed that the following provision shifted the risk of nonpayment to the
subcontractor:
102
103
949 P.2d 77 (Colo. Ct. App. 1997)
522 So. 2d 70 (Fla. 3d DCA 1988)
43
No Change Orders will be issued for additional work of any kind unless so
approved by the Architect and Owner prior to its issuance. In the event a
controversy occurs between the Owner and the General Contractor concerning
the Contract with the Owner or these Change Order(s), then it is expressly agreed
hat no compensation for these items shall be due the Subcontractor from the
Contractor until payment for them is received by the Contactor, regardless of the
fact that payments is delayed due to the Contractor negotiating with the Owner,
arbitration, administrative actions, litigation, appeals or other similar activities.
In 1990, the Supreme Court in DEC Electric, Inc., v. Raphael Construction
Corporation, quoting from its earlier reasoning in Peacock Construction Co., Inc. v.
Modern Air Conditioning, Inc. 104 , held a “pay-when-paid” clause to be condition
precedent to payment from the general contractor to the subcontractor. However, the
same year the Supreme Court decided OBS v. Pace Construction Corporation105 and
concluded that an ambiguity existed between the general conditions to the subcontract
and the apparent intent to the subcontract itself, thereby nullifying an attempt to shift the
risk of nonpayment.
Payment by the owner to the contractor is a precondition to payment to a
subcontractor. In Timbro Development Limited v. Grimsby Diesel Motors Inc., Timbro
performed construction work for Grimsby. When the owner failed to pay Timbro, it
refused to pay its subcontractors, relying on a clause in its purchase orders:
“Payments will be made not more than 30 days after the submission date or 10
days after certification or when we have been paid by the owner, whichever is the
later”.
104
105
353 So.2d 840 (Fla. 1977)
558 So. 2d 404 (Fla. 1990)
44
The pay-when-paid clause was printed in red ink on the general contractor’s
Purchase Order. The Ontario Court of Appeal found in 1988 that the clause specified the
condition governing the subcontractors’ legal entitlement to payment and not merely the
time of payment. The court further found that, under the clause the subcontractors clearly
assumed the risks if the owner did not pay the contractor. Since Timbro was not paid, it
was not obliged to pay the subcontractors. The subcontractors had effectively waived
their right to paid until the contractor had been paid. Further appeal to the Supreme Court
of Canada was refused.
Another variation of a pay-when-paid clause was considered by an Ontorio
Superior Court in Kor-Ban Inc. v. Pigott Construction Ltd.106 . Payment to be made as
follows:
“Ninety percent (90%) of the value of the completed work done by the
subcontractor and ninety percent (90%) of the value of the materials delivered to
the site from time to time as the Work progresses, provided the amounts of such
payments are certified by the Architect under the terms of the contract between
the owner and contractor, and Five (5) days after payment of such amount has
been received by the contractor from the owner. The balance of the contract Price
will be paid in accordance with the Construction Lien Act 1983 and Ten (10) days
after payment of such amounts has been received by the contractor from the
owner and provided the subcontractor has fulfilled all of its obligations under this
agreement”.
The court in Kor-Ban also found that the subcontractor assumed the risk of nonpayment by the owner to the general. The court also held that on the evidence, it was
apparent that the subcontractor had been made aware of the pay-when-paid clause in
106
(1993) 11 C.L.R. (2d) 160 (Ont. Gen. Div.)
45
contract even though it was not as obvious as the red inked clause in Timbro. Again, the
court interpreted the payment clause as a waiver of the entitlement to be pa id.
If the intent of the general contractor is to not be responsible for owner’s
insolvency or refusal to pay, then the contract language must be precise to shift the risk of
payment failure by the owner to the subcontractor 107 . How do contractors shift the burden
of nonpayment by the owner? Say it clearly in a contract provision. What should be said?
The contract which stated that:
i. The subcontractor is paid only if the general contractor is paid or the
subcontractor will not be paid unless the general contractor receives payment
from the owner; and
ii. The subcontractor assumes the risks of nonpayment by the owner due to
insolvency or the inability to pay.
Such contract language has been held by many courts to sufficiently shift the burden of
nonpayment to the subcontractor 108 .
The court in Peacock Construction Co. v. Modern Air Conditioning 109 , did
recognize that nothing prevents parties from shifting the risk of an owner’s nonpayment
provided the contract expressly and unambiguously states such intent. The burden of
clear expression is on the party seeking to pay only when paid, and any ambiguity will be
construed against it as a matter of law.
107
Devine, P. (2006). When Must A Subcontractor Be Paid Under A “Pay-When-Paid” Clause. Business
Credit July/August 2006. National Association of Credit Management
108
Fortney & Klingshirn . Contingent Payment Clauses. Ohio.
109
Inc., 353 So. 2d 840 (Fla. 1977)
46
In J.J. Shane v. Aetna Casualty & Surety Company110 , a subcontractor found itself
in the unexpected position of waiting to get paid until the party with whom it contracted
was paid by the owner. The dispute involved the interpretation of the following payment
provision contained in the written subcontract between the parties:
Article XIII Method of Payment
a) Subcontractor is relying upon the financial responsibility of Owner in
performing the Work. It is understood by Subcontractor that payment for the
work is to be made from funds received from Owner by Contractor in respect
to the Work.
The subcontractor argued that the foregoing term simply fixed a reasonable time
for payment by the contractor. Florida’s Third District Court of Appeal rejected that
argument, holding instead that the subject provision plainly and unambiguously made
payment by the owner a condition precedent to payment by the general contractor to the
subcontractor.
For over thirty years, most state courts have held that contractor cannot
indefinitely withhold payment from subcontractors based upon a “pay-when-paid” clause.
Instead, “pay-when-paid” clause requires a contractor to pay its subcontractors within a
“reasonable time” of the completion of satisfactory work. The article on “Contingent
Payment Clauses in the 50 States” by the Foundation of the American Subcontractors
Association (FASA) attempt s to summarize the basic stance of each of the fifty stated
with respect of two types of contingent payment clause, “pay when paid” and “pay if
paid.” The information displayed for all states that have applicable law on this issue
revolved around (a) whether “pay-when-paid” clauses allow a contractor in the state to
only delay payment to its subcontractors for a reasonable time (b) whether a “pay-ifpaid” clause will be enforced in that state if it is unambiguously drafted (c) whether “pay110
723 So. 2d 302 (Fla. 3d DCA 1998), reh. den.
47
if-paid” clause will be enforced in that state if it is unambiguously drafted (d) key statutes
and cases that describe the state’s positions on contingent payment clauses (See Appendix
A).
In a nutshell, the summary of the interpretations on the application of “pay when
paid” provisions in the construction sub-contract from the literature review can be
concluded and shown in Table 3.1 as follow:
48
Table 3.1: The Application of “Pay When Paid” Provisions in Construction Sub-Contract
No
Case Law
1
Thomas J. Dyer Co. v. Bishop
International Engineering Co.
303 F.2d 655, 661 (6th Cir. 1962)
“Pay When
Paid”
Suggest
Time For
Payment
“Pay When
Paid” as
Condition
Precedent
Judgment
•
X
•
•
2
Power & Pollution Services, Inc.
v. Suburban Power Piping
Corp47 Ohio App. 3d 89
(Cuyahoga County 1991)
X
•
•
It was the intention of the parties that the subcontractor
would be paid by the general contractor for the labor and
material put into the project.
The Sixth Circuit opined that the credit risk inherent in the
general contractor’s undertaking could be shifted to the
subcontractor, but only where the contract contained express
language “clearly showing that to be the intention of the
parties.’
The court interpreted these standard “pay-when-paid”
clauses, not as creating an absolute condition precedent to
payment to the subcontractor, but rather as affording the
general contractor a postponement of payment for a
reasonable period of time to allow the general contractor
an opportunity to collect funds due from the owner to pay
the subcontractors and not to require the subcontractor to
wait an indefinite period of time until the general
contractor was paid by the owner.
Agreed with the analysis in Dyer
Unless the contract clearly shows that the parties intended
to make payment from the owner a “condition precedent”
to payment of the subcontractor, the pay-when-paid clause
governs only the timing of payments to the subcontractor but
does not allow the general contractor to avoid paying the
subcontractor altogether
49
No
Case Law
3
Seal Tite Corp. v. Ehret, Inc589
F. Supp. 701 (D.N.J. 1984)
4
Mignot v. Parkhill
“Pay When
Paid”
Suggest
Time For
Payment
X
X
“Pay When
Paid” as
Condition
Precedent
Judgment
•
•
•
The parties to a subcontract could shift the risk of the
owner’s insolvency to the subcontractor, and make payment
to the general contractor an absolute condition precedent to
payment to the subcontractor, provided that the subcontract
clearly and unequivocally so provides.
Where the contract contains a definite and unambiguous
promise to pay for labor and materials performed and
furnished, or for other services, equally clear an
unambiguous language, expressing the intention that the
happening of a contingency over which the promise has no
control shall be a condition precedent to payment, must be
found in the contract before the positive and absolute
agreement to pay will be considered as superseded.
“until such time as,” combined with the absence of any clear
language that expresses the parties’ intention to create a
condition precedent, appeared as a stipulation for payment
on receipt of a fund “ ‘inserted merely for the purpose of
fixing the time at which performance shall become due.’ ”
Initially, this provision seems to clearly express an intention
to make payment to the subcontractor conditional upon the
owner’s payment to the general contractor, but the court
required language of a more specific nature. Short of any
precise terms, such as “condition precedent,” the contractual
50
No
5
6
7
Case Law
Berkel & Company Constractors
v. Christman Company 210
Mich. App. 416, 533 N.W.2d
838 (1995)
West-Fair Electric Contractors v.
Aetna Casualty & Surety
Company 87 N.Y. 2d 148, 638
N.Y.S. 2d 394, 661 N.E.2d 967
(1995)
A.J. Wolfe Co. v. Baltimore
Contractors Inc., 244 N.E.2d
717, 720 (Mass. 1969),
“Pay When
Paid”
Suggest
Time For
Payment
X
X
“Pay When
Paid” as
Condition
Precedent
Judgment
language could not be construed as anything but merely
fixing the time for payment.
• The Michigan Court disagreed, holding that:
“The contract clearly provides that all payments made to the
subcontractor are to be made only from equivalent payments
received by [the general contractor] for work done, “the
receipt of such payments by the [general contractor] is being
a condition precedent to payments to the subcontractor.”
• A pay-when-paid provision which merely fixes a time for
payment does not indefinitely suspend a subcontractor’s
right to payment upon the failure of an owner to pay the
general contractor and does not violate public policy.
•
X
A contract which provided that “payment will be made on
monthly requisitions for progress payments “within 10 days
after … [the owners’] payment of such monthly progress
payments … [has] been received’ ” by the contractor merely
set the time for payment and did not create a condition
precedent. The court concludes that this language did not
amount to a clear provision “should be viewed only as
postponing payment by the general contractor for a
reasonable time.”
51
No
Case Law
8
Southern States Masonry Inc. v.
JA Jones Construction Company
(1987) 507 So. 2d 198
9
Harvey Concrete, Inc. v. Agro
Construction & Supply Co. 939
P.2d 811 (Ariz. Ct. App. 1997)
“Pay When
Paid”
Suggest
Time For
Payment
“Pay When
Paid” as
Condition
Precedent
Judgment
•
X
•
X
•
•
The court there held that clause could not be interpreted to
mean “if” the sub-contractor was to be paid but rather
“when” it was to be paid. It interpreted the clauses in that
case as relating to the time when a contractor must pay the
subcontractor and not to the issue of whether the subcontractor got paid at all.
Held that the following clause was plain enough to shift the
credit risk to the subcontractor:
“Subcontractor agrees as a condition precedent to
payment…that the owner shall have first paid the
payment…to the contractor, and that payment for wither
progress payments or final payment is not due and owing
to the subcontractor as provided for herein until the
owner has made such payment to the contractor”
The language that included the term “condition precedent”
sufficed to create an enforceable condition. A condition
precedent is established when expressions like “exclusively”
or “only” demonstrate that payment was to be made from a
particular fund and no other.
Without these key words, one may assume that these
provisions would only effect the time of payment and not
waive the contractor’s duty to pay for services rendered by
the subcontractor. In order to create a condition precedent to
the subcontractor’s payment, there must be contractual
52
No
10
11
12
Case Law
“Pay When
Paid”
Suggest
Time For
Payment
“Pay When
Paid” as
Condition
Precedent
•
Printz Services Corp. v. Main
Electric Ltd949 P.2d 77 (Colo.
Ct. App. 1997)
X
Robert F. Wilson, Inc., v. PostTensioned Structures, Inc., 522
So. 2d 70 (Fla. 3d DCA 1988)
X
DEC Electric, Inc., v. Raphael
Construction Corporation
(1990)
Judgment
•
X
•
language demonstrating the parties ‘unequivocal intent’
that the subcontractor will only be paid if the contractor is
paid
The court found that a third – party payment provision that
stated the contractor would pay the respective subcontractor
“ ‘provided like payment shall have been made by the Owner
to Contractor’ ” did relieve the contractor of the obligation to
pay a subcontractor absent the contractor’s receipt of full
payment from the owner
The following provision shifted the risk of nonpayment to
the subcontractor:“… In the event a controversy occurs
between the Owner and the General Contractor concerning
the Contract with the Owner or these Change Order(s), then
it is expressly agreed had no compensation for these items
shall be due the Subcontractor from the Contractor until
payment for them is received by the Contactor, regardless of
the fact that payments is delayed due to the Contractor
negotiating with the Owner..”
Quoting from its earlier reasoning in Peacock Construction
Co., Inc. v. Modern Air Conditioning, Inc., held a “paywhen-paid” clause to be condition precedent to payment
from the general contractor to the subcontractor. However,
the same year the Supreme Court decided OBS v. Pace
Construction Corporation and concluded that an ambiguity
53
No
13
Case Law
Timbro Development Limited v.
Grimsby Diesel Motors Inc
“Pay When
Paid”
Suggest
Time For
Payment
“Pay When
Paid” as
Condition
Precedent
Judgment
•
X
•
14
15
Kor-Ban Inc. v. Pigott
Construction Ltd(1993) 11
C.L.R. (2d) 160 (Ont. Gen. Div.)
Peacock Construction Co. v.
Modern Air Conditioning Inc.,
353 So. 2d 840 (Fla. 1977)
•
X
•
X
existed between the general conditions to the subcontract
and the apparent intent to the subcontract itself, thereby
nullifying an attempt to shift the risk of nonpayment.
A clause in its purchase orders:
“Payments will be made not more than 30 days after the
submission date or 10 days after certification or when we
have been paid by the owner, whichever is the later”.
The Ontario Court of Appeal found in 1988 that the clause
specified the condition governing the subcontractors’ legal
entitlement to payment and not merely the time of payment.
The court further found that, under the clause the
subcontractors clearly assumed the risks if the owner did
not pay the contractor
The subcontractor assumed the risk of non-payment by the
owner to the general. The court also held that on the
evidence, it was apparent that the subcontractor had been
made aware of the pay-when-paid clause in contract
That nothing prevents parties from shifting the risk of an
owner’s nonpayment provided the contract expressly and
unambiguously states such intent. The burden of clear
expression is on the party seeking to pay only when paid,
and any ambiguity will be construed against it as a matter
of law.
54
No
16
Case Law
J.J. Shane v. Aetna Casualty &
Surety Company723 So. 2d 302
(Fla. 3d DCA 1998), reh. den.
“Pay When
Paid”
Suggest
Time For
Payment
“Pay When
Paid” as
Condition
Precedent
Judgment
•
X
The subject provision plainly and unambiguously made
payment by the owner a condition precedent to payment by
the general contractor to the subcontractor.
55
3.6
Reasonable Time of Payment
Often domestic subcontractors would find themselves contracting under heavily
amended bespoke contract with payment provisions that were weighted heavily in favour
of main contractors. “Pay when paid” provisions were legion, and under such
arrangements the payee was usually unaware of the time when payment would be made.
Payment was almost entirely dependent on when the client paid the main contractor. This
also caused significant difficulties for many, particularly subcontractor, in trying to
establish when a legally enforceable debt was due. Debt is an important factor in any
payment arrangement because until the debt is created there is no legally enforceable
means of recovering sums that one party may believed to owed. For subcontractors
operating under “pay-when-paid” provisions, the condition precedent to the debt being
established was the payment to the main contractor. Only then could the subcontractor’s
debt crystallize and action be taken to recover111 .
Often, the agreed payment cycle would be replaced with a valuation arrangement
to correspond with the release of payment to the main contractor. Similar problem were
encountered with bespoke contracts and many subcontractors often did not know when
they were going to be paid and how much they would be paid; in other words, they did
not know the timing of the payment or amount of payment that was going to be made 112 .
111
Pettigrew, R. (2005). Payment Under the Construction Contract Legislation. Published by Thomas
Telford. Pg 75-76
112
Ibid Pg 76
56
The American Institute of Architects (AIA) A401 and the Associated General
Contractors (AGC) 650 subcontract forms contain pay-when-paid terms 113 . With “pay
when paid” clause, as long as the cause for the owner’s nonpayment to the general
contractor is not related to the subcontractor immediately following the expiration of a
reasonable time period. The time period is like grace period for the general contractor,
but if the general contractor does not receive payment from the owner through no fault of
the subcontractor, the general contractor will still be liable to the subcontractor 114 .
3.6.1
A Mechanism to Determine When Payment is due
A common judicial limitation is to hold that the general contractor is required to
pay the subcontractor within a reasonable time. Some courts have held that the “paywhen-paid” clause does not allow non-payment for an indefinite period, but rather, that
the subcontractor must be ultimately paid, regardless of whether the general contractor
has been paid. These courts may interpret the payment clause’s “pay-when-paid”
language as merely a timing provision, rather than a condition precedent 115 .
