Payments in the construction industry

Practical Construction Law for Practitioners- Payments

Chan Kheng Hoe

Topics Covered

● Must retention sum be in separate account?

● Can sub-contract provide for back-to-back payments?

● Can contractor suspend, go slow or terminate due to non-payment?

● Difference between