Subcontractors often find themselves navigating risky terms in construction contracts. Among the myriad clauses that can affect their bottom line, “Pay-if-Paid” provisions stand out as particularly risky. These provisions essentially allow the general contractor (GC) to shift the burden of payment uncertainty onto subcontractors, conditioning payment on the GC’s receiving payment from the property owner.
Here’s why this arrangement can spell trouble:
Disproportionate Risk Transfer
Pay-if-Paid clauses transfer the financial risks associated with project payment from the GC to the subcontractor. This can mean that if the GC does not get paid, the subcontractor does not get paid and has no right to claim against the GC for the deficiency. Although the subcontractor may still be able to claim a lien, or pursue the property owner directly, forfeiting the right to claim against the GC is a significant risk. For example, the property owner may have valid defenses to payment, such as GC delays or construction defects. Therefore, forfeiting the right to claim against the GC is a significant concession.
Exposure to Payment Delays Beyond Control
Florida’s construction projects are no stranger to payment delays caused by a variety of factors outside a subcontractor’s control. For example, a plumbing subcontractor may perform it’s job perfectly, but the GC’s framer may get behind schedule, resulting in a dispute between the owner and GC. In this circumstances, the owner may withhold payment from the GC or even financially penalize the GC. Although the plumber performed its job perfectly, a Pay-if-Paid provision may allow the GC to withhold payment until the payment dispute with the owner is resolved. This, of course, is inherently unfair to the plumber who is not at fault.
Exposure to Risk of Property Owner’s Default
In some cases, the GC and all subcontractors may perform perfectly. However, the owner might still encounter financial difficulties outside the contractors’ control. For example, the owner might become insolvent, or declare bankruptcy, during the course of the project. In this scenario, the Pay-if-Paid provision could still force the subcontractor to pursue the bankrupt owner, rather than the GC, even when recovering from the owner would be like “getting blood from a stone.”
Although the subcontractor should still be able to claim a lien, litigation against the insolvent owner, and foreclosure, could take years to resolve. Whereas, if the GC was personally responsible to the subcontractor for payment, the issue might be resolved much sooner.
Recommendations for Pay-if-Paid Provisions
Subcontractors who are faced with a Pay-if-Paid provision in a construction contract should be diligent in their negotiations. First, subcontractors are typically within their rights to request the clause be removed altogether. Second, if the GC will not accommodate this request, subcontractors could request the clause be converted to a Pay-when-Paid provision. The latter condition typically only allows the GC to withhold payment until the GC is paid, or for a reasonable time period, whichever is shorter.
Finally, if the GC will not accommodate either request, the subcontractor should seek to limit the scope of the Pay-if-Paid provision. For example, the subcontractor could limit the clause to state that the GC is only allowed to withhold payment to the extent caused by the subcontractor’s breach of contract, delay, or negligence. If the GC will not consider any of these options, the subcontractor should consider whether the financial risk involved is worth taking on the project.
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