The “pay-when-paid” indicates the time for payment which the time for payment
is calculated from the date when payment should have been made by the employer,
whether or not payment has in fact been made. This is illustrates by Smith & Smith Glass
Ltd. v. Winstone Architectural Cladding System Ltd. (1991).
113
Hess, S.A. & Bales, J.V. (2007). Design Professional and Construction Manager Law. American Bar
Association - Forum on the Construction Industry. Chapter 15 Pg 500
114
Ibid Pg 500
115
Murphey, D.R. (1999). Surety’s Reliance on Pay-When-Paid Clause Rejected. Smith, Currie & Hancock
LLP.
57
Atkinson (2007) cited that, a “pay-when-paid” could only be effective so long as
the main contract machinery of payment was capable of being operated. For the clause to
be effective the Contractor impliedly undertaken that it will pursue all means available to
obtain payment or it will not be able to rely on the clause to defeat the subcontractor’s
claim for payment.
Across the country, in Massachusetts, New York, Maryland, North Carolina and
Oklahoma, the courts have construed “pay-when-paid” provisions to mean that the
contractor shall pay his or her subcontractors within a stated number of days or a
reasonable time thereafter 116 .
Where no duration is set forth in the contract documents, the courts will interpret
that to mean that the contract should last a reasonable time 117 . A general contractor had
delayed payment to a subcontractor since the owner had not yet paid the general
contractor. The general contractor could not show that the owner’s delay in payment was
due to any purported acts or omissions on the part of the subcontractor. The court found
that the subcontractor was, therefore, entitled to payment of its retained percentage 118 .
A variation of a contingent payment clause arose in Lowy and Donnath, Inc.
v.New York119 . The court found that an electrical subcontractor was entitled to receive
payment for the labor and materials furnished to the general contractor. The purchase
order form of subcontract between the general contractor and the electrical subcontractor
made the subcontract subject to the contract between the general contractor and the
116
A.J. Wolfe Co. v. Baltimore Contractors, Inc., 355 Mass 361 (1969), Schuler-Haas Elec. Co. v. Aetna
Cas. & Sur. Co., 49 A.D.2d 348 (1976), Fishman Const. Co. v. Hansen, 238 Md. 418 (1965), HowardGreen Elec. Co. v. Chaney & James Const. Co., 12N.C.App.63 (1971), Moore v. Continental Cas. Co., 366
F.Supp. 954 (W.D.Okl.1973)
117
Krol, J.J.P (1993). Construction Contract Law. Published by John Wiley and Sons. Pg 34
118
Grossman Steel and Aluminum Corp. v. Samson Window Corp., 78 A.D.2d 871, 433 N.Y.S.2d 31 (2nd
Dept. 1980), aff d 54 N.Y.2d 653, 442 N.Y.S.2d 769 (1981)
119
98 A.D.2d 42, 469 N.Y.S.2d 760 (1st Dept. 1983), aff’d 62 N.Y.2d 746, 476 N.Y.S.2d 830 (1984).
58
owner, to the extent that the electrical work was to be in strict accordance with the
contract plans and specifications. Absent from the language was any indic ation that
payment for the electrical work was subject to verification or audit by the public agency
or payment from the owner to the general contractor. In addition, the purchase order did
not contain any provision regarding to timing of payment. Therefore, payment was due
immediately upon completion of the work.
With a “pay-when-paid” clause, as long as the cause for the owner’s nonpayment
to the general contractor is not related to the subcontractor’s work, the general contractor
will remain liable to the subcontractor immediately following the expiration reasonable
time period. The time period is like a grace period for the general contractor, but if the
general contractor does not receive payment from the owner through no fault of the
subcontractor, the general contractor will still be liable to the subcontractor 120
In Galloway Corp. v. S.R. Ballard Constr. Co.121 , Stein states that: “Traditionally,
courts have refused to strictly enforce “pay-when-paid” clauses, holding that they merely
grant the contractor a reasonable time to obtain payment from the owner when that
payment is due. When this reasonable period has expired, the contractor is obligated to
pay the subcontractor whether or not the contractor has received payment from the
owner. Recently, however, courts have become more receptive to enforcing “pay-whenpaid” clauses so long as the clause unequivocally provides that receipt of payment by the
contractor is a condition precedent to the contractor’s obligation to pay its subcontractor.”
The most comprehensive analysis seems to be that of the Connecticut Supreme
Court in Blakeslee Arpaia Chapman v. EI Construction, Inc. 239 Conn. 708, 687 A.2d
506 (1997) even though the court did not decide the issue:
120
Hess, S.A. & Bales, J.V. (2007). Design Professional and Construction Manager Law. American Bar
Association - Forum on the Construction Industry. Chapter 15 Pg 500
121
250 Va 493, 494 S.E.2d 349 (1995) (Virginia Supreme Court)
59
The plaintiff and the amicus American Subcontractors Association advance
several arguments for not enforcing such a clause. These arguments can be
summarized as follows: (1) a “pay-when-paid” clause, which transfer the credit
risk incurred by the general contractor, can only be enforced if the language in
the subcontract is clear and unequivocal and, in this case, the subcontract
language was equivocal;…(2)such a clause does not relieve contractors of their
duty to pay the subcontractor because it conflicts with the contract read in its
entirety or the intent of the parties;…(3) “pay-when-paid” clauses are not
enforceable when the conduct of the contractor is the cause of the failure;…(4)
such a clause merely sets the time for payment, and “should be viewed only as
postponing payment by the general contractor for a reasonable time after
requisition…so as to afford the general contractor an opportunity to obtain funds
from the owner”; and (5) that a “pay-when-paid” clause is a condition precedent
that is contrary to public policy and therefore unenforceable
3.7
Issues Regarding to “Pay When Paid” Provisions
3.7.1
Prevention Doctrine
The Prevention Doctrine provides that a party who prevents performance of a
contract may not complain of such nonperformance. The Prevention Doctrine may have
an effect on a carefully drafted pay-when-paid provision. This is one that attempts to
60
condition and limit a subcontractor’s right to receive payment on whether the general
contractor has received payment from the owner 122 .
Even a pay-when-paid clause that qualifies as a condition precedent will not be
regarded as an absolute transfer of the risk of owner nonpayment. A pay-when-paid
defense cannot be asserted by a contractor who frustrates or prevents the owner’s
payment by its own material breach. As the beneficiary of a condition payment by the
owner to its duty to pay the subcontractor, the contractor is itself subject to an implied
condition that it not frustrates the fulfillment of that condition. However, the mere fact
that the owner is refusing to pay because of a dispute with the contractor; such a refusal
could be a risk contemplated by the parties to the subcontract 123 .
Where the general contractors’ own actions or inactions contribute to the nonoccurrence of a condition precedent, the condition precedent to pay out is deemed to
waived or excused. This is known as the “Prevention Doctrine”. As refer to the case of
Moore Brothers Co. v. Brown & Root, Inc. 207 F.3d 717 (2000), the Prevention Doctrine
provides that the general contractor cannot cause the non-payment to occur and then rely
on the came condition as a basis to occur and then rely on the same condition as a basis
not to pay its subcontractor. If the owner fails to pay the general contractor because of the
general contractor’s own fault, the general contractor will not be able to rely on the “paywhen-paid” clause to withhold the payment to the subcontractor 124 .
In the case of Northeast Drilling, Inc. v. Inner Space Services, Inc., the 8th Circuit
Court of Appeals held that a subcontractor could not invoke a pay-when-paid clause after
it prevented fulfillment of a condition precedent. Because the subcontractor failed to
122
Sienicki, J. and Roth, J. (2007). The Prevention Doctrine and Its Effect on ‘Pay-If-Paid’ and ‘PayWhen-Paid’ Clauses. Snell & Wilmer L.L.P.
123
Lybeck, K.L. and Shreves, H.B. (1998). The Law of Payment Bonds. American Bar Association. Pg 265
124
Ahlers J.P. (2008). “Pay When Paid” vs. “Pay If Paid” Clauses: Mystery vs. Myth.
61
submit a change -order request to the contractor after drilling in an expanded area, it
contributed to the contractor’s failure to pay. Thus , the subcontractor was required to pay
the sub-subcontractor because the prevention doctrine applied and rendered the paywhen-paid clause void.
3.7.2
Summary Judgment
Summary judgment is a decision made on the basis of statements & evidence
presented for the record without a trial. It is used when there is no dispute as to the fact of
the case & one party is entitled to judgment as a matter of law.
The principles applied in a summary judgment proceedings is clearly illustrated in
the case of Alloy Automotive Sdn Bhd v. Perusahaan Ironfield Sdn Bhd [1986] 1 MLJ 382
(SC) where the Supreme Court had stated (at p 390) that:
“Where all the issues are clear, summary judgment should be given. An appellant
ought not to be shut out from defending unless it is very clear that he has no case
in the action. A complete defence need not be shown. The defence setup need only
show that there is a triable issue or question or that for some reason there ought
to be a trial.”
Similar principles were further illustrated in the case of Malayan Insurance (M)
Sdn Bhd v. Asia Hotel Sdn Bhd [1987] 2 MLJ 183 (SC), where the Supreme Court had
held as follows:
62
“… the underlying philosophy in the O 14 provision is to prevent a respondent
clearly entitled to the money from being delayed his judgment where there is no
fairly arguable defence to the claim. The provision should only be applied to
cases where there is no reasonable doubt that the respondent is entitled to
judgment. Order 14 is not intended to shut out an appellant. The jurisdiction
should only be exercised is very clear cases.”
The High Court in Hong Kong Teakwood Works Ltd. v. Shui On Construction Co.
Ltd. [1984] HKLR 23 and The Court of Appeal in Schindler Lifts (Hong Kong) Ltd. v.
Shui On Construction Co. Ltd. [1985] HKLR 118 have considered the meaning of clause
11(b) in the context of an application for summary judgment. The Hong Kong Courts
came to the view that it was arguable that “receipt of payment” in clause 11(b) means
actual receipt of payment which does not embrace set-off for liquidated damages made
under clause 22 of main contract. The Hong Kong Teakwood and Schindler Lifts (Hong
Kong) cases cannot be regarded as authority to support the main contractor’s argument
for not paying the sub-contractor since:
1. The burden of defendants in an application for summary judgment
is only to show an arguable defence, the courts did not decide that
the arguments advanced by the defendants were sustained. They
only held that such arguments were not unsustainable.
2. The parties only argued whether a set-off exercised by the
employer against payment due to the main contractor constituted
receipt of payment by the main contractor. Whether receipt (in any
sense) of payment by the main contractor is a condition precedent
to payment by the main contractor to the sub-contractor has never
been raised as an issue before the Courts in the above -mentioned
cases.
63
3.7.3
Payment Bond Surety
The payment bond is straight forward device basically requiring a third party such
as a bank or an insurance company to guarantee payment in the event of default on the
part of the paying party. The provision of bond by the employer is presently uncommon
in Malaysia other than for bullet payment contracts. The CIDB 2000 Form nevertheless
provides for it as an option125 .
Many general contractors are needlessly exposing themselves to increased
liability and legal risks. A general contractor on a public construction project have
completed the works but have yet to be paid in full by the owner. When subcontractors
ask for final payment, the general contractor will point to the subcontract’s “pay-whenpaid” clause. Then the subcontractor does something that the general contractor don’t
expect instead of suing the general contractor, it sues the general contractor payment
bong surety. The issue is whether the surety can enforce the pay-when-paid clause and
tell the subcontractor that its bond claim must wait until the general contractor is paid by
the owner. Most courts considering the issue have held that a surety cannot enforce a
subcontract’s pay-when-paid clause and must reimburse an unpaid subcontractor even
when the general contractor has not been paid by the owner 126 .
The court decisions by two U.S. Circuit Courts in Moore Brothers Co. v. Brown
& Root Inc. 127 , and United States ex rel. Walton Technology v. Weststar Engineering
Inc.128 , are alarming for general contractors, who have come to rely upon pay-when-paid
clauses to shift some of the risk of an owner’s non-payment to their subcontractors. The
125
Lim Chong Fong. The Malaysian Construction Industry-The Present Dilemmas of the Unpaid
Contractors
126
Koprince, S.J. (2008). Is Your Pay-When-Paid Clause Worthless?. The Constructor January/February
2008. McGraw Hill Construction
127
207 F.3d 717 (4th Cir. 2000)
128
290 F.3d 1199 (9th Cir. 2002)
64
appellate court addressed “whether a surety can assert the principal’s defense based on
‘pay-when-paid’ language in the subcontract, where the surety did not expressly
incorporate the ‘pay-when-paid’ language into the contract payment bond. 129 ” In
rejecting the surety’s attempt to rely upon the contractor’s defense, the Fourth Circuit
reasoned:
There is no indication that the parties intended the phrase “sums justly due” to
incorporate the contingency of payment by the Owners. On the contrary, the very
purpose of secur ing a surety bond contract is to ensure that claimants who
perform work are paid for their work in the event that the principal does not pay.
To suggest that non-payment by the Owner absolutely absolves the surety of its
obligation is nonsensical, for it defeats the very purpose of a payment bond.
Just as in Moore Brothers, because the subcontractors are suing on the payment
bond and not their subcontracts, and because there is no language in the payment bond
that hinges payment by the surety on the contractor’s receipt of payment from the owner,
there is no basis for denying the subcontractors payment under the performance bond. As
the Fourth Circuit aptly noted in Moore Brothers, such a denial would frustrate the very
purpose of the payment bond130 .
In Brown & Kerr, Inc. v. St. Paul Fire and Marine Insurance Co. 131 the court
opined that as the purpose of the bond is to assure that subcontractors be paid,
subcontractors should not have to wait the determination of an unrelated legal dispute
between the owner and the contractor. Instead of suggesting the surety was not entitled to
assert the pay-when-paid defense under any circumstances, the court should have
considered whether the contractor’s dispute with the owner amounted to frustration of the
payment condition, a recognized bar to its enforcement.
129
Moore Brothers Co. v. Brown & Root Inc. 207 F.3d 723 (4th Cir. 2000)
II, R.L. (2005). Nos. 31869 and 31870. Supreme Court of Appeals of West Virginia. Pg 8
131
940 F. Supp. 1245, 1249 (N.D. III. 1990)
130
65
Several courts have strongly suggested that had pay-when-paid language been
included in the payment bond, rather than merely in the subcontract, the surety would
have been permitted to delay payment until the general contractor had been paid by the
owner 132 . In the case of Casey Indus. Inc. v. Seaboard Surety Co 133 ., the district court
written that “a surety cannot assert its principal’s defense based on pay-when-paid
language in the subcontract when the pay-when-paid provision is not expressly
incorporated into the payment bond.”
The clear and dangerous trend of cases like Moore Brothers and Walton
Technology is to prohibit payment bond sureties from enforcing standard pay-when-paid
clause. General contractors should aware of the significant liability problem. These cases
may pose and take steps to strengthen their subcontracts and payment bonds before they
are caught on the wrong end of an unenforceable pay-when-paid clause 134 .
3.7.4
Contractor’s Own Default
It often happens that a main contractor would suffer liquidated damages as a
result of his own default or that of one of a number of his subcontractors. The question
whish arises in such situation is whether the main contractor is entitled to deduct the
liquidated recovered by the owner from the sub-contractors who did not contribute to
delay?
132
Koprince, S.J. (2008). Is Your Pay-When-Paid Clause Worthless?. The Constructor January/February
2008. McGraw Hill Construction
133
2006 WL 2850652,*7 (E.D. Va. 2006)
134
Koprince, S.J. (2008). Is Your Pay-When-Paid Clause Worthless?. The Constructor January/February
2008. McGraw Hill Construction
66
In Durabella Limited v. J. Jarvis & Sons Limited (2001), it was held that the
Housing Grants Construction and Regeneration Act 1966 clearly envisaged that paywhen-paid clauses which shared the risk of insolvency were not unreasonable. A
contractor cannot rely on a pay-when-paid clause if the reason for non-payment is its own
breach of contract or default. A party cannot take an advantage from its own breach of
contract135 .
Hudsons Building and Engineering Contracts 11th Edition holds the view that a
main contractor is not entitled to withhold payment in such a situation for the following
reasons:
1.1
The deduction of, for example, liquidated damages or a sum for defective works
amounts to a cross-claim or set-off which should count as credit given to the main
contractor. In other words the work done by the main contractor and hence all
sub-contractor are still being recognized and accordingly the relevant subcontractors should be paid;
2.1
The application of the “business efficacy” and “officious bystander” tests would
favour the view that a sub-contractor had not agreed to withholding of payment
when he did not cause his main contractor to suffer for example, liquidated
damages. But as the parties to contracts can agree to whatever positions they may
wish to take, it is open to the parties to agree otherwise; and
3.1
The “prevention principle” implies that a main contractor should not gain from his
own negative act, i.e. default in sat, completing the works in a timely manner and
thus take advantage of same to deny his sub-contractor from being paid.
135
Atkinson D. (2001). Payment – Pay When Paid Clauses.
67
Subcontractors can always also argue that the Owner’s nonpayment resulted from
unrelated breaches of the general’s contract with the owner. The general rule is that
“where defendant prevents the performance of a condition of a contract, the condition is
excused. 136 ” In Sassenrath v. Sassenrath137 and AEE-EMF v. Passmore138 , if the owner
has refused to pay the general contractor because of the general contractor’s own
breaches, the general contractor has, in essence, prevented the occurrence of the
condition precedent and cannot assert the Owner’s nonpayment as a defense.
The Illinois case in Preload v. Marino Construction139 , the court held that a
general contractor could not assert a “pay-when-paid” clause when the general contractor
was responsible for the Owner’s nonpayment, reasoning that “the performance of a
condition precedent is excused if the party for whose benefit the condition is created
prevents the condition from occurring.
