Payment in the construction industry has been a hot-topic for many years with many disputes arising from a party’s failute to issue a pay less notice.

Whether it’s payment between Employer and Main Contractor, or among Main Contractors and Subcontractors, the chance of a dispute remains higher in construction than it does in most industries.

Adequate payment mechanism

The typical contracts to which the Housing Grants, Construction and Regeneration Act 1996 (as amended) (“Construction Act”) applies are building and engineering contracts, the appointments of architects, engineers and other construction professionals, and development agreements which do not also transfer a major interest in land.

In broad overview, the following provisions are required:

Pursuant to the Construction Act, an “adequate payment mechanism” must form part of all construction contracts if the work is specified, or estimated to take, more than 45 days. Such a payment regime must set out a process for determining when and what payments become due and provide for a final date for payment.

  • there must be a “due date” for each payment (Due Date);
  • there must be a “final date” for each payment (Final Date for Payment);
  • the contract must require a “payment notice” (Payment Notice) to be given within 5 days of the Due Date, stating what is to be paid and the basis on which it is calculated – this can be a duty of the payer or the payee;
  • if the payer is to serve the Payment Notice and fails to do so, then the payee can serve a default payment notice, or if the payee’s application for payment set out the amount claimed and the basis on which it was calculated then the payee’s application for payment (e.g. an invoice) can automatically be deemed to be the default payment notice;
  • if the payer changes his mind or disagrees with a Payment Notice or a default payment notice served or deemed served by the payee, he must serve a “pay less” notice (Pay Less Notice), setting out what he proposes to pay and the basis on which it is calculated, a given number of days before the final date for payment – if he fails to do so then the sum stated in the payment notice is payable on the Final Date for Payment, regardless of whether that payment notice was right or wrong on its merits;
  • payment cannot be made conditional on someone giving a notice to the payee about what payments are due (e.g. a certificate from the project manager, who will of course be working for the payer);
  • “pay when paid” clauses are generally banned.

If any notified sum passes its final date without a Pay Less Notice being served in respect of it in time, the payee can go to the courts for summary judgment and/or to adjudication to get a decision within 28 days (which the court will enforce summarily) for payment of the notified sum.

The payee can also serve a 7 day notice and suspend all further work (section 112 of the Construction Act, which I will detail in a subsequent article).

Default position

The Scheme for Construction Contracts 1998 provides a fall-back position where a construction contract does not include the necessary payment provisions (that is, sections 109, 110 and 111) of the Construction Act. Its provisions take effect as implied terms.

If a construction contract:

  • Does not contain any payment rules, all of the payment provisions of the Scheme for Construction Contracts 1998 are implied into the contract.
  • Complies in part with the payment provisions of the Scheme for Construction Contracts 1998, then:
    • those payment provisions that comply with the Construction Act will continue to take effect;
    • any missing payment provisions are implied into the contract by the Scheme for Construction Contracts 1998; and
    • any non-compliant payment provisions are replaced by the relevant payment provisions in the Scheme for Construction Contracts 1998.
  • Contains a pay-when-paid clause, then that clause is ineffective and (unless the parties have agreed other terms of payment) all the payment provisions are replaced by the payment provisions in the Scheme for Construction Contracts 1998 (see Section 113: no pay-when-paid, except for insolvency).

So, what is a Pay Less Notice?

The issuance of a Pay Less Notice is something which can lead to disputes and commercial friction.

A Pay Less Notice is a written notification from the payer to the payee of the payer’s intention to pay less than the value stated in either their previous Payment Notice and/or the payee’s application (section 111 of the Construction Act).

A Pay Less Notice must be given even where the payer considers the sum due to be zero.

In other words, a Pay Less Notice is an opportunity for the payer to pay less than the notified sum (the sum detailed in the Payment Notice).

Unless the contract states otherwise, the default position, in paragraph 10 of Part II of the Scheme for Construction Contracts 1998, is that the deadline is seven days before the Final Date for Payment.

Like a Payment Notice, a Pay Less Notice must specify the amount considered to be due at the date the notice is given and the basis of the calculation.

Adam Architecture Ltd v Halsbury Homes Ltd [2017] EWCA Civ 1735 provides useful clarification that section 111 of the Construction Act and the requirement to serve a Pay Less Notice applies to interim and final payments as well as payments due following completion or termination of a contract.

What does a Pay Less Notice look like?

A Pay Less Notice can come in many forms depending on the templates used by the company issuing it.

