In a recent mediation, I commented that the two most important terms in a construction contract are (1) scope and (2) price.  I should have added a third – terms and timing of payment.  A contractor that cannot get paid and manage cash flow will not be around too long.

When a client asks me to review a subcontract for them, I am always amazed how hardly any of them have questions on the payment timing clauses.  Most construction subcontracts employ some form of payment timing mechanism which usually falls into one of two categories.  One type states that payment is due to a subcontractor within a certain number of days after a contractor receives payment from the owner (a pay-when-paid clause).  The other type states that  a contractor’s receipt of payment from the owner is a strict condition precedent on payment to a subcontractor (a pay-if-paid clause).

The differences in the language used in a pay-when-paid verse a pay-if-paid clauses are often subtle .  However, these subtleties dramatically alter the terms of payment. Pay-when-paid clauses merely create a time period for releasing payment to a subcontractor once a contractor is itself paid.  Conversely, pay-if-paid clauses actually shift the risk of non-payment by an owner from the contractor to the subcontractor.

A recent decision from the Third Circuit, Sloane v. Liberty Mutual Ins., highlights how these nusiances in contract language can play out in a construction contract payment dispute.  (For a complete breakdown of the decision, check out Jennifer Horn’s blog post over at Construction Law Signal.)  In Sloane, the contract in question contained the following contract provision:

“Final payment shall be made within thirty (30) days after the last of the following to occur, the occurrence of all of which shall be conditions precedent to such final payment… [contractor] shall have received final payment from [owner]  for [subcontractor’s] Work” (emphasis added)”

The Circuit Court held that this language unequivocally created a “pay-if-paid” clause which conditioned payment to the subcontractor on the contractor having first received payment from the owner.  The Third Circuit’s decision in Sloane tracks decisions from the New Jersey District Court and New Jersey Superior Court last year concerning pay-when-paid clauses and which I wrote about on my old blog.

I see two takeaways from all of these decisions.

  1. Yes, a contractor or higher tier subcontractor can “shift the risk” of non-payment from the owner (or higher tier contractor) to you.
  2. Courts have now given us clear guidance on what will be considered a “pay-when-paid” clause v. a “pay-if-paid” clause and subcontractors need to pay close attention to the language a subcontract uses concerning when payment is made (it is suffice to say if it contains language saying receipt of payment is a “condition precedent” then it is the more draconian “pay-if-paid” clause.)

Just remember what is the point of negotiating price and scope if you can’t get paid?  So, next time, take ten extra minutes looking at the payment timing clauses in your subcontracts, otherwise you could end up the topic of a future blog post.


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