3.8
Conclusion
As conclusion, with a few exceptions, courts do not interpret “pay when paid”
provisions as conditions precedent without including explicit and unambiguous language.
Once the courts interpret the pr ovisions as conditions precedent, the written agreement
defeats the subcontractor’s claim against the contractor. A subcontractor will be entitled
to payment if the general contractor causes the nonoccurrence of the condition precedent
to payment or if the general contractor commits fraud or tortuously interferes with the
contract. Condition precedents do not necessarily supersede a subcontractor’s statutory
rights to file mechanic liens and recover against surety bonds. Payment provisions can
have significant financial consequences for any party that has assumed the risk of non136
Goodin, P.W. and Dickinson, J.C.. Who Bears the Risks of Owner Non-Payment?. Midwest
Construction Law, Contracts and Claims
137
657 S.W. 2d 671, 674 (Mo. Ct. App. 1983)
138
906 S.W. 2d 714 (Mo. Ct. App. 1995)
139
1991 WL 202651 (N.D. I11. 1991)
68
payment, and can have significant financial benefits for the party that has shifted the risk
of the non-payment. Parties negotiating a construction contract should scrutinize
conditional payment provisions to determine the effect of such provisions before entering
into the contract.
The Arizona Court of Appeal in Harvey Concrete, Inc. v. Agro Construction &
Supply Co.140 , The language that included the term “condition precedent” sufficed to
create an enforceable condition. Furthermore, the court held that a condition precedent is
established when expressions like “exclusively” or “only” demonstrate that payment was
to be made from a particular fund and no other. Without these key words , one may
assume that these provisions would only effect the time of payment and not waive the
contractor’s duty to pay for services rendered by the subcontractor. In order to create a
condition precedent to the subcontractor’s payment, there must be contractual language
demonstrating the parties ‘unequivocal intent’ that the subcontractor will only be paid if
the contractor is paid.
In determining what constitutes a “reasonable time” for payment under such
provisions, courts have (1) looked to other provisions within the contract at issue which
set forth the time periods for performance of analogous act; and (2) have determined, as
matter of law, when a reasonable time has elapsed
140
939 P.2d 811 (Ariz. Ct. App. 1997)
69
CHAPTER 4
ANALYSIS ON THE APPLICATION OF “PAY WHEN PAID”
PROVISIONS IN SUB-CONTRACTS
4.1
Introduction
The preceding chapter discussed in detail the topic of the application of “pay when
paid” provisions in construction sub-contract. This chapter is done in order to achieve the
objective of this project report, which to identify whether “pay-when-paid” arrangement
in construction sub-contract waiving the right of the subcontractor to be paid or simply a
timing mechanism. Besides, the ground constitutes the application of “pay when paid”
provisions was discuss in detail to give the readers an insight the circumstances where the
subcontractor entitle to get payment by the main contractor when they have suffering the
risk of non-payment.
70
This chapter discusses the judicial interpretation on the application of “pay when
paid” provisions in construction sub-contract. The circumstances behind the application
of “pay when paid” provisions were collected through the documentary analysis of law
journals and law report, e.g. Malayan Law Journal, Hong Kong Law Journal, All Engla nd
Report, Construction Law Report, etc. The decided court cases will be analysed and
being categorized under the terms which constitute the “pay-when-paid” arrangement as
condition precedent to the payment by the owner to general contractor and timing
mechanism (time for payment). It is done mainly through in Sub-Contract.
A total number of eleven (11) cases centered the issue of “pay when paid”
provisions in construction sub-contract were studied. Out of the eleven (11) cases chosen,
eight (8) cases gave illustration that “pay when paid” constitutes as timing mechanism
and the remaining constitutes the “pay when paid” provision as condition precedent. The
cases will be discussed in detail in order to give better understanding to the readers to
give a better understanding to the readers and the principle lying behind that drove the
judge to come a judgment that “pay when pay” provisions as timing mechanism or
waiving the subcontractor right to payment (condition precedent).
4.2
The Application of “Pay When Paid” Provision in Sub-Contract
After reading chapter 2 and chapter 3, it is known the application for the
payment provision of “pay when paid” in construction sub-contract which can result as
time for payment within reasonable time and as condition precedent to general contractor
get payment by the owner. “Pay when paid” provisions in sub-contract typically defer the
71
time when payment is due from say a main contractor to a sub-contractor until the main
contractor has received payment from the client. The general contractor has made an
unconditional promise to pay with the time payment postponed until happening of a
certain event, or for a reasonable period of time if the owner’s payment does not happen.
Whether the “pay when paid” provisions constituted time for payment or condition
precedent to general contractor get payment by the owner is probably best judged
objectively having regard to such matter as:
a) The intention of the contractual parties (Dyer Interpretation);
b) The contractual language either ambiguous or unambiguous;
c) The subcontractor’s assumption of the risks of non-payment by the owner to
general contractor; and
d) The enforcement of the contractual terms or provisions.
The above indicates the matters that constitute the application of “pay when paid”
provisions from the literature. However, there is a great deal of uncertainty as to the exact
judgment to the matter of interpretation of sub-contract language contain “pay when
paid”. The judgments for the application of the “pay when paid” provisions in the subcontract are discussed below with illustration of cases relating to construction subcontract across the country.
72
4.2.1
“Pay When Paid” Suggest Time of Payment
Case 1
The controlling factor as to whether the “pay when paid” clause was a conditional
or unconditional promise was the intention of the parties. Whether the “pay when
paid” clause is to be construed as a conditional promise to pay, enforceable only
when and if the conditions precedent has taken place or is to be construed as an
unconditional promise to pay with the time of payment being postponed until the
happening of a certain event, or for a reasonable period of time if it develops that
such event does not take place. To construe it as requiring the subcontractor to wait
to be paid for an indefinite period of time until the general contractor has been paid
by the owner, which may never occur, is to give to it an unreasonable construction
which the parties did not intend at the time the subcontractor was entered into.
In the case of Thomas J. Dyer Co. v. Bishop International Engineering Co. 303
F.2d 655, 661 (6th Cir. 1962), The contract between the contractor and the subcontractor
provided in pertinent part:
The total price to be paid to the Subcontractor shall be … ($115,000.00)
…no part of which shall be due until five (5) days after Owner shall have
paid Contractor therefore…
The Sixth Circuit identified the crucial point of the dispute between the parties as
follows:
[W]hether … [the “pay-when-paid” clause] is to be construed as a
conditional promise to pay, enforceable only when and if the conditions
73
precedent has taken place,… or … is to be construed as an unconditional
promise to pay with the time of payment being postponed until the
happening of a certain event, or for a reasonable period of time if it
develops that such event does not take place..
After reviewing several earlier opinions in which similar “pay-when-paid” clauses
had been interpreted, the court held that the controlling factor as to whether the “paywhen-paid” clause was a conditional or unconditional promise was the intention of the
parties. To determine the parties’ intent, the court looked beyond the plain meaning of the
terms of the contract to consider the usual and customary expectations of parties in the
construction industry. Emphasizing that general contractors normally bare the risk of the
owner’s insolvency, the court acknowledged that this normal allocation of risk could be
varied by the terms of the subcontract, but only if unequivocal language was used to
express the parties’ intention to shift such risk.
The Court cited as follows:
“In the case before us, we see no reason why the usual risk of the owner’s
insolvency assumed by the general contractor should be transferred from
the general contractor to the subcontractor. It seems clear to us under the
facts of this case that it was the intention of the parties that the
subcontractor would be paid by the general contractor for the labor and
materials put into the project. We believe that to be the normal
construction of the relationship between the parties. If such was not the
intention of the parties it could have been so expressed in unequivocal
terms dealing with the possible insolvency of the owner.”
74
Consequently, despite the rather explicit language of the “pay-when-paid” clause,
the court purported to ascertain the intention of the parties and held that the “pay-whenpaid” clause was properly construed as follows:
A reasonable provision designed to postpone payment for a reasonable
period of time after the work was completed during which the general
contractor would be afforded the opportunity of procuring from the owner
the funds necessary to pay the subcontractor. To construe it as requiring
the subcontractor to wait to be paid for an indefinite period of time until
the general contractor has been paid by the owner, which may never
occur, is to give to it an unreasonable construction which the parties did
not intend at the time the subcontractor was entered into.
While the Dyer case is relied upon by those who seek to enforce conditional
payment provisions where the contracts at issue contain specific “pay-if-paid” or “paywhen-paid” language, enforcement of such language is still not automatic. Those courts
that have adopted Dyer approach of enforcing conditional payment clauses only when the
contract terms undeniably demonstrate the intent of the parties still “ recognize a general
presumption against the enforcement of the clauses” and require “that the presumption
can be overcome only by the use of clear an unambiguous contract language.” 141
141
Mootz, F.Z. (1990). The Enforceability of Pay When Paid Clauses in Construction Contracts, 64
Conn.B.J. 257,265
75
CASE 2
The “pay when paid” provision did not detract from the subcontractor’s right to
paid if it had satisfactorily completed the works according to the contractual
requirements. To interpret a pay-when-paid clause, sufficiently clear words must
have been used in order for a court to construe that such a clause imposed payment
to the main contractor as a condition precedent to the subcontractor's right to be
paid, rather than limiting the time for payment.
The Hong Kong Case of Falcon Building Materials Company Limited v. Fine View
Engineering Limited [2008] HKCU 16 the court considered whether a “pay-when-paid”
provision in a subcontract operated as a condition precedent for payment. The defendant
argued that at the time the writ was issued, the plaintiff was not entitled to the amounts
claimed, as the defendant had not been paid; therefore, under the “pay-when-paid”
provision, the amounts were not yet due to the plaintiff. However, the plaintiff
maintained that it was entitled to the sums claimed on the day the writ was issued.
The defendant, Fine View, was the main contractor of a government contract for
the design, supply and installation of automatic doors at a government hospital. The main
contract was administered by the government's Electrical and Mechanical Services
Department, the employer.
The main contractor engaged the plaintiff, Falcon, as its subcontractor. The
relevant part of the subcontract stated as follows:
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"Payment terms:
(a) 20% deposit... on confirmation of order; and (b) 80% to be
settled by [Fine View’s] receipt of final payment from [the
employer] within 45 days of the completion of testing and
commissioning and the acceptance of the works by the [employer].
“This contract shall be executed on a back-to-back basis in accordance
with the relevant clauses within the main contract."
The 20% deposit was duly paid and the works were allegedly completed by the
subcontractor by April 1 2006. Follow ing testing and commissioning on 26 April 2006,
the subcontractor issued an invoice for the remaining 80% of the subcontract sum,
believing it was entitled to be paid, as testing and commissioning had been carried out.
However, it subsequently transpired that there were defects in the works and the
employer delayed payment to the main contractor. The employer paid the main contractor
on 4 January 2007 after deductions for the defects.
Relying on the pay-when-paid provision in clause (b) of the payment terms, the
main contractor did not settle the subcontractor's invoice for the remaining 80% of the
subcontract sum immediately, as the main contractor had not been paid by the employer.
The subcontractor, believing that the pay-when-paid provision did not affect its
entitlement to payment, commenced proceedings on 16 November 2006 against the main
contractor to recover the balance of the subcontract sum. The trial began on 8 October
2007. Between the commencement of proceedings and the trial, the main contractor paid
the subcontractor the balance of the subcontract sum, less HK$73,700, which the main
contractor had deducted for defects. Therefore, the subcontractor claimed only
HK$73,700 at trial.
77
A preliminary issue was whether clause (b) amounted to a condition precedent to
the main contractor's liability to pay the balance of the price. In deciding this issue, the
court relied on Wo Hing Engineering Limited v Pekko Engineers Limited142 . In Wo Hing
the judge reviewed a number of authorities from Australia, New Zealand and the United
States and identified an underlying principle:
“When having to construe a pay-when-paid clause, sufficiently clear words must
have been used in order for a court to construe that such a clause imposed
payment to the main cont ractor as a condition precedent to the subcontractor's
right to be paid, rather than limiting the time for payment.”
The judge held on the facts that, as the works had been completed in July 1995
and no complaint of unfinished or defective work had been raised, the plaintiff was
entitled to be paid within a reasonable time of the completion of the works, despite the
fact that the defendant had not been paid. The judge in Wo Hing was satisfied that a
reasonable time had elapsed when the writ was issued in May 1996, and that the plaintiff
was therefore entitled to be paid as of the date of the writ. Consequently, the plaintiff was
entitled to costs.
The court in the present case decided the preliminary issue in the subcontractor's
favour and held that clause (b) did not amount to a condition precedent - the
subcontractor's right to be paid did not depend on the main contractor being paid first.
However, the subcontractor ultimately failed in its claim against the main contractor
because of the existence of defects in the works. The court found that the clause "did not
detract from the subcontractor's right to be paid if it had satisfactorily completed the
works according to the contractual requirements". As there were defects in the works, the
court found that the subcontractor had not satisfactorily completed the works according to
142
[1998] HKCU 2341, HCA5561/1996
78
the contractual requirements. The employer and the main contractor were thus entitled to
withhold payment and to make a deduction against the final payment to account for the
unrectified defects. Therefore, the subcontractor's claim was dismissed with costs.
This case confirms that a pay-when-paid clause is not a condition precedent to a
subcontractor's right to be paid. Provided that the subcontractor has carried out its work
satisfactorily according to the terms of its subcontract, it is entitled to payment within a
reasonable time of completing its works, notwithstanding a pay-when-paid clause and the
question of whether the main contractor has been paid by the employer.
CASE 3
Provision calling for payments after written acceptance by the architect and full
payment by the owner do not set condition precedent. They constitute absolute
promises to pay, fixing payment by the owner as a reasonable time for making
payment to the subcontractor. Small subcontractors, who must have payment for
their work in order to remain in business, ordinarily would not assume the risk of
the owner’s failure to pay the general contractor. In order to properly shift the risk
to the subcontractor must unambiguously express such intention and burden of
clear expression is on the general contractor
In the case of Peacock Construction Co., Inc. v. Modern Air Conditioning, Inc. ,
353 So.2d 840 (Fla. 1977) , the issues are as follows”
79
1. Is payment by the owner to the contractor a condition precedent to payment by the
contractor to the subcontractors?
2. Is the interpretation of a document a question of law or of fact?
Modern Air Conditioning and Overly Manufacturing subcontracted with Peacock to
perform heating/air conditioning and swimming pool work for a condominium
construction project. The written subcontracts provided that Peacock would make final
payment to the subcontractors “within 30 days after completion of the work included in
this subcontract, written acceptance by the Architectural and full payment therefore by
the owner.”
When the subcontractors completed the work, Peacock did not pay then because
the owner had not paid in full. Modern Air Conditioning and Overly Manufacturing
brought separate suits against Peacock for payment. At trial the court rejected Peacock’s
contention that payment by the owner was a condition precedent to paying the
subcontractors and granted summary judgment in favor of Modern Air Conditioning. The
Court of Appeals affirmed and Peacock appealed to the Florida Supreme Court.
Unless expressly agreed, a subcontractor’s payment is not conditioned upon
payment to the contractor by the owner. That intent is most cases is that payment by the
owner to the general contractor is not a condition precedent to the general contractor’s
duty to pay the subcontractors. The interpretation of a document and its terms and
conditions is a question of law.
Provision calling for payments after written acceptance by the architect and full
payment by the owner do not set conditions precedent; they constitute absolute promises
to pay, fixing payment by the owner as a reasonable time for making payment to the
80
subcontractor. The Supreme Court without the benefit of any statistical data or supporting
evidence concluded:
A number of courts, with whom we agree, have recognized that contracts
between small subcontractors and general contractors on large
construction projects are such transactions. Cf. Thos. J. Dyer Co. v.
Bishop International Engineering Co.,6 Cir., 303 F.2d 655 (1965). The
reason is that the relationship between the parties is a common one and
usually intent will not differ from transaction to transaction, although it
may be differently expressed.
The risk-shifting provisions are susceptible to only two possible interpretations as
follows:
“If a provision is clear and unambiguous, it is interpreted as setting a
condition precedent to the general contractor’s obligation to pay. If a
provision is ambiguous, it is interpreted as fixing a reasonable time for the
general contractor to pay. In purported risk-shifting provision between a
contractor and subcontractor, the burden of clear expression is the
general contractor. Once a judge decides that a provision is ambiguous
there is nothing for the jury to decide or interpret.”
The court adopted the majority rule that payment by the owner to the general
contractor is not condition precedent to the general contractor’s duty to pay the
subcontractors. Small subcontractors, who must have payment for their work in order to
remain in business, ordinarily would not assume the risk of the owner’s failure to pay the
general contractor.
81
It was held that in order to properly shift the risk to the subcontractor, the
subcontractor must unambiguously express such intention and burden of clear expression
is on the general contractor.
CASE 4
Sufficiently clear words will have to be used before a court will be prepared to
construe that such a clause imposes as a condition payment to the main contractor
which had to be fulfilled before the sub-contractor had the right to be paid as
opposed to a clause limiting the time for payment.
Wo Hing Engineering Limited v. Pekko Engineers Limited (unreported, No.A5561)
had the opportunity to decide the legal effect of a “pay-when-paid” clause in a full trial.
The defendant in this case was a subcontractor and the plaintiff was its sub-subcontractor. The relevant clause provided that “this contract is based on back to back basis
including payment”. The court had to decide whether on a proper construction of the
above-mentioned term in the contract, payment of the final balance was only due to the
plaintiff from the defendant after the defendant received payment from the main
contractor as contended by the defendant, or when the plaintiff was entitled to be paid
after reasonable time had elapsed from the completion of the works as submitted by the
plaintiff.
82
In giving judgment in favour of the plaintiff, Suffiad J. adopted the principle
which can be gleaned from the decisions in United States, Australia and New Zealand,
namely, when having to construe a “pay when paid” clause, sufficiently clear words will
have to be used before a court will be prepared to construe that such a clause imposes as a
condition payment to the main contractor (the sub-contractor in the Wo Hing case) which
had to be fulfilled before the sub-contractor (the sub-sub-contractor in the Wo Hing case)
had the right to be paid as opposed to a clause limiting the time for payment.
Lordship agreed to the following passages in judgment Smith & Smith v. Winstone:
“While I accept that in certain cases it may be possible for persons contracting
with each other in relation to a major building contract to include in their
agreement clear and unambiguous conditions which have to be fulfilled before a
subcontractor has the right to be paid, any such agreement would have to make
clear beyond doubt that the arrangement was to be conditional and not to be
merely governing the time of payment. I believe that the ‘contra proferentem143 ’
principle would apply to such clause and that he who seeks to rely upon such a
clause to show that there was a condition precedent before liability to pay arose
at all should show that the clause relied upon contain no ambiguity.”
“For myself I believe that unless the condition precedent is spelled out in clear
and precise terms and accepted by both parties, then clauses such as the two
particular ones identified in this proceeding to no more than identify the time at
which certain things are required to be done, and should not be extended into the
“if” category to prevent a subcontractor who has done the work from being paid
merely because the party with whom he contracts has not been paid by someone
higher up the chain.”
143
In general, if there is any genuine ambiguity in a exclusion contract (that is, if a contract provision is
subject to at least two varying reasonable interpretations), it will be strictly construed against the party who
drafted the contract.
83
Based on the above principle, the Lordship held that the payment clause in
question merely provides for the time of payment and that the plaintiff’s right to be paid
is not dependent upon the defendant getting paid first.
CASE 5
Any such agreement would have to make clear be yond doubt that the arrangement
was to be conditional and not to be merely governing the time of payment. “Contra
Proferentum144 ” principle would apply to such clause and seeks to rely upon a clause
to show that there was a condition precedent before a liability arose at all should
show that the clause relied upon no ambiguity
The Court of Appeal (Putrajaya) case of Antah Schindler Sdn Bhd v. Ssangyong
Engineering & Construction Co. Ltd., [2008] 3 MLJ 204 provides some guidance as to
the Malaysian position on “pay-when-paid” clauses.
The respondent in the Court of Appeal, Ssangyong Engineering (“Ssangyong”),
was the main contractor appointed by the employer (Yetcome Investment) to install lifts
in respect of the Menara Landmark Johor Bahru Project. The appellant, Antah Schindler,
was a subcontractor to Ssangyong.
144
In general, if there is any genuine ambiguity in an exclusion contract (that is, if a contract provision is
subject to at least two varying reasonable interpretations), it will be strictly construed against the party who
drafted the contract.
84
Antah Schindler carried out and completed the work and received some payments
from Ssangyong, leaving an outstanding sum of approximately RM1.2 million based on 4
interim certificates. Antah Schindler sued Ssangyong for the outstanding sum, and
applied for ‘summary judgment 145 ’.
Antah Schindler’s position was based on Clause 11(b) of the Sub-Contract
Agreement with Ssangyong, which reads as follows:
“Within fourteen (14) days of the receipt by the Contractor of any
certificate or duplicate copy thereof from the Architect the Contractor
shall notify and pay to the Sub-Contractor the total value certified therein
in respect of the Sub Contract Works and in respect of any authorized
variations thereof and in respect of any amounts ascertained under cl 8(c)
hereof less:…”
Ssangyong resisted the application, relying on Clause 27(a) (vii) of the Main Contract:
“The payment in respect of any work, materials or goods comprised in the subcontract shall be made within 14 days after receipt by the Contractor of payment
from the Employer against the architect’s certificate under clause 30 of these
Conditions which states as due in amount calculated by including the total value
of such work, materials or goods, and shall when due be subject to the retention
by the Contractor of the sums mentioned in sub-paragraph (viii) of para (a) of
this Condition.”
145
A decision made on the basis of statements & evidence presented for the record without a trial. It is used
when there is no dispute as to the fact of the case & one party is entitled to judgment as a matter of law
85
Ssangyong’s position was that this clause was incorporated into the SubContract pursuant to various provisions of the Sub-Contract. The Senior Assistant
Registrar refused the application for summary judgment, holding that there were triable
issues as there was sufficient evidence in the circumstances of the case. Antah Schindler
appealed against the decision to the Judge in Chambers, who found that there was no
dispute in respect of the quantum and thus allowed the appeal and entered summary
judgment against Ssangyong. However, the Judge went on to hold that Ssangyong would
only have to pay Antah Schindler as and when payment was received from the employer.
Antah Schindler appealed to the Court of Appeal against this part of Judge’s decision.
There was no cross appeal from Ssangyong.
The Court of Appeal held that clause 27(a) (viii) of the Main Contractor had
incorporated into the Sub-Contract and that Antah Schindler by the following provisions
of the clause in seeking payment had acquiesced to it.
Having characterized the broad issues as being one of a “pay-when-paid” clause,
the Court then considered the effect of the clause, referring to the New Zealand case of
Smith & Smith Glass Ltd v. Winstone Architectural Cladding System Ltd [1992] 2 NZLR
473, where Master Towle made the following observations.
“While I accept that in certain cases it may be possible for persons contracting
with each other in relation to a major building contract to include in their
agreement clear and unambiguous conditions which have to be fulfilled before a
subcontractor has the right to be paid, any such agreement would have to make
clear beyond doubt that the arrangement was to be conditional and not to be
merely governing the time of payment. I believe that the ‘contra proferentem146 ’
principle would apply to such clause and that he who seeks to rely upon such a
146
In general, if there is any genuine ambiguity in an exclusion contract (that is, if a contract provision is
subject to at least two varying reasonable interpretations), it will be strictly construed against the party who
drafted the contract.
86
clause to show that there was a condition precedent before liability to pay arose
at all should show that the clause relied upon contain no ambiguity.”
The Court of Appeal held that upon its proper construction, clause 27(a)(viii) did
not restrict a claim by the Sub-Contractor but merely imposed a time limit on the main
contractor to pay its Sub-Contractor. The Court of Appeal went on to allow the appeal,
holding that on the facts of the case there was sufficient evidence that Ssangyong had in
fact been paid.
The apparent adoption of the observations of Master Towle is to be welcomed. It
appears that the Malaysian Courts see no conceptual obstacle to the practice of “paywhen-paid” and are content to apply the ordinary rules of contractual interpretations to
such clauses. It is understood that an application by Ssangyong for leave to appeal to the
Federal Court has been refused.
CASE 6
The mere fact that terms of a contract are in dispute is not evidence that the
language is not clear and explicit and requires extrinsic evidence to aid in its
construction. If the terms of the parties’ agreement are contained in a clear and
explicit writing, that writing is the sole memorial of the contract and the sole
evidence of the agreement. The court concludes that the phrases “after the
Contractor receives payment from the Owner” and “has received payment from the
Owner” constitute latent ambiguities in the contracts. That is, the phrases, while
appearing perfectly clear at the time the contracts we re formed, because of
87
subsequently discovered or developed facts, may reasonably be interpreted in either
of two ways (ambiguous contractual language)
The Circuit Court of the City of Norfolk in Galloway Corporation v. S.B. Ballard
Construction Co., et al., 250 Va. 493, 494 S.E.2d 349 (1995) , the appeal arises from a
contract dispute between a general contractor and several of its subcontractors in a
construction project following the project owner’s default in making payment on its
contract with the general contractor. The issues are as follows:
1. Whether the terms of the subcontractors provide the general contractor an
absolute “pay when paid” defense to its subcontractors’ breach of contract claims
based upon the owner’s failure to pay.
2. Whether the terms of the subcontracts in question shift the risk of the owner’s
default on payment for labor and materials from the general contractor to the
subcontractors.
On 17 August 1988, Galloway Corporation (“Galloway”), a construction
contractor, entered into a contract with Rowe Properties – Bank Street Limited
Partnership (“Rowe”) for the construction of the First American Financial Center, a
fourteen-story commercial office complex in downtown Norfolk. Rowe and Galloway
used a standard, pre-printed American Institute of Architects (AIA) contract with
attachments to form the basis of their agreement.
Within the general conditions of the contract was the following requirement:
“The Contractor shall promptly pay each Subcontractor, upon receipt of
payment from the Owner, out of the amount paid to the Contractor on
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account of such Subcontractor’s Work, the amount to which said
Subcontractor is entitled…”
Galloway immediately commenced work on the construction project and let
subcontracts to numerous suppliers of labor and materials. Galloway also used a standard,
pre-printed AIA form in letting these subcontracts. Paragraph 11.3 contains the following
pertinent language:
“The Contractor shall pay Subcontractor each progress payment within
three working days after the Contractor receives payment from the
Owner. If the Architect does not issue a Certificate of Payment or the
Contractor does not receive payment for any cause which is not the fault
of the Subcontractor, the Contractor shall pay the Subcontractor, on
demand, a progress payment computed as provided in Paragraphs 11.7
and 11.8”
Paragraph 12.1, entitled “Final Payment,” contains the following pertinent language:
“Final payment, constituting the entire unpaid balance of the Subcontract
Sum, shall be made by the Contractor to the Subcontractor when the
Subcontractor’s Work is fully performed in accordance with the
requirements of the Contract Documents, the Architect has issued a
Certificate of Payment covering the Subcontractor’s completed Work and
the Contractor has received payment from the Owner. If, for any cause
which is not the fault of the Subcontractor, a Certificate of Payment is not
issued or the Contractor does not receive timely payment or does not pay
the subcontractor within three working days after receipt of payment from
the Owner, final payment to the Subcontractor shall be made upon
demand.”
89
Work on the project continued from August 1988 until May 1990, suffering
severe financial difficulties, stopped making payment to Galloway. On 31 May 1990,
Galloway informed Rowe and the architect that it would stop work on the project and
notified its subcontractors to secure their tools, equipment, and materials on the job site
anticipation of work being stopped. Work actually continued until 17 July 1990, when
Galloway terminated its contract with Rowe. At that time Rowe had failed to make 3
progress payments to Galloway totaling slightly less that $3,000,000.00
On 21 January 1994, the trial court by letter to counsel, stated its finding that
there remained unpaid balances on the contracts and that Galloway did not have an
absolute “pay when paid” defense based on the contracts as written. The trial court found
that the phrases “after the Contractor receives payment from the Owner” and “has
received payment from the Owner” only permitted Galloway to “delay payment, but the
contracts cannot be construed to say that each subcontractor must bear its own loss if
Galloway never got paid on its contract with the owner.”
The mere fact that terms of a contract are in dispute is not evidence that the
language is not clear and explicit and requires extrinsic evidence to aid in its
construction. If the terms of the parties’ agreement are contained in a clear and explicit
writing, that writing is the sole memorial of the contract and the sole evidence of the
agreement.
The court concludes that the phrases “after the Contractor receives payment from
the Owner” and “has received payment from the Owner” constitute latent ambiguities in
the contracts. That is, the phrases, while appearing perfectly clear at the time the
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contracts were formed, because of subsequently discovered or developed facts, may
reasonably be interpreted in either of two ways.
Here, the contract in question could be interpreted to require Galloway to pay a
subcontractor only if it received a payment demanded from Rowe identifiable with the
progress or completion of a subcontract, or merely to provide for a reasonable time to pay
after such demand was made to Rowe. Because this ambiguity was not patently evident
on the face of the contract, the trial court was permitted to look beyond the contract and
determine the intent of the parties using parol and other extrinsic evidence.
When resolving a dispute between the parties to a contract with a latent
ambiguity, the court may first consider, among other things, whether negotiations and
prior dealings of the parties manifested their intent with respect to the ambiguous term. If
the parties both manifested the same intent with respect to the ambiguity, that intent will
be enforced. If, on the other hand, the parties do not manifest the same intent regarding
the ambiguity, there has been no meeting of the minds on that term of the contract and the
intent of one party will no control. It is apparent from the record of this case that
Galloway intent, in each case, that the contract would provide it with an absolute “pay
when paid” defense. This, only if the subcontractor to each contract manifested the same
intent will an absolute “pay when paid” defense. Thus, only if the subcontractor to each
contract manifested the same intent will an absolute “pay when paid” defense be
available to Galloway.
The court holds that in the absence of a clear and unambiguous statement of the
parties’ intent as to the meaning of the time of payment provision in a construction
subcontract, an absolute “pay when paid” defense is available to a general contractor only
if it can establish by parol evidence that the parties mutually intended the contract to
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create such a defense. Supreme Court affirmed ruling of trial court rejecting “pay-whenpaid” defense of general contractor and awarding judgment to subcontractor.
CASE 7
The court declined to construe a “pay-when-paid” clause as a valid condition
precedent to the subcontractor’s receipt of payment because such a construction
would result in a “significant forfeiture” to the subcontractor.
In Brown & Kerr Inc. v. St. Paul Fire & Marine Insurance Co., 940 F.Supp.
1245, 1250 (N.D. lll. 1996), the court declined to construe a “pay-when-paid” clause as a
valid condition precedent to the subcontractor’s receipt of payment because such a
construction would result in a “significant forfeiture” to the subcontractor. The
subcontract at issue Brown & Kerr stated:
“The final payment would be made by the Contractor to the
Subcontractor when… the Contractor has received final payment from the
Customer under Prime Contract.”
When the contractor failed to pay the subcontractor for work completed under the
subcontract, the subcontractor brought an action against the contractor’s surety to receive
payment under the payment bond.
The surety argued that because the contractor was not paid by the owners, the
surety was under no obligation to pay the subcontractor under its bond pursuant to the
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“pay-when-paid” clause in the subcontract. See id. at 1248. The court rejected this
argument, concluding that the “pay-when-paid” clause did not affect the contractor’s
right to payment under the bond or create valid condition precedent to payment under the
subcontract. See id. at 1250. Declining to follow A.A. Conte147 and instead relying on the
dissenting opinion in that case, the court concluded that the “pay-when-paid” clause did
not create a condition precedent, but rather a timing provision requiring the general
contractor to pay the subcontractor within a reasonable time. See id. at 1250.
CASE 8
When the subcontract was read in conjunction with the general contract and its
conditions, a sufficient ambiguity existed which prevented the general contractor
from effectively shifting the risk of the owner’s nonpayment to its subcontractor. To
its dismay, the general contractor remained liable for the final payments owed to its
subcontractor.
In 1990, the Florida Supreme Court in OBS Company, Inc. v. Pace Construction
Company dealt a blow to general contractors who relied on a “pay-when-paid” clause to
avoid having to pay down its contractual chain to subs and suppliers absent payment from
the owner. Pace was a general contractor on a bonded project. Pace subcontracted the
drywall portion of work to OBS under a subcontract agreement that contained the
following language:
“In addition to any other requirements of this subcontract and the
contract documents, final payment, shall not become due unless and until
147
A.A. Conte, Inc. v. Camphell-Lowrie-Lautermilch Corp., 132 lll.App. 3d 325, 477 N.E.2d 30 (1st Dist.
1985)
93
the following conditions precedent to final payment have been satisfied (c)
receipt of final payment for subcontractor’s work by contractor from
owner.”
The above language was the contractor’s sole reason for refusing to make
payment to OBS. The Pace subcontract defined the ‘contract documents’ to include the
owner-general contractor agreement, and it incorporated the terms of the ‘prime contract’
into the subcontract with OBS. The contract between the general contractor and the
subcontractor clearly provided that the subcontractor was to be paid only after the owner
paid the general contractor. The contract between the general contractor and the owner,
however, was a “cost plus” or reimbursement type of contract that required the gene ral
contractor to pay its subcontractors before the owner reimbursed the general contractor.
The owner general conditions also required that before final payment become due, the
general contractor was to submit an affidavit certifying that all subcontractors had been
paid. This inconsistency was construed against the general contractor. The court found
that when the subcontract was read in conjunction with the general contract and its
conditions, a sufficient ambiguity existed which prevented the general contractor from
effectively shifting the risk of the owner’s nonpayment to its subcontractor. To its
dismay, the general contractor remained liable for the final payments owed to its
subcontractor.
It is not surprising or unusual that the prime contract required Pace to pay OBS
notwithstanding the failure of the owner to pay the Pace. This created a clear an
ambiguity that the Florida Supreme Court agreed to examine when it accepted
jurisdiction of OBS v. Pace. In it analysis, the Florida Supreme Court examined an earlier
line of decisions. It already had decided that “pay-when-paid” clauses were going to be
strictly construed with any ambiguity resolved in favor of unpaid subcontractor or
supplier. In order to shift the burden of nonpayment to the subcontractor of supplier, the
subcontract was required to contain a “clear an unequivocal expression” of that fact. The
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decision was based on the ambiguity created by incorporation of the prime contract into
the OBS subcontract. Pace had failed to meet its burden of a clear and unequivocal “paywhen-paid” clause.
Although this ruling constituted another nail in the coffin of the general
contractor, the true devastation was realized when the Supreme Court went on to look at
Pace’s bond as issued by Transamerica Insurance Co. and Seaboard Surety. The opinion
states that, “the payment bond is a separate agreement, and any ability to proceed against
the general contractor with a subcontract “pay-when-paid” clause does not necessarily
prevent recovery against the sureties under the bond.”
It rejected earlier holding that sureties’ liability was coextensive of that of the
principal. Even with an effective “pay-when-paid” provision, the surety must make
payment to subcontractors and suppliers within a “reasonable time.” Anyone who has
been around the construction site or the courthouse knows that the surety will look to its
principal for reimbursement of any claims it is required to pay. The effect is that a
general contractor on a bonded job who remains unpaid by the owner will be required to
make payment to subcontractors and suppliers even in the presence valid pay-when-paid
clause.
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4.2.2
“Pay When Paid” As Condition Precedent
CASE 1
The clause clearly specifies the condition governing the contractor’s legal
entitlement to payment and not merely the time of payment. Under such clause, the
subcontractor clearly assumes the risk of non-payment by the owner to the
contractor. Since general contractor was not paid, it is not obliged to pay the
subcontractors. In order to properly shift the risk to the subcontractor, the
subcontractor must unambiguously express such intention and burden of clear
expression is on the general contractor
The Ontario Court of Appeal in Timbro Developments Ltd. v. Grimsby Diesel
Motors Inc., (1998). 32 C.L.R. 32 (Ont. C.A.), allowed a general contractor to rely on a
standard from clause providing as follows:
“When used for sub-contract work the following terms will apply:
Payment will made not more than thirty (30) days after the submission
date or ten (10) days after certification or when we have been paid by the
owner, whichever is the later. Holdback will be retained in accordance
with the Mechanic’s Lien Act in effect at the time, and when released by
the owner all payments will be made in Canadian Funds and will be
payable at par in Welland (emphasis added by the Court)”
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In a very short judgment, the Court held that:
The Court is divided on the interpretation of the underlined words which were
added to the standard form used by the Ontario contractors several months before
execution by the subcontractors. The appellant contended that the added clause
was ambiguous but the majority (Blair and Cory JJ.A.) reject this submission. In
their opinion the clause clearly specifies the condition governing the contractor’s
legal entitlement to payment and not merely the time of payment. Under the
clause, the subcontractor clearly assumes the risk of non-payment by the owner to
the contractor. Since Timbro was not paid, it is not obliged to pay the
subcontractors and the appeal must fail.
Finlayson J.A., dissenting, is of the view that the clause relates to the timing of
payments due under the contract and in no sense puts the subcontractors at risk that they
will not be paid if the contractor is not paid. They are not co-adventures or partners in this
construction contract. Having done the work as found by the trial judge, they are entitled
to be paid. There is a privity of contract between them and Timbro and the trial Judge
was correct in awarding judgment in their favour. He would have allowed the appeal and
restored the judgment of the trial Judge. Leave to appeal to the Supreme Court of Canada
was dismissed148 .
Timbro was followed by the Ontario General Division in Kor-Ban Inc. v. Pigott
Construction Ltd149 . However, Bell J., in that case, also quoted from the 1874 case of
McBrian v. Shanly 150 . There, a subcontract had provided for payment to the
subcontractor within ten (10) days after the general contractor was paid by the owner.
148
Id. (1989). 99 N.R. 400 (note)
(1993). 11 C.L.R. (2d) 160 (Ont. Gen. Div.)
150
(1984). 24 U.C.C.P. 28 (C.A.)
149
97
However, the jury concluded that the owner had terminated the contract because of the
general contractor’s default. Hagarty C.J. held that:
I think the true intent and meaning of such a contract must be that the best
the defendant [general contractor] can say: “If I duly perform my
contract with the company [the owners], and though I be entitled to the
money from them, if from any cause, not arising from any act or default
of mine, they [the owners] do not pay, you [the subcontractor] cannot
call on me to pay.”
In cases where default of the general contractor caused the non-payment by the
owner, Bell J. concluded, the general contractor should not be allowed to rely on the paywhen-paid clause. This reasoning was used in Applied Insulation Co. v. Megatech
Contracting Ltd.151 , where the defendant general contractor was in default and the
plaintiff subcontractor had in no way contributed to the problems. The general contractor
was not allowed to rely on the clause.
Other provinces’ appeal courts decided not to follow Timbro. In Arnoldin
Construction & Forms Ltd. v. Alta Surety Co.152 , the payment clause in a subcontract was
summarized by the Court as follow:
After deduction for a 10% mechanic’s lien holdback and previous
payments the balance of the amount of the requisition as approved by the
contractor “shall be due to the subcontractor on or about one day after
receipt by the Contractor of payment from the owners”. The final payment
under the subcontract is to be made on acceptance of the work “and
151
(1994), 22 C.L.R. (2d) 251 (Ont. Gen. Div.)
(1995), 19 C.L.R. (2d) 1 (N.S. C.A.), leave to appeal to the Supreme Court of Canada refused (1995), 22
C.L.R. (2d) 131 (note)
152
98
within thirty (30) days after payment has been received by the
contractor”.
The Nova Scotia Court of Appeal argued that this was not clear enough language
to impose a standard term on the subcontractor. Hallett J.A. held that:
In my opinion, in order for a general contractor to impose a term on a
subcontractor pursuant to a standard form of a contract, that payment for
its work is conditional on the contractor being paid by the owner the
contract would require mush clearer language than that contained in the
subcontract between [the respondent] and [the appellant]. An intention so
important cannot be buried in obscure language that would not alert the
subcontractor that payment for the subcontract work was conditional on
the owner paying the subcontractor…
Had the respondent intended that nothing would owe or payable to a
subcontractor upon completion of the work unless payment was received from the owner,
the contract ought to have contained clear words to denote such an intention. Appropriate
words would have been that the balance claimed by the subcontractor for the completion
of the work pursuant to terms of the subcontract would only be paid “if” the owner paid
the contractor. The word “if” is defined in the Oxford Dictionary as meaning “on the
condition or suppos ition that.” To impose on a subcontractor a term that payment was
conditional on the contractor receiving payment from the owner would require the clear
language of the nature I have identified.
In Nova Scotia, therefore, it appears that the use of the word “if” will imply a
condition precedent. The Manitoba Court of Appeal, after reviewing both Timbro and
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Arnoldin, preferred the latter. In Winfield Construction Ltd. v. B.A. Robinson Co.153 , Scott
C.J.M. held that:
I am also attracted to the reasoning of the Nova Scotia Court of Appeal in
Arnoldin …, in which the Court chose to limit the effect of the decisions in
Timbro and Kor-Ban by concluding that it would require very clear and
specific words before it could be said that a “pay-when-paid” provision
could govern the sub-contractor’s entitlement to payment.
In a 1997 decision, the Prince Edward Island Supreme Court in the case of R&G
Masonry Ltd. v. Maxim Construction Inc.154 chose to follow Arnoldin and Winfield. A
clause in the contract between general contractor and subcontractor stated:
“IV (b) The subcontractor shall make applications for payment together with
supporting Statutory Declarations and/or other documents when required by the
Contract Documents on or before the 25th day of each month to the Contractor for
approval and due processing covering the value of the products delivered at the
site and the work performed by the Subcontractor proportionate to the
Subcontract Price up to the last day of the month, whereupon payment to the
Subcontractor by the Contractor in the amount of 85% shall become due and
payable not more than five (5) days after receipt of the monies by the Contractor
from the Owner. Where the Contractor or the Consultant makes any changes to
the amount of the applications for payment as submitted by the Subcontractor, the
Subcontractor shall be so notified promptly in writing by the Contractor of
changes and given the opportunity to defend his submission without delay.”
153
154
(1996), 27 C.L.R. (2d) 78 (Man. C.A.)
(1997), 36 C.L.R. (2d) 300
100
DesRoches J. held that while being aware of jurisprudence tending to support the
contractor’s attempt to rely on this clause, the substantial weight of authority in Canada
and the United States supported the conclusion that in order for a general contractor to be
able to rely on a “pay-when-paid” clause, the language ought to be much clearer than that
contained in Article IV (b). Based on Arnoldin and Winfield, the Court held that:
An intention so important cannot be buried in obscure language which
would not alert the subcontractor that payment was subject to a condition
precedent that the owner pays the contractor.
CASE 2
The subcontract unambiguously required payment from the owner to general
contractor before payment become due to the subcontractor.
The Supreme Court of the State of Florida in DEC Electric, Inc., v. Raphael
Construction Corporation 558 So. 2d 963 (Fla. 4th DCA 1989) deals with the issue of
either must all payment provisions in contracts between contractors and subcontractors or
suppliers that concern a condition or time of payment provision be construed as a matter
of a law?
This suit involves a subcontractor’s claim for money due for work done on a
construction project when the general contractor refused to pay because it had not been
paid by the owner. DEC Electric, Inc. (“DEC”), subcontracted with Raphael Construction
101
Corporation (“Raphael Construction”), the general contractor, to perform various
electrical job on a construction project. The owner subsequently shut down the project. It
is undisputed that DEC satisfactorily performed its work and is owed a total of $25, 612
plus interest. Raphael Construction refused to pay DEC, however, because it has not been
paid by the owner. To support its refusal to pay DEC, Raphael Construction relied upon
paragraph 6 of the subcontract, which states:
“… Your payments are made in accordance with our interims draws as we
show you on our sworn statement with your percentage of completion as
we estimate it at the time of our billing to the Owner … No funds will be
owed to the subcontractor unless the General Contractor is paid by the
Owner in accordance to the sworn statement. The subcontractor fully
understands that in event of non payment by the owner to the General
Contractor, the subcontractor has legal recourse against the owner
through the Mechanics Lien Laws or other legal procedures for their
correct monies due.”
The trial court held, as matter of law, that DEC was not entitled to payment from
Raphael Construction because paragraph 6 of the subcontract unambiguously required
payment from the owner to Raphael Construction before payment become due to DEC. In
reaching its decision the district court expressed concern that the trial court decided the
issue as matter of law rather than submitting it to the jury.
Raphael Construction argues that, when the terms of a contract are ambiguous, the
actual intention of the parties becomes a question of fact to be resolved by the jury.
Although this principle of law is correct between contractors and subcontractor, the court
declined to apply it to contracts between contractors and subcontractors in reference to
risk-shifting provisions. In Peacock, the court held that the interpretation of contract
provisions relative to time and conditions of payment between a contractor and
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subcontractor is a question of law and not of fact. The Supreme Court rejected submitting
the issue to the jury because:
“If an issue of contract interpretation concerns the intention of the parties,
that intention may be determined from the written contract, as a matter of
law, when the nature of the transaction lends itself to judicial
interpretation. A number of courts, with whom we agree, have recognized
that contracts between small subcontractors and general contractor on
large construction are such transaction. The reason is that the
relationship between the parties is a common one and usually their intent
will not differ from transaction to transaction, although it may be
differently expressed.”
“The intent in most cases is that payment by the owner to the general
contractor is not a condition precedent to the general contractor’s duty to
pay the subcontractors. This is because small subcontractors, who must
have payment for their work in order to remain in business, will not
ordinarily, assume the risk of the owner’s failure to pay the general
contractor.”
McDonald J. found, as matter of law, that the language was a condition
precedent and that the subcontractor was not entitled to payment from the general
contractor because the general contractor has not been paid by the owner.
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CASE 3
An unambiguous “pay-when-paid” clause may block a subcontractor’s right to
recover in a breach of contract suit against the general contractor. Based on the
unambiguous language in the subcontract, the court strictly enforced plain language
of the agreement, stating that it “may not rewrite a contract to suit one of the
parties but must enforce the term as written.”
In A.A. Conte, Inc. v. Camphell-Lowrie-Lautermilch Corp, the Illinois Appellate
Court held that “pay-when-paid” clauses are enforceable under Illinois law as a valid
form of what is known as a “condition precedent.” A condition precedent is an event that
must occur before one party to a contract is obligated to perform his or her obligations
pursuant to that contract. See Premier Elec. Constr. Co. v. American Nat’l Bank, 658
N.E.2d 877, 885 (lll.App. Ct. 1995). If there is a valid condition precedent in a contract,
the party in whose favor the condition exists is not obligated to perform an action
required by the contract until the condition has been satisfied. See John J. Calnan Co. v.
Talsma Builders, Inc., 395 N.E.2d 1076, 1080 (lll App. Ct. 1979).
In A.A. Conte, the general contractor and the subcontractor entered into a written
agreement which stated that the subcontractor would be paid “if payment … has been
received by [the general contractor] under its general contract [with the owner] .” After
the subcontractor had performed substantial work pursuant to the subcontract, the project
owner became insolvent and failed to pay the general contractor. Because the general
contractor did not receive payment from the owner, the general contractor, in reliance on
the “pay-when-paid” clause, made no payment to the subcontractor. In addition to
asserting a mechanics lien against the project, the subcontractor brought an action against
the general contractor to recover payment for the work performed under the subcontract.
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The general contractor denied that it owed any debt to the payment clause in the
subcontract was a valid condition precedent – the condition being that the contractor had
to receive payment from the owner of the project under the general contract before it was
obligated to pay the subcontractor for its work. The Illinois Appellate Court held that the
payment clause was an enforceable condition precedent and that because the owner had
not paid the contractor, the subcontractor was no entitled to payment from the general
contractor. Id. at 33.
In holding that the payment clause was a valid condition precedent, the court
expressly rejected the subcontractor’s argument that the clause created a limitation only
as to the timing of payment. In other words, the court held that payment clause did not
simply control when the subcontractor was paid by the general contractor – it controlled
the subcontractor’s right to be paid under the subcontractor’s right to be paid under the
subcontract. Based on the unambiguous language in the subcontract, the court strictly
enforced plain language of the agreement, stating that it “may not rewrite a contract to
suit one of the parties but must enforce the term as written.”
The court in A.A. Conte also deemed it significant that the subcontract was
entered into by two business entities experienced in the construction industry and that,
presumably, the parties had entered into many other contracts of a similar nature in the
course of their business. Thus, at least one Illinois court decision supports enforcement of
“pay-when-paid” language in an agreement, despite a harsh result for the subcontractor.
However, other courts have not similarly construed “pay-when-paid” clauses. In
fact, the highest courts of California and New York have held that any clause purporting
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to make payment by the owner to the contractor a true condition precedent to contractor’s
obligation to pay the subcontractor is unenforceable as contrary to public policy155 .
The A.A. Conte decision does not necessarily mean that am subcontractor facing a
“pay-when-paid” is left without remedy. The subcontractor still may file a mechanics lien
Section 21 of the Illinois Mechanics Lien Act, 770 ILCS 60/12, expressly provides that
any subcontract provision conditioning payment from a contractor to a subcontractor
upon receipt of payment from the owner is not a defense to subcontractor’s lien claim.
In short, under current Illinois law, an unambiguous “pay-when-paid” clause may
block a subcontractor’s right to recover in a breach of contract suit against the general
contractor. As s result, a general contractor may find the “pay-when-paid” clause an
effective method of avoiding payment to a subcontractor for work when the owner has
not paid the general contractor. A “pay-when-paid” clause does not prevent a
subcontractor from filling a mechanics lien, but if a subcontractor is concerned about
preserving its contract rights, the subcontractor, before signing a subcontract presented by
the general contractor, should review or have its attorney review the subcontract to see if
it includes a “pay-when-paid” clause. If it does, the subcontractor may want to consider
whether it wants to share the risk of owner nonpayment.
155
See Wm. R. Clarke Corp. v. Safeco Ins. Co. of Am., 938 P.2d 372 (Cal. 1997); West-Fair Elec.
Contractors v. Aetna Cas. & Sur. Co., 661 N.E.2d 967, 971 (N.Y.1995)
106
4.3
Conclusion
The above discussion show eleven (11) judgment for the application to the “pay
when paid” provisions in sub-contact and the principle laying behind that drove the judge
to come a judgment that the “pay when paid” provisions constitute time for payment and
waiving the subcontractor right to payment (condition precedent of payment by the owner
to the main contractor). It shows that the “pay when paid” pr ovisions in construction subcontract may constitute as waiving the subcontractor right to be paid and as timing
mechanism. This is because the wording of the contractual language in the sub-contract is
critical. Unambiguously and sufficiently clearly cont ractual language must have been
used in order for a court to construe such a clause imposed payment to the main
contractor as condition precedent to the subcontractor’s right to be paid, rather than
limiting the time for payment. Once a judge decides that provision is ambiguous there is
nothing for the jury to decide or interpret.
Overall, the findings are found to be parallel with the literature review. It shows
that the risk-shifting provisions are susceptible to only two possible interpretations which
are: if a provision is clear and unambiguous; it is interpreted as setting a condition
precedent to the general contractor’s obligation to pay. If a provision is ambiguous, it is
interpreted as fixing a reasonable time for the general contractor to pay. In purported risk
shifting, provision between a contractor and subcontractor, the burden of clear expression
is to the general contractor.
Whether the “pay when paid” clause is to be construed as a conditional promise to
pay, enforceable only when and if the conditions precedent has taken place or is to be
construed as an unconditional promise to pay with the time of payment being postponed
until the happening of a certain event, or for a reasonable period of time if it develops that
107
such event does not take place. To construe it as requiring the subcontractor to wait to be
paid for an indefinite period of time until the general contractor has been paid by the
owner, which may never occur, is to give to it an unreasonable construction which the
parties did not intend at the time the subcontractor was entered into.
Hence, the court suggest that “Contra Proferentum156 ” principle would apply to
such clause and seeks to rely upon a clause to show that there was a condition precedent
before a liability arose at all should show that the clause relied upon no ambiguity. The
controlling factor as whether the “pay when paid” clause was conditional or
unconditional promise was the intention of the parties.
The court declined to construe a “pay-when-paid” clause as a valid condition
precedent to the subcontractor’s receipt of payment when such a construction would
result in a “significant forfeiture” to the subcontractor and when the subcontract was read
in conjunction with the general contract and its conditions, a sufficient ambiguity existed
which prevented the general contractor from effectively shifting the risk of the owner’s
nonpayment to its subcontractor
As mentioned above, there is only one principle laying behind the drove the judge
to come a judgment the “pay when paid” provisions as timing mechanism or waiving the
subcontractor’s right to payment, which is the contractual language.