However, the Construction Act do require that any Pay Less Notice meets certain minimum criteria:

A Pay Less Notice shall specify both the sum considered to be due at the date the notice is given and the basis on which that sum has been calculated.

It is important to check whether the contract contains any further requirements in relation to pay less notices, for example whether a particular form of notice must be used and/or whether notices must be sent in a particular manner or to a particular address.

What constitutes a valid Pay Less Notice?

Failure to provide the appropriate level of detail can result in a Pay Less Notice being considered null and void in adjudications and the Courts and therefore, it’s imperative that all notices follow certain minimum requirements.

For a Pay Less Notice to be a valid notice it must:

  • be issued within the specified time before the final date for payment and,
  • must provide the basis of calculation, which can be by reference to other specific documents already issued, and must show an actual amount to be paid, even if the amount is zero.

If it is not issued on time and in compliance with the contract and the relevant legislation, then the last notified sum (i.e. the Payment Notice) is the amount to be paid.

Other elements of a valid Pay Less Notice are:

Title

If the notice is sent by covering email or letter, the covering email/letter should draw the recipient’s attention to the fact that the attachment is a pay less notice sent under the Construction Act, section 111.

Case law has confirmed the importance of the recipient of a statutory pay less notice being able to recognise it as such (see, for example, Surrey and Sussex NHS Trust v Logan [2017] EWHC 17 (TCC)).

Reference

The reference should make it clear to which project and contract the notice relates.

Address for service

Ensure that the notice is served on the address for service specified in the contract, and that it is sent in accordance with permitted methods of service.

Identify payment notice/payment application

The Pay Less Notice notifies the payee of the payer’s intention to pay less than the notified sum (being the sum stated in the relevant payment notice), and it is therefore important to clearly identify the relevant payment notice.

Where the payer (or specified person) was required to give a Payment Notice, but failed to do so, the payee’s payment application will take effect as a payment notice if one was given in accordance with the contract before the deadline for the payer’s payment notice.

Alternatively, the payee may have served a payment notice in default under the Construction Act, section 110B.

Amount due and the basis for calculation

A Pay Less Notice must comply with section 111(4) of the Construction Act, meaning that it must state the sum that the payer considers to be due on the date that the notice is served, and the basis on which that sum has been calculated.

Note that a Pay Less Notice must state the sum considered due by the payer, not the specified person.

As noted above, a payment notice must be given even where the payer considers the sum due to be zero.

The requirement to state the basis of the calculation does not expressly mean that the payer/specified party has to give ‘grounds’ as under the old system of withholding, but in principle part of the calculation means identifying the reason why less is being paid and it would be sensible therefore to give grounds.

Ensure that this information is set out clearly to avoid a dispute as to the validity of the notice.

Attach the relevant calculations by way of a schedule where necessary.

How can you fail to serve a Payment Notice or Payless Notice?

There are a number of ways that a payer can fail to serve a Payment Notice or Payless Notice:

  • The payer does not serve a valid notice (i.e. the payer does not specify the amount considered to be due and/or the basis of the calculation);
  • The payer does not serve a timely notice (i.e. the payer does not comply with the aforementioned deadlines);
  • The payer simply chooses to not serve a notice.

What are the consequences of failing to serve a Payment Notice?

If the payer fails to issue a Payment Notice then:

  • If the contract expressly provides for the giving of a Payment Application and a valid Payment Application has been submitted then the amount stated in the Payment Application becomes the Notified Sum and the payer is required to pay the amount stated in the Payment Application, provided that a valid Payless Notice is not issued;
  • If the contract does not expressly provide for the giving of a Payment Application, but the payee has issued a Default Payment Notice as soon as the payer defaults, then the payer is required to pay the amount stated in the Default Payment Notice, provided that a valid Payless Notice is not issued;
  • If the payer fails to issue a Payment Notice, but issues a valid Payless Notice, then the payer is required to pay the amount stated in the Payless Notice which will be the sum less than the Notified sum.

To summarise, the payer’s failure to serve a valid Pay Less Notice will result in the payer being obliged to pay the whole sum stated in the payee’s payment application (which will be deemed a default payment notice).

Even if the payer has evidence of discussions or correspondence with the payee disputing the amount applied for, this will not obviate the requirement to pay.

If employers believe final payments and those applied for after completion or termination of the works are not due, they must serve a pay less notice.