The apparent adoption of the observations of Master Towle in the case of Smith &
Smith Glass Ltd v. Winstone Architectural Cladding System Ltd157 is to be welcomed. It
156
In general, if there is any genuine ambiguity in an exclusion contract (that is, if a contract provision is
subject to at least two varying reasonable interpretations), it will be strictly construed against the party who
drafted the contract.
157
[1992] 2 NZLR 473
108
appears that the Malaysian Courts see no conceptual obstacle to the practice of “paywhen-paid” and are content to apply the ordinary rules of contractual interpretations to
such clauses. Master Towle made the following observations:
“While I accept that in certain cases it may be possible for persons contracting
with each other in relation to a major building contract to include in their
agreement clear and unambiguous conditions which have to be fulfilled before a
subcontractor has the right to be paid, any such agreement would have to make
clear beyond doubt that the arrangement was to be conditional and not to be
merely governing the time of payment. I believe that the ‘contra proferentem158 ’
principle would apply to such clause and that he who seeks to rely upon such a
clause to show that there was a condition precedent before liability to pay arose
at all should show that the clause relied upon contain no ambiguity.”
.
158
In general, if there is any genuine ambiguity in an exclusion contract (that is, if a contract provision is
subject to at least two varying reasonable interpretations), it will be strictly construed against the party who
drafted the contract.
109
CHAPTER 5
CONCLUSION AND RECOMMENDATIONS
5.1
Introduction
This chapter is the last chapter that summarizes the finding of the research
according to the research objective. It also contains the problems encounter during the
research as well as the recommendations of future researches.
5.2
Summary of Research Finding
Overall, the objective this research had been achieved through documentary
analysis of law journal and law report. In this research, eleven (11) cases were analysis.
From analysis, it is found in this research that there are eight (8) matters lying behind that
drove the judge to come a judgment that “pay when paid” provisions as timing
110
mechanism or waiving the subcontractor’s right (condition precedent). The findings are
shown in the Table 5.1. as follow:
111
Table 5.1: Judgment on the Application of the ‘Pay When Paid Provisions In Construction Sub-Contracts
No.
1
Case Law
Thomas J. Dyer Co. v.
Bishop International
Engineering Co., 303 F.2d
655, 661
(6th Cir. 1962)
“Pay When
Paid”
Suggest
Time of
Payment
X
“Pay When
Paid” as
Condition
Precedent
Matter/Subject
Judgment
The Intention of
the Contractual
Parties
- The controlling factor as to whether the
“pay when paid” clause was a conditional
or unconditional promise was the intention
of the pa rties.
- To determine the parties’ intent, the court
looked beyond the plain meaning of the
terms of the contract to consider the usual
and customary expectations of parties in the
construction industry.
- The allocation of risk could be varied by
terms of the subcontract but only if
unequivocal language was used to express the
parties’ intention to shift risk of nonpayment.
- It was the intention of the parties that
the subcontractor would be paid by the
general contractor. If such was not the
intention of the parties it could have been so
expressed in unequivocal terms dealing
with the possible insolvency of the owner.
- A reasonable provision designed to
postpone payment for a reasonable period of
time after the work was completed during
112
No.
2
Case Law
Hong Kong Case:
Falcon Building Materials
Company Limited v. Fine
View Engineering Limited
[2008] HKCU 16.
“Pay When
Paid”
Suggest
Time of
Payment
X
“Pay When
Paid” as
Condition
Precedent
Matter/Subject
Judgment
The
Subcontractor
had Carried out
its Work
Satisfactory
according to
Terms of the
Subcontract
which the general contractor would be
afforded the opportunity of procuring from the
owner the funds necessary to pay the
subcontractor.
- To construe it as requiring the
subcontractor to wait to be paid for an
indefinite period of time until the general
contractor has been paid by the owner, which
may never occur, is to give to it an
unreasonable construction which the parties
did not intend at the time the subcontractor
was entered into.
- The intent of the parties still recognize a
general presumption against the enforcement
of the clause and require that the presumption
can be overcome only by the use of clear and
unambiguous contract language.
"Payment terms: … (b) 80% to be settled
by [Fine View’s] receipt of final payment
from [the employer] within 45 days of the
completion of testing and commissioning
and the acceptance of the works by the
[employer] …”“This contract shall be
executed on a back-to-back basis in
accordance with the relevant clauses
113
No.
3
Case Law
The Ontario Court of
Appeal:
Timbro Development Ltd. v.
Grimsby Diesel Motors, Inc.
(1998). 32 C.L.R 32 (Ont.
C.A)
“Pay When
Paid”
Suggest
Time of
Payment
“Pay When
Paid” as
Condition
Precedent
X
Matter/Subject
Under the
Clause the
Subcontractor
Clearly Assume
the Risk of
Nonpayment by
the Owner to
the Contractor
Judgment
within the main contract ."
- The court found that the clause (b) "did not
detract from the subcontractor's right to be
paid if it had satisfactorily completed the
works according to the contractual
requirements "
- Provided that the subcontractor has carried
out its work satisfactorily according to the
terms of its subcontract, it is entitled to
payment within a reasonable time of
completing its works, notwithstanding a paywhen-paid clause and the question of whether
the main contractor has been paid by the
employer.
- The Court allowed a general contractor to
rely on a standard from clause providing as
follows:
“…Payment will made not more than
thirty (30) days after the submission date
or ten (10) days after certification or when
we have been paid by the owner,
whichever is the later …”
- Blair and Cory JJ.A opinion:
The clause clearly specifies the condition
governing the contractor’s legal
114
No.
Case Law
“Pay When
Paid”
Suggest
Time of
Payment
“Pay When
Paid” as
Condition
Precedent
Matter/Subject
Unambiguous
Contractual
Language
entitlement to payment and not merely the
time of payment. Under the clause, the
subcontractor clearly assumes the risk of
non-payment by the owner to the
contractor. Since Timbro was not paid, it is
not obliged to pay the subcontractors and the
appeal must fail.
- The general rule is that interpretation of a
document is a question of law rather than
of fact. If an issue of contract interpretation
concerns the intention of the parties, that
intention may be determined from the written
contract, as a matter of law, when the nature
of the transaction lends itself to judicial
interpretation.
- It was held that in order to properly shift
the risk to the subcontractor, the
subcontractor must unambiguously express
such intention and burden of clear
expression is on the general contractor
-
Under the
Clause the
Subcontractor
Clearly Assume
- The court also held that on the evidence, it
was apparent that the subcontractor had been
made aware of the pay-when-paid clause in
contract.
As discuss in the Timbro
case:
Kor-Ban Inc. v. Pigott
Construction Ltd(1993). 11
C.L.R. (2d) 160 (Ont. Gen.
Div.)
X
Judgment
115
No.
Case Law
“Pay When
Paid”
Suggest
Time of
Payment
“Pay When
Paid” as
Condition
Precedent
Matter/Subject
Judgment
the Risk of
Nonpayment by
the Owner to
the Contractor
- Hagarty C.J. held that:
I think the true intent and meaning of such
a contract must be that the best the
defendant [general contractor] can say:
“If I duly perform my contract with the
company [the owners], and though I be
entitled to the money from them, if from
any cause, not arising from any act or
default of mine, they [the owners] do not
pay, you [the subcontractor] cannot call
on me to pay.”
Applied Insulation Co. v.
Megatech Contracting Ltd.
(1994), 22 C.L.R. (2d) 251
(Ont. Gen. Div.)
X
The General
Contractor
Caused the
Nonpayment by
the Owner
-Where the defendant general contractor was
in default and the plaintiff, subcontractor,
had in no way contributed to the problems.
The general contractor was not allowed to rely
on the clause.
Arnoldin Construction &
Forms Ltd. v. Alta Surety Co.
(1995), 19 C.L.R. (2d) 1
(N.S. C.A.), leave to appeal
to the Supreme Court of
Canada refused (1995), 22
C.L.R. (2d) 131 (note)
X
Ambiguous
Contractual
Language
-The payment clause in a subcontract was
summarized by the Court as follow:
“…Payments the balance of the amount of
the requisition as approved by the
contractor “shall be due to the
subcontractor on or about one day after
receipt by the Contractor of payment from
116
No.
Case Law
“Pay When
Paid”
Suggest
Time of
Payment
“Pay When
Paid” as
Condition
Precedent
Matter/Subject
Judgment
the owners”. The final payment under the
subcontract is to be made on acceptance of the
work “and within thirty (30) days after
payment has been received by the
contractor”.
- The Nova Scotia Court of Appeal argued
that this was not clear enough language to
impose a standard term on the subcontractor.
- The respondent intended that nothing would
owe or payable to a subcontractor upon
completion of the work unless payment was
received from the owner, the contract ought
to have contained clear words to denote
such an intention.
- Appropriate words would have been that the
balance claimed by the subcontractor for the
completion of the work pursuant to terms of
the subcontract would only be paid “if” the
owner paid the contractor.
- An intention so important cannot be
buried in obscure language which would not
alert the subcontractor that payment was
subject to a condition precedent that the owner
pays the contractor.
117
No.
4
Case Law
Florida Supreme Court
Peacock Construction Co.,
Inc. v. Modern Air
Conditioning, Inc. , 353
So.2d 840 (Fla. 1977)
“Pay When
Paid”
Suggest
Time of
Payment
X
“Pay When
Paid” as
Condition
Precedent
Matter/Subject
Small
Subcontractor
Ordinarily
Would Not
Assume the
Risk Owner’s
Failure to Pay
the General
Contractor
Judgment
- Provision calling for payments after
written acceptance by the architect and full
payment by the owner do not set condition
precedent. They constitute absolute promises
to pay, fixing payment by the owner as a
reasonable time for making payment to the
subcontractor.
- The Supreme Court conclude:
A number of courts, with whom we
agree, have recognized that contracts
between small subcontractors and
general
contractors
on
large
construction
projects
are
such
transactions. Cf. Thos. J. Dyer Co. v.
Bishop International Engineering Co.,6
Cir., 303 F.2d 655 (1965). The reason is
that the relationship between the parties
is a common one and usually intent will
not differ from transaction to
transaction, although it may be
differently expressed.
- Small subcontractors, who must have
payment for their work in order to remain in
business, ordinarily would not assume the risk
of the owner’s failure to pay the general
118
No.
Case Law
“Pay When
Paid”
Suggest
Time of
Payment
“Pay When
Paid” as
Condition
Precedent
Matter/Subject
Judgment
contractor.
- In order to properly shift the risk to the
subcontractor, the subcontractor must
unambiguously express such intention and
burden of clear expression is on the general
contractor.
5
Wo Hing Engineering
Limited v. Pekko Engineers
Limited (unreported,
No.A5561)
X
6
The Court of Appeal
(Putrajaya), Malaysia
Antah Schindler Sdn Bhd v.
Ssangyong Engineering &
Construction Co. Ltd.,
[2008] 3 MLJ 204
X
Ambiguous
Contractual
Language
- Suffiad J. cited:
“sufficiently clear words will have to be
used before a court will be prepared to
construe that such a clause imposes as a
condition payment to the main contractor
(the sub-contractor in the Wo Hing case)
which had to be fulfilled before the subcontractor (the sub-sub-contractor in the
Wo Hing case) had the right to be paid as
opposed to a clause limiting the time for
payment.”
- The Court considered the effect of the
clause, referring to the New Zealand case of
Smith & Smith Glass Ltd v. Winstone
Architectural Cladding System Ltd [1992] 2
NZLR 473, where Master Towle made the
following observations.
119
No.
Case Law
“Pay When
Paid”
Suggest
Time of
Payment
“Pay When
Paid” as
Condition
Precedent
Matter/Subject
Judgment
“While I accept that in certain cases it may
be possible for persons contracting with
each other in relation to a major building
contract to include in their agreement clear
and unambiguous conditions which have to
be fulfilled before a subcontractor has the
right to be paid, any such agreement would
have to make clear beyond doubt that the
arrangement was to be conditional and not
to be merely governing the time of payment.
I believe that the ‘contra proferentem159 ’
principle would apply to such clause and
that he who seeks to rely upon such a clause
to show that there was a condition precedent
before liability to pay arose at all should
show that the clause relied upon contain no
ambiguity.”
Clause 27(a) (vii) of the Main Contract:
“The payment in respect of any work,
materials or goods comprised in the subcontract shall be made within 14 days after
receipt by the Contractor of payment from
159
In general, if there is any genuine ambiguity in an exclusion contract (that is, if a contract provision is subject to at least two varying reasonable
interpretations), it will be strictly construed against the party who drafted the contract.
120
No.
Case Law
“Pay When
Paid”
Suggest
Time of
Payment
“Pay When
Paid” as
Condition
Precedent
Matter/Subject
Judgment
the Employer...”
- The Court of Appeal held that upon its
proper construction, clause 27(a)(viii) did not
restrict a claim by the Sub-Contractor but
merely imposed a time limit on the main
contractor to pay its Sub-Contractor.
7
The Supreme Court of the
State of Florida
DEC Electric, Inc., v.
Raphael Construction
Corporation 558 So. 2d 963
(Fla. 4th DCA 1989)
X
Unambiguous
Contractual
Language
- Raphael Construction relied upon paragraph
6 of the subcontract, which states:
“… No funds will be owed to the
subcontractor
unless
the
General
Contractor is paid by the Owner in
accordance to the sworn statement. The
subcontractor fully understands that in event
of non payment by the owner to the General
Contractor, …”
- The trial court held, as matter of law, that
DEC was not entitled to payment from
Raphael Construction because paragraph 6 of
the subcontract unambiguously required
payment from the owner to Raphael
Construction before payment become due to
DEC.
121
No.
8
Case Law
The Circuit Court of the City
of Norfolk
John E. Clarkson, Judge
Galloway Corporation v.
S.B. Ballard Construction
Co., et al., 250 Va. 493, 494
S.E.2d 349 (1995)
“Pay When
Paid”
Suggest
Time of
Payment
X
“Pay When
Paid” as
Condition
Precedent
Matter/Subject
Ambiguous
Contractual
Language
(Latent
Ambiguity in
the Contracts)
Judgment
- Paragraph 11.3 of Subcontract contains the
following pertinent language:
“The Contractor shall pay Subcontractor
each progress payment within three
working days after the Contractor receives
payment from the Owner…”
- The mere fact that terms of a contract are in
dispute is not evidence that the language is not
clear and explicit and requires extrinsic
evidence to aid in its construction. If the terms
of the parties’ agreement are contained in a
clear and explicit writing, that writing is the
sole memorial of the contract and the sole
evidence of the agreement.
- The court concludes that the phrases “after
the Contractor receives payment from the
Owner” and “has received payment from the
Owner” constitute latent ambiguities in the
contracts. That is, the phrases, while appearing
perfectly clear at the time the contracts were
formed, because of subsequently discovered or
developed facts, may reasonably be
interpreted in either of two ways.
- The court holds that in the absence of a
clear and unambiguous statement of the
122
No.
Case Law
“Pay When
Paid”
Suggest
Time of
Payment
“Pay When
Paid” as
Condition
Precedent
Matter/Subject
Judgment
parties’ intent as to the meaning of the time of
payment provision in a construction
subcontract, an absolute “pay when paid”
defense is available to a general contractor
only if it can establish by parol evidence that
the parties mutually intended the contract to
create such a defense
- - Supreme Court held that the phrase in the
subcontract only permitted Galloway to “delay
payment, but the contracts cannot be
construed to say that each subcontractor must
bear its own loss if Galloway never got paid
on its contract with the owner.”
9
Illinois Courts
A.A. Conte, Inc. v. CamphellLowrie-Lautermilch Corp.,
132 lll.App. 3d 325, 477
N.E.2d 30 (1st Dist. 1985).
X
Unambiguous
Contractual
Language
- In A.A. Conte, the general contractor and the
subcontractor entered into a written agreement
which stated that the subcontractor would be
paid “if payment … has been received by [the
general contractor] under its general contract
[with the owner].”
- The Illinois Appellate Court held that the
payment clause was an enforceable condition
precedent and that because the owner had not
paid the contractor, the subcontractor was no
entitled to payment from the general
123
No.
Case Law
“Pay When
Paid”
Suggest
Time of
Payment
“Pay When
Paid” as
Condition
Precedent
Matter/Subject
Judgment
contractor.
- The court held that payment clause did not
simply control when the subcontractor was
paid by the general contractor – it controlled
the subcontractor’s right to be paid under the
subcontractor’s right to be paid under the
subcontract. Based on the unambiguous
language in the subcontract, the court strictly
enforced plain language of the agreement,
stating that it “may not rewrite a contract to
suit one of the parties but must enforce the
term as written.”
- An unambiguous “pay-when-paid” clause
may block a subcontractor’s right to
recover in a breach of contract suit against
the general contractor
10
Brown & Kerr Inc. v. St.
Paul Fire & Marine
Insurance Co., 940 F.Supp.
1245, 1250 (N.D. lll. 1996)
X
“Pay-WhenPaid” Clause
Result in
“Significant
Forfeiture” to
the
Subcontractor.
- The subcontract at issue Brown & Kerr
stated:
“The final payment would be made by
the Contractor to the Subcontractor
when… the Contractor has received
final payment from the Customer under
Prime Contract.”
- The court declined to construe a “pay-when-
124
No.
Case Law
“Pay When
Paid”
Suggest
Time of
Payment
“Pay When
Paid” as
Condition
Precedent
Matter/Subject
Judgment
paid” clause as a valid condition precedent to
the subcontractor’s receipt of payment
because such a construction would result in a
“significant forfeiture” to the subcontractor
- The court concluded that the “pay-whenpaid” clause did not create a condition
precedent, but rather a timing provision
requiring the general contractor to pay the
subcontractor within a reasonable time.
11
Florida Supreme Court
OBS Company, Inc. v. Pace
Construction Company
X
Ambiguity
Existed When
the Subcontract
was Read in
Conjunction
with The
General
Contract
- Subcontract agreement that contained the
following language:
“… final payment, shall not become due
unless and until the following conditions
precedent to final payment have been
satisfied (c) receipt of final payment for
subcontractor’s work by contractor from
owner.”
- The court found that when the subcontract
was read in conjunction with the general
contract and its conditions, a sufficient
ambiguity existed which prevented the
general contractor from effectively shifting
the risk of the owner’s nonpayment to its
subcontractor. To its dismay, the general
125
No.
Case Law
“Pay When
Paid”
Suggest
Time of
Payment
“Pay When
Paid” as
Condition
Precedent
Matter/Subject
Judgment
contractor remained liable for the final
payments owed to its subcontractor.
- The Florida Supreme Court agreed to
examine when it accepted jurisdiction of OBS
v. Pace. In it analysis, the Florida Supreme
Court examined an earlier line of decisions. It
already had decided that “pay-when-paid”
clauses were going to be strictly construed
with any ambiguity resolved in favor of
unpaid subcontractor or supplier. In order to
shift the burden of nonpayment to the
subcontractor of supplier, the subcontract was
required to contain a “clear an unequivocal
expression” of that fact. The decision was
based on the ambiguity created by
incorporation of the prime contract into the
OBS subcontract. Pace had failed to meet
its burden of a clear and unequivocal “paywhen-paid” clause.
126
The summary above shows eleven (11) judgment for the application to the “pay
when paid” provisions in sub-contact and the principle laying behind that drove the judge
to come a judgment that the “pay when paid” provisions constitute time for payment and
waiving the subcontractor right to payment (condition precedent of payment by the owner
to the main contractor). Overall, the findings are found to be parallel with the literature
review which shows that the risk-shifting provisions are susceptible to only two possible
interpretations which are: if a provision is clear and unambiguous; it is interpreted as
setting a condition precedent to the general contractor’s obligation to pay. If a provision
is ambiguous, it is interpreted as fixing a reasonable time for the general contractor to
pay. In purported risk shifting, provision between a contractor and subcontractor, the
burden of clear expression is to the general contractor.
Instead of that, Judges from most of the cases cited that the wording of the
contractual language in the sub-contract is critical. The words may convey the “pay when
paid” as timing mechanism or such condition precedent. Unambiguously and sufficiently
clearly contractual language must have been used in order for a court to construe such a
clause imposed payment to the main contractor as condition precedent to the
subcontractor’s right to be paid, rather than limiting the time for payment. Once a judge
decides that provision is ambiguous there is nothing for the jury to decide or interpret.
In a nutshell there are eight (8) matters laying behind that drove the judge to come
a judgment that “pay when paid” provisions as timing mechanism or waiving the
subcontractor right to payment (condition precedent). The matters are as follows:
1. Contractual language (ambiguous or unambiguous);
2. The intention of the contractual parties;
3. Under the clause, the subcontractor assumption of the risk of nonpayment by
the owner to the contractor;
127
4. Compliance to the terms of the sub-contract, e.g. the subcontractor had carried
out its work satisfactorily according to terms of the sub-contract;
5. The general contractor caused the nonpayment by the employer;
6. Small subcontractor ordinarily would not assume the risk of the owner’s
failure to pay the general contractor;
7. “Pay when paid” clause result in significant forfeiture to the subcontractor;
and
8. Ambiguity existed when the sub-contract was read in conjunction with the
general contract.
Hence, the court suggest that “Contra Proferentum 160 ” principle would apply to
such clause and seeks to rely upon a clause to show that there was a condition precedent
before a liability arose at all should show that the clause relied upon no ambiguity. The
controlling factor as whether the “pay when paid” clause was conditional or
unconditional promise was the intention of the parties.
Any such agreement would have to make clear beyond doubt that the arrangement
was to be conditional and not to be merely governing the time of payment. Therefore,
failure of the contractor to express his intention unambiguously in the provision will lead
the contractor to make payment to the subcontractor in the event of nonpayment or
insolvency of the owner.
160
In general, if there is any genuine ambiguity in an exclusion contract (that is, if a contract provision is
subject to at least two varying reasonable interpretations), it will be strictly construed against the party who
drafted the contract.
128
5.3
Problem Encountered during Research
The major problem in writing up this project report is the insufficiently of time.
There is only 8 weeks’ time provided for this research. Everything needs to be done in
very fast manner, especially during the data collection process. Besides, it is lack of time
to refer more sources of literature review from others university.
5.4
Conclusion
As a conclusion for all, the court requires language of a more specific nature of
“pay when paid” provisions in construction sub-contract. Short of any precise terms, such
as “condition precedent”, the contractual language could not be construed as anything but
merely fixing the time for payment. The subcontractor may take the legal action to
challenge the enforceability of the clause to seek immediate payment when they have
suffering the risk of non-payment due to the performance problems unrelated to their own
work.
129
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McCarroll, B. (2006). The Construction Process from Start to Finish in Texas. Lorman
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Micheal L. Chapman, Payment Rights and Obligations.
http://www.chapmanfirm.com/payment.html
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133
APPENDIX A
Contingent Payment Clauses in the 50 States
Published by:
Foundation of the American Subcontractors Association, Inc.
1004 Duke Street
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Telephone: (888) 374-3133
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Copyright  2008 American Subcontractors Association, Inc. All rights reserved. No part of this
publication may be reproduced, stored in a retrieval system or transmitted in any form or by any
means, electronic, mechanical, photocopying, recording or otherwise, without obtaining prior
written permission from the copyright owner.
DISCLAIMER: This publication does not contain legal advice. Individual circumstances vary
widely, so readers should consult legal counsel before acting on the information provided herein.
Acknowledgments
We want to recognize the contributions of Kegler,
Brown, Hill & Ritter, LPA summer associate
Jeremiah Thomas to this publication.
About ASA and FASA
The American Subcontractors
Association amplifies the voice of
and leads trade contractors to
improve the business environment
for the construction industry and to serve as a
steward for the community. The ideals and beliefs
of ASA are ethical and equitable business
practices, quality construction, a safe and healthy
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The Foundation of the American
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ii
Preface
provisions. Additionally, a growing number
of states have enacted legislation that declares
such contractual provisions void and against
public policy.
A contingent payment clause is a contractual
provision that makes payment contingent
upon the happening of some event. In
construction subcontracts, the typical
contingent payment clause makes the
subcontractor's payment contingent upon the
payment of the contractor by the owner.
This article attempts to summarize the basic
stance of each of the fifty states with respect
these two types of contingent payment
clauses.
The following information is
displayed for all states that have applicable
law on this issue:
Contingent payment clauses take on one of
two forms in subcontract agreements. Some
clauses link the timing of the subcontractor's
payment to the time when payment is made
by the owner. These are called "pay-whenpaid" clauses. Other clauses specify that the
owner must pay the contractor in order for the
subcontractor to ever receive payment. These
provisions that shift entitlement to payment
are called "pay-if-paid" clauses. Even though
most states distinguish between the two types
of clauses, a few jurisdictions find that the
provisions have the same exact legal effect.
•
•
•
•
For over thirty years, most state courts have
held that contractors cannot indefinitely
withhold payment from subcontractors based
upon a "pay-when-paid" clause. Instead,
"pay-when-paid" clauses require a contractor
to pay its subcontractors within a "reasonable
time" of the completion of satisfactory work.
Whether a "pay-if-paid" clause will be
enforced in that state if it is
unambiguously drafted.
Whether the state distinguishes
between "pay-if-paid" and "pay-whenpaid" provisions.
Whether "pay-when-paid" clauses
allow a contractor in the state to only
delay payment to its subcontractors for
a reasonable time.
Key statutes and cases that describe
the states' positions on contingent
payment clauses.
This publication is designed as a summary of
the basic principles of state law, but is not a
comprehensive legal treatment of the law in
the states. This publication does not contain
legal
advice.
Because
individual
circumstances may vary widely, and because
state laws are constantly changing, readers
should consult their local attorneys for
specific advice.
In contrast, "pay-if-paid" clauses often allow
contractors to permanently withhold payment
from their subcontractors where the owner
has failed to pay the contractor. Because of
the harshness of such a provision, most states
only enforce "pay-if-paid" clauses if the
contract unambiguously expresses that the
parties intended for the subcontractor to only
be paid if the contractor is paid.
As states have moved toward protecting the
rights of subcontractors, some state courts
have decided not to enforce "pay-if-paid"
iii
CONTINGENT PAYMENT CLAUSES IN THE 50 STATES
Table of Contents
Acknowledgments ................................................................................................................. ii
Preface ...................................................................................................................................iii
States (and Washington, D.C.)
Alabama..................................................................................................................... 1
Alaska ........................................................................................................................ 1
Arizona ...................................................................................................................... 1
Arkansas .................................................................................................................... 1
California ................................................................................................................... 1
Colorado .................................................................................................................... 2
Connecticut ................................................................................................................ 2
Delaware .................................................................................................................... 2
District of Columbia .................................................................................................. 2
Florida........................................................................................................................ 3
Georgia....................................................................................................................... 3
Hawaii........................................................................................................................ 3
Idaho .......................................................................................................................... 4
Illinois ........................................................................................................................ 4
Indiana ....................................................................................................................... 4
Iowa ........................................................................................................................... 4
Kansas........................................................................................................................ 4
Kentucky.................................................................................................................... 5
Louisiana.................................................................................................................... 5
Maine ......................................................................................................................... 5
Maryland.................................................................................................................... 5
Massachusetts ............................................................................................................ 5
Michigan .................................................................................................................... 5
Minnesota .................................................................................................................. 6
Mississippi ................................................................................................................. 6
Missouri ..................................................................................................................... 6
Montana ..................................................................................................................... 6
Nebraska .................................................................................................................... 7
Nevada ....................................................................................................................... 7
New Hampshire ......................................................................................................... 7
New Jersey................................................................................................................. 7
New Mexico............................................................................................................... 7
New York ................................................................................................................... 8
North Carolina ........................................................................................................... 8
North Dakota ............................................................................................................. 8
Ohio ........................................................................................................................... 8
Oklahoma................................................................................................................... 9
Oregon ....................................................................................................................... 9
Pennsylvania .............................................................................................................. 9
iv
CONTINGENT PAYMENT CLAUSES IN THE 50 STATES
Rhode Island .............................................................................................................. 9
South Carolina ........................................................................................................... 9
South Dakota ............................................................................................................. 9
Tennessee ...................................................................................................................10
Texas ..........................................................................................................................10
Utah............................................................................................................................10
Vermont......................................................................................................................10
Virgin Islands.............................................................................................................10
Virginia ......................................................................................................................11
Washington ................................................................................................................11
West Virginia ........................................................................................................... . 11
Wisconsin................................................................................................................. . 12
Wyoming.................................................................................................................. . 12
v
CONTINGENT PAYMENT CLAUSES IN THE 50 STATES
State
"PAY
IF
PAID"
Enforced
If
Explicit
"PAY
WHEN
PAID"
And
"PAY
IF
PAID"
Treated
Same
"PAY
WHEN
PAID"
Suggests
Time for
Payment
STATUTORY
PROVISIONS
Ala. Code 8-29-2: All contracts
between parties must specify a date
of payment.
Alabama
X
Alaska
X
Arizona
X
Arkansas
California
X
Ark. Code Ann. § 22-9-205:
Recognizes the enforceability of a
"pay-when-paid" provision in a
public contract. It does not address
whether a "pay-when-paid" clause
would create a condition precedent
to the subcontractor's payment.
Pay-when-paid clause in the
subcontract did not create a
condition precedent to payment,
but that it was merely a timing
mechanism for payment. The
parties did not "clearly indicat[e]
that the subcontractor assumed
the risk of nonpayment." Fed. Ins.
Co. v. I. Kruger, Inc., 829 So. 2d
732, 741 (Ala. 2002)
The pay-when-paid clause is
enforced as creating a valid
condition precedent to payment
for the subcontract. Industrial
Indem. Co. v. Wick Constr. Co.,
680 P.2d 1100 (Alaska 1984).
"In order to create a condition
precedent [to the subcontractor's
payment], there must be
contractual language
demonstrating the parties'
unequivocal intent" that the
subcontractor will only be paid if
the contractor is paid. L. Harvey
Concrete v. Agro Constr. &
Supply Co., 189 Ariz. 178, 181
(Ariz. Ct. App. 1997)
A condition that sets out events to
happen before payment may be
construed to link the existence of
the debt to fulfillment of the
conditions. Brown v. Maryland
Casualty Co., 246 Ark. 1074,
1082 (Ark. 1969).
Cal Civ Code § 3262: Statute
preventing a waiver of lien rights
has been interpreted to also
prohibit "pay-if-paid" provisions
for the indirect effect on lien
rights.
Clause that required payment
"immediately on the completion
of the work" established a valid
condition precedent to payment.
Manuel v. Campbell, 3 Ark. 324
(1841).
California courts will not enforce
"pay-if-paid" clauses as they
unlawfully inhibit subcontractor's
mechanic's lien rights. William R.
Clark Corp. v. Safeco Ins. Co.,
938 P.2d 372 (Cal. 1997).
X
X
X
X
X
CASE LAW
1
CONTINGENT PAYMENT CLAUSES IN THE 50 STATES
State
Colorado
Connecticut
"PAY
IF
PAID"
Enforced
If
Explicit
"PAY
WHEN
PAID"
And
"PAY
IF
PAID"
Treated
Same
X
X
Conn. Gen. Stat. 158 (j):
Contractor cannot withhold
payment from a subcontractor
because of a dispute with another
contractor, subcontractor, or
vendor.
X
X
X
STATUTORY
PROVISIONS
X
Delaware
D.C.
"PAY
WHEN
PAID"
Suggests
Time for
Payment
X
Del. Code. Ann. tit. 6 § 3507 (e):
Makes void any clause in a
Subcontract that makes payment
by the owner a condition precedent
to the subcontractor's payment.
This statute does not apply to
public contracts.
CASE LAW
Pay-if-paid provisions must
unequivocally express the party's
intent to establish a condition
precedent to payment in order to
be enforceable. "[A] pay-whenpaid clause . . . is an
unconditional promise by the
general contractor to pay its
subcontractor even if the owner
becomes insolvent." Main Elec.,
Ltd. v. Printz Servs. Corp., 980
P.2d 522 (Colo. 1999).
Contract language that specifies
payment shall be made to the
subcontractor at the time it is
made to the contractor effectively
establishes a valid condition
precedent to payment. Star
Contracting Corp. v. Manway
Constr. Co., 337 A.2d 669 (Conn.
1973).
No cases have yet to interpret the
bounds of the statutory
prohibition of "pay-if-paid"
clauses. The statute was passed
in 2002.
"Pay-when-paid" provision
established a valid condition
precedent. Subcontractor still
prevailed in claim for damages as
the court imposed a duty on
contractor to attempt to recover
payment, and contractor had
settled with owner without
accounting for the subcontractor's
entitlement. Urban Masonry
Corp. v. N&N Contractors, Inc.,
676 A.2d 26 (D.C. 1996).
2
CONTINGENT PAYMENT CLAUSES IN THE 50 STATES
State
"PAY
IF
PAID"
Enforced
If
Explicit
Florida
X
Georgia
X
Hawaii
X
Idaho
X
"PAY
WHEN
PAID"
And
"PAY
IF
PAID"
Treated
Same
"PAY
WHEN
PAID"
Suggests
Time for
Payment
STATUTORY
PROVISIONS
X
X
HRS § 444-25: If payment is
contingent upon receipt of funds,
the contractor shall clearly state
this fact in the contractor's
solicitation of bids.
X
CASE LAW
"Risk-shifting provisions are
susceptible to only two possible
interpretations. If a provision is
clear and unambiguous, it is
interpreted as setting a condition
precedent to the general
contractor's obligation to pay. If a
provision is ambiguous, it is
interpreted as fixing a reasonable
time for the general contractor to
pay. In purported risk-shifting
provisions between a contractor
and subcontractor, the burden of
clear expression is on the general
contractor." DEC Electric, Inc. v.
Raphael Constr. Corp., 558 So.
2d 427, 429 (Fla. 1990).
A clause that says the
subcontractor only receives
money when the contractor is
itself paid will bar recovery by
the subcontractor until the
contractor is paid. United States
ex rel. McKenney's, Inc. v. Gov't
Tech. Servs., LLC, 531 F. Supp.
2d 1375, 1378 (N.D. Ga. 2008)
(citing St. Paul Fire & Marine
Ins. Co. v. Ga. Interstate Elec.
Co., 187 Ga. App. 579 (Ga. Ct.
App. 1988)).
There are no cases from courts
regarding this statute, but the
language of the statute appears to
contemplate the enforcement of a
contingent payment clause.
Contract terms setting the timing
of payment of subcontractor after
the payment of the prime
contractor creates a valid
condition precedent. Hoff Cos. v.
Danner, 822 P.2d 558 (Idaho
1991).
3
CONTINGENT PAYMENT CLAUSES IN THE 50 STATES
State
Illinois
Indiana
"PAY
IF
PAID"
Enforced
If
Explicit
X
X
"PAY
WHEN
PAID"
And
"PAY
IF
PAID"
Treated
Same
"PAY
WHEN
PAID"
Suggests
Time for
Payment
X
X
Iowa
X
X
Kansas
X
X
Kentucky
X
X
STATUTORY
PROVISIONS
770 Ill.Comp. Stat. 60/21: "Any
provision in a contract, agreement,
or understanding, when payment
from a contractor to a
subcontractor or supplier is
conditioned upon receipt of the
payment from any other party
including a private or public
owner, shall not be a defense by
the party responsible for payment
to a claim" if that party is other
than the contractor.