Failure to do so will mean the sum becomes payable in full and, if it is not paid, the contractor will likely obtain an adjudication decision in its favour ordering payment.

“Smash and grab” adjudication

If the payer fails to issue a Payment Notice/Pay Less Notice, then the payee can commence a so called “smash and grab” adjudications.

The so called “smash and grab” adjudication is one where payment is claimed under a construction contract in the absence of any Payment Notice or Pay Less Notice.

In such circumstances, the amount claimed by the payee in any application for payment will have become the “notified sum” in accordance with section 111 of the Construction Act.

The payer is obliged to pay the “notified sum”, whether or not that sum was an accurate reflection of the value of work performed.

Some might argue that the TCC decision in Grove Developments Ltd v S&T (UK) Ltd [2018] EWHC 123 (TCC) saw the demise of the “smash and grab” adjudication. In that case, Mr Justice Coulson (as he then was) set out a clear judgement in favour of the paying party being entitled to adjudicate on the true value of an application, even in the absence of a valid payment notice or pay less notice.

What remained somewhat open for discussion, was the point at which the paying party was entitled to commence that adjudication.

However, in the subsequent hearing of the case of case of Grove v S&T before the Court of Appeal, Lord Justice Jackson’s judgement was decisive: the entitlement of a paying party to commence adjudication proceedings arises only after payment of the original notified sum.

This decision has significant implications for the practice of adjudication in the UK construction industry and will likely require further examination in future cases.

Practical tips

It is crucial that employers protect themselves from the risks of having to overpay by ensuring that valid Pay Less Notices are served on time and in accordance with the provisions of the relevant contract or the implied statutory provisions where applicable.

If you are an employer and you are concerned about Pay Less Notices:

  • Check the wording and requirements of your construction contracts and that they are compliant with the Construction Act. Ensure that all payment procedures required under the contracts are followed including the timely service of valid pay less notices.
  • If the payment provisions in your construction contracts are insufficiently detailed or otherwise do not adequately cover the statutory requirements, refer to the implied statutory provisions in the Scheme for Construction Contracts.
  • Do not allow disagreements and arguments with a contractor over an amount claimed to act as a distraction from, or substitute for, the requirement to serve a Pay Less Notice.
  • Consider using template Pay Less Notices (scroll down for a suggested template) for each interim/payment application.
  • Diarise reminders for the relevant time limits that apply to the payment procedure.
  • Keep records of communications with contractors.

Conclusion

Payment is the single biggest cause of disputes between parties in construction.

It’s vital that both parties to a contract understand how the payment mechanism works and the dates by which they must make a Payment Application and provide Pay Less Notice by.

Clarify this in detail during the tender stage negotiations and adopt an open approach to the application for payment process.

If in doubt seek legal advice.

Template Pay Less Notice

It is important to ensure that any notice a party intends to serve complies with the terms of its construction contract.

Therefore, DO NOT USE this template without first checking those terms.

TEMPLATE: Notice of payer’s intention to pay less than the notified sum

Reference: [insert appropriate reference to the contract and project]

Date: [insert date]

To: [insert recipient’s name]

Payment due date: [insert the relevant due date of the payment, determined in accordance with the contract]

Date of [payment notice OR [sub-]contractor’s payment application]: [insert date of relevant payment notice/payment application]

[Payment notice OR Payment application] reference: [insert reference number]

This Notice is given pursuant to section 111 of the Housing Grants, Construction and Regeneration Act 1996 and clause(s) [insert clause number(s)] of the contract dated [insert date].

We refer to the above [payment notice OR payment application] and notify you of [our OR [insert payer’s name]] intention to pay less than the notified sum set out in the [payment notice OR payment application].

The sum that [we OR insert payer’s name] consider to be due at the date on which this Notice is served is [insert sum (being A–B as calculated below)]. This is calculated on the following basis:

    £
A Notified sum [£A]
     
     
B Deductions  
i [State ground for each deduction] [X]
ii [State ground for each deduction] [X]
iii [State ground for each deduction] [X]
iv [State ground for each deduction] [X]
v [State ground for each deduction] [X]  
vi Total [£B]  
Signed: [……………………………………………….]  
For and on behalf of: [insert payer name]  
 

For further information or to discuss a matter please contact me.

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This content is provided free of charge for information purposes only. It does not constitute legal advice and should not be relied on as such. No responsibility for the accuracy and/or correctness of the information and commentary set out in the article, or for any consequences of relying on it, is assumed or accepted by Adriana Badescu.

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