Burns Ind. Code Ann. § 32-28-318: An obligor's receipt of payment
from a third person may not:
(1) be a condition precedent to;
(2) limit; or
(3) be a defense to;
the provider's right to record or
foreclose a lien against the real
estate that was improved by the
provider's labor, material, or
equipment.
CASE LAW
Pay-when-paid language may
establish a condition precedent to
payment if the intent of the
parties was to create such a
condition. Premier Elec. Constr.
Co. v. American Nat'l Bank of
Chicago, 656 N.E. 2d 157 (Ill.
Ap. Ct. 1995).
Clause setting the time to pay
subcontractor after the last
payment received by the contractor
merely established a reasonable
time for payment and did not
create a condition precedent to
payment. Midland Eng. Co. v.
John A. Hall Constr. Co., 398 F.
Supp. 981 (N.D. Ind. 1975)
Clause setting a time for payment
after payment by the owner
establishes a reasonable time for
payment by the contractor to the
subcontractor. Grady v. S.E.
Gustafson Constr. Co., 103
N.W.2d 737 (Iowa 1960)
Clause setting a time for payment
after payment by the owner
establishes a reasonable time for
payment by the contractor to the
subcontractor. Shelley Electric,
Inc. v. United States Fidelity &
Guaranty Co., 1992 U.S. Dist.
LEXIS 16978 (D. Kan. Oct. 16,
1992).
Clause setting a time for payment
after payment by the owner
establishes a reasonable time for
payment by the contractor to the
subcontractor. A. L. Pickens Co.
v. Youngstown Sheet & Tube Co.,
650 F.2d 118, 120 (6th Cir. 1981)
4
CONTINGENT PAYMENT CLAUSES IN THE 50 STATES
State
Louisiana
"PAY
IF
PAID"
Enforced
If
Explicit
X
"PAY
WHEN
PAID"
And
"PAY
IF
PAID"
Treated
Same
"PAY
WHEN
PAID"
Suggests
Time for
Payment
STATUTORY
PROVISIONS
Pay when paid clause sets a
reasonable time for payment and
does not set a condition precedent
to payment of a subcontractor.
Southern States Masonry, Inc v.
J.A. Jones Constr. Co., 507 So.
2d 198 (La. 1987).
X
Maine
Maryland
X
X
Massachusetts
X
X
Michigan
X
X
CASE LAW
Md. REAL PROPERTY Code
Ann. § 9-113: Contingent
Payment clauses will not prevent
collection from other sources such
as a property owner or a
contractor's bond.
Properly worded "pay-if-paid"
clause will create a condition
precedent to the subcontractor's
payment. Imagine Constr., Inc. v.
Centex Landis Constr. Co., Inc.,
707 So. 2d 500 (La. App. 1998).
No cases or statutes concerning
contingent payment clauses.
In order to shift the risk of owner
non-payment to the subcontractor,
the subcontract must have an
express unambiguous provision
shifting that risk. Gilbane Bldg.
Co. v. Brisk Waterproofing Co.,
585 A.2d 248 (Md. 1991).
Pay when paid clause does not
create a condition precedent for
payment to subcontractor but
establishes reasonable time for
payment. Pay-if-paid clause
would create a condition
precedent if the language were
sufficiently clear. A.J. Wolfe Co.
v. Baltimore Contractors, Inc.,
244 N.E.2d 717 (Mass. 1969)
Language specifying that "receipt
of payments…being a condition
precedent to payments of the
subcontractor" enforced as a valid
"pay-if-paid" clause. Berkel &
Co. Contractors v. Christman
Co., 210 Mich App. 416 (1995).
5
CONTINGENT PAYMENT CLAUSES IN THE 50 STATES
State
Minnesota
"PAY
IF
PAID"
Enforced
If
Explicit
X
"PAY
WHEN
PAID"
And
"PAY
IF
PAID"
Treated
Same
"PAY
WHEN
PAID"
Suggests
Time for
Payment
STATUTORY
PROVISIONS
X
Minn. Stat. § 337.10 (3):
Provisions contained in, or
executed in connection with, a
building and construction contract
requiring a contractor,
subcontractor, or material supplier
to waive the right to a mechanics
lien or to a claim against a payment
bond before the person has been
paid for the labor or materials or
both that the person furnished are
void and unenforceable.
Mississippi
X
X
Missouri
X
X
Montana
Mo. Rev. Stat. § 429.005:"Pay if
paid" clauses will not provide
protection to land owners, as prepayment waivers of lien rights are
void as against public policy.
Mont. Code Ann. § 28-2-2103 (2)
(a): Within 7 days after a
contractor receives payment from
an owner, the contractor shall pay
the subcontractor.
CASE LAW
Conditions precedent are not
favored in the law and a contract
that does not explicitly create a
condition precedent will be
construed to merely establish a
reasonable time for payment.
Mrozik Constr., Inc. v. Lovering
Assoc., Inc., 461 N.W.2d 49
(Minn. Ct. App. 1990).
Conflicting payment language in
a contract will not allow
contractor to delay payment for
more than a reasonable time
following the completion of
subcontractor's work. Nicholas
Acoustics & Specialty Co. v. H.M.
Constr. Co., Inc., 695 F. 2d 839
(5th Cir. 1983) (applying
Mississippi law).
Even where the "pay if paid"
clause is itself unambiguous,
other seemingly contradictory
clauses in a contract can cause the
"pay if paid" clause to merely
establish a reasonable time for
payment. Meco Sys., Inc. v.
Dancing Bear Entertainment, 42
S.W.3d 794, 808 (Mo. Ct. App.
2001).
Montana courts have yet to
address this issue, but the strongly
written statutory language is
similar to that in states, such as
California, that have found "payif-paid" clauses unenforceable.
Mont. Code Ann. § 28-2-723: "A
construction contract may not
contain provisions requiring a
[party] to waive the right to a
construction lien or … payment
bond before the [party] has been
paid."
6
CONTINGENT PAYMENT CLAUSES IN THE 50 STATES
State
Nebraska
"PAY
IF
PAID"
Enforced
If
Explicit
X
Nevada
"PAY
WHEN
PAID"
Suggests
Time for
Payment
X
New Jersey
X
STATUTORY
PROVISIONS
X
X
New
Hampshire
New Mexico
"PAY
WHEN
PAID"
And
"PAY
IF
PAID"
Treated
Same
The Nevada Supreme Court
interprets Nev. Rev. Stat. Ann. §§
624.624-624.626 as making void
any contractual provision that
conditions payment to a
subcontractor upon the receipt of
payment by the prime contractor.
CASE LAW
Clause that does not
unambiguously create a condition
precedent for payment merely
establishes a reasonable time for
the contractor to pay the
subcontractor. D. K. Meyer Corp.
v. Bevco, Inc., 292 N.W.2d 773
(Neb. 1980).
Lien waiver and pay-if-paid
provisions are unenforceable
based upon Nevada's public
policy favoring the statutory right
to a mechanic's lien. Lehrer
McGovern Bovis, Inc. v. Bullock
Insulation, Inc., 2008 Nev.
LEXIS 46 (Nev. 2008)
Courts require specific language
such as "if" or "on the condition
that" to find that a contract
contains a condition precedent.
Holden Eng. and Surveying Inc.
v. Pembroke Rd. Realty Trust,
137 N.H. 393 (1993).
X
X
Contractor cannot withhold
payment from subcontractor
where contractor fails to seek
approval of subcontractor's work
from architect. D.M. Holden, Inc.
v. Contractors' Crane Service,
Inc. 121 N.H. 831 (1981).
Clause setting time for payment
to subcontractor after the
contractor received payment
merely establishes a reasonable
time for payment from the
contractor to the subcontractor.
Seal Title Corp. v. Ehret. Inc.,
589 F. Supp. 701 (D. N.J. 1984).
No court in New Mexico has yet
to address the issue of contingent
payment clauses.
7
CONTINGENT PAYMENT CLAUSES IN THE 50 STATES
State
"PAY
IF
PAID"
Enforced
If
Explicit
"PAY
WHEN
PAID"
And
"PAY
IF
PAID"
Treated
Same
New York
"PAY
WHEN
PAID"
Suggests
Time for
Payment
X
North
Carolina
X
STATUTORY
PROVISIONS
NY Lien Law § 34: Any
contractual provision waiving a
subcontractor's right to a lien
against a property is void. The
Court of Appeals has interpreted
these provisions to void all "pay if
paid" clauses in subcontracts.
N.C. Gen. Stat. § 22C-2: "Payment
by the owner to a contractor is not
a condition precedent for payment
to a subcontractor…and an
agreement to the contrary is
unenforceable."
N.C. Gen. Stat. § 22C-3: "The
contractor shall pay to his
subcontractor…within seven days
of receipt by the contractor…of
each periodic or final payment."
North Dakota
Ohio
X
X
Ohio Rev. Code § 4113.62(E):
"Pay if paid" contract provisions
will not prevent the subcontractor
from filing a mechanic's lien.
CASE LAW
Two sophisticated commercial
entities can overcome New York's
public policy against "pay if paid"
clauses by including a choice of
law clause that favors the law of a
jurisdiction that permits such
contingent payment clauses. (If
the contract was entered into
before the Prompt Payment Act's
prohibition of choice of law
clauses went into effect in 2003).
Welsbach Elec. Corp. v. MasTec
N. Am., Inc., 2006 NY Slip Op
8632, 1 (N.Y. 2006).
"Pay-when-paid" clauses, like
"pay-if-paid" clauses, are
unenforceable. Am. Nat'l Elec.
Corp. v. Poythress Commer.
Contrs., Inc., 167 N.C. App. 97,
101 (N.C. Ct. App. 2004).
North Dakota courts have yet to
address contingent payment
clauses.
"Pay when paid" clause of a
contract establishes a reasonable
time for payment but does not set
a condition precedent for payment
to a subcontractor. Chapman
Excavating Co. v. Fortney &
Weygandt, Inc., 2004 Ohio 3867
(2004) (following the rationale
from Thos. J. Dyer Co. v. Bishop
International Engineering Co.,
303 F.2d 655 (6th Cir. 1962)).
8
CONTINGENT PAYMENT CLAUSES IN THE 50 STATES
State
"PAY
IF
PAID"
Enforced
If
Explicit
"PAY
WHEN
PAID"
And
"PAY
IF
PAID"
Treated
Same
"PAY
WHEN
PAID"
Suggests
Time for
Payment
Oklahoma
X
X
Oregon
X
X
Pennsylvania
X
Rhode Island
X
South
Carolina
South Dakota
X
STATUTORY
PROVISIONS
Okla. Stat. tit. 61 § 224: "If a
subcontractor … has performed …
the prime contractor shall make
payment to the subcontractor … no
later than ten (10) calendar days
after the prime contractor receives
its corresponding payment for the
work performed."
Or. Rev. Stat. § 701.630: "The
original contractor shall pay to the
subcontractor …the full amount
received for such subcontractor's
work and for materials and
products supplied based on the
subcontract or purchase order
terms and conditions within seven
days of receipt by the original
contractor."
62 Pa. Cons. Stat. § 3933 (c): The
subcontractor shall be paid "the
full or proportional amount
received for each subcontractor's
work and material…14 days after
receipt of a progress payment."
X
S.C. Code Ann. § 29-6-230:
Owner payment to the contractor
cannot be a condition precedent to
the subcontractor's payment.
CASE LAW
Clause setting the time for
payment of a subcontractor after
the contractor has received
payment does not create a
condition precedent to payment.
It merely establishes a reasonable
time for payment from the
contractor to the subcontractor.
Byler v. Great American Ins. Co.
395 F.2d 273 (10th Cir. 1968)
(applying Oklahoma law).
Any intention to shift the risk of a
construction project from the
contractor to the subcontractor
must be evidenced by
unambiguous language. Language
that appears only to set a time for
payment will not be construed to
establish a condition precedent for
payment. Mignot v. Park Hill, 391
P.2d 755 (Oregon 1964).
If the intent of the parties is
unambiguous, a "pay-if-paid"
clause will establish a condition
precedent to payment. C.M.
Eichenlaub Co. v. Fid. & Deposit
Co., 437 A.2d 965 (Pa. Super. Ct.
1981).
When there is clear evidence that
the parties intended to establish a
condition precedent, no payment
must be made until that condition
has been satisfied. Rotelli v.
Catanzaro, 686 A. 2d 91 (R.I.
1996).
Clause setting the time for
payment of a subcontractor after
the contractor has received
payment merely establishes a
reasonable time for payment from
the contractor to the
subcontractor. Elk & Jacobs
Drywall v. Town Contractors,
Inc., 229 S.E.2d 260 (1976).
South Dakota courts have yet to
address contingent payment
clauses.
9
CONTINGENT PAYMENT CLAUSES IN THE 50 STATES
State
"PAY
IF
PAID"
Enforced
If
Explicit
"PAY
WHEN
PAID"
And
"PAY
IF
PAID"
Treated
Same
"PAY
WHEN
PAID"
Suggests
Time for
Payment
Tennessee
X
X
Texas
X
X
Utah
Vermont
Virgin Islands
X
X
X
STATUTORY
PROVISIONS
Utah Code Ann. § 13-8-4 (3)(a):
The existence of a contingent
payment contract is not a defense
to a claim to enforce a mechanics'
lien filed under Title 38, Chapter 1,
Mechanics' Liens.
Vt. Stat. tit. 9 § 4003:
"Notwithstanding any contrary
agreement, when a subcontractor
has performed in accordance with
the provisions of its contract, a
contractor shall pay to the
subcontractor…the full or
proportional amount…seven days
after receipt of each progress or
final payment or seven days after
receipt of the subcontractor's
invoice, whichever is later."
V.I. CODE ANN. tit. 28, §§ 251 270: Courts in the Virgin Islands
have interpreted the construction
lien law in that district to preclude
any contractual defense in actions
to recover payment for completed
work.
CASE LAW
Clause setting the time for
payment of a subcontractor after
the contractor has received
payment does not create a
condition precedent to payment.
It merely establishes a reasonable
time for payment from the
contractor to the subcontractor.
Koch v. Construction Tech., 924
S.W.2d 68 (Tenn. 1996).
Clause reading "contractor will
pay [for work for which] payment
has been made by the owner]
does not establish a condition
precedent to payment. Sheldon L.
Pollack Corp. v. Falcon
Industries, Inc., 794 S.W.2d 380,
383 (Tex. App. Corpus Christi
1990).
"Pay when paid" provisions do
not create conditions precedent to
the payment of subcontractors.
Zions First Nat'l Bank v.
Christiansen Bros., Inc., 66 F.3d
1560 (10th Cir. 1995).
Vermont courts have not yet
interpreted the prompt payment
statute. It is unclear whether a
"pay-if-paid" clause would be
enforced in the state.
When a subcontract includes a
clause that makes payment to the
subcontractor contingent upon
payment by the owner to the
contractor, that clause is void and
against the public policy
enumerated in Construction Lien
Law. Shearman & Assocs. v.
Continental Cas. Co., 901 F.
Supp. 199.
10
CONTINGENT PAYMENT CLAUSES IN THE 50 STATES
State
"PAY
IF
PAID"
Enforced
If
Explicit
"PAY
WHEN
PAID"
And
"PAY
IF
PAID"
Treated
Same
"PAY
WHEN
PAID"
Suggests
Time for
Payment
Virginia
X
X
Washington
X
X
West Virginia
X
STATUTORY
PROVISIONS
CASE LAW
In the absence of evidence of
contrary intent, a "pay when paid"
provision will be treated to only
establish a reasonable time for
payment from the contractor to
the subcontractor, and not to
create a condition precedent to
payment. James River Iron, Inc.
v. Turner Constr. Co., 2004 Va.
Cir. LEXIS 230 (Va. Cir. Ct.
Sept. 30, 2004).
Contract specifying that the
subcontractor would receive
payment only "to the extent that
the Contractor has received
payment" did not create a
condition precedent to the
subcontractor's payment. It
simply established a reasonable
time in which the subcontractor
could be paid. Amelco Elec. v.
Donald M. Drake Co., 20 Wn.
App. 899 (Wash. Ct. App. 1978).
"Pay if paid" provisions in a
subcontract will not only insulate
the contractor from liability to the
subcontractor if the contractor is
not paid, but the provision will
also protect the contractor's
surety. Wellington Power Corp.
v. CNA Sur. Corp., 217 W. Va.
33, 41 (W. Va. 2005).
11
CONTINGENT PAYMENT CLAUSES IN THE 50 STATES
State
Wisconsin
Wyoming
"PAY
IF
PAID"
Enforced
If
Explicit
"PAY
WHEN
PAID"
And
"PAY
IF
PAID"
Treated
Same
"PAY
WHEN
PAID"
Suggests
Time for
Payment
X
STATUTORY
PROVISIONS
Wis. Stat. § 779.135: "The
following provisions in contracts
for the improvement of land in this
state are void:
(1) Provisions requiring any person
entitled to a construction lien to
waive his or her right to a
construction lien…before he or she
has been paid for the labor.
(2) Provisions making the contract
subject to the laws of another state
or requiring that any litigation,
arbitration or other dispute
resolution process on the contract
occur in another state.
(3) Provisions making a payment
to a prime contractor…a condition
precedent to a prime contractors
payment to a subcontractor. This
subsection does not prohibit
contract provisions that may delay
a payment to a subcontractor until
the prime contractor receives
payment."
Wyo. Stat. § 16-6-602: For a
public contract, contractors must
be paid within 45 days of the
receipt of the invoice.
CASE LAW
A "pay when paid" provision will
not provide a defense to a
contractor in a suit with a
subcontractor once the contractor
has been paid, at least in part.
Marino Constr. Co. v. Renner
Architects, 214 Wis. 2d 589 (Wis.
Ct. App. 1997).
Wyoming courts have not
addressed whether contingent
payment clauses are enforceable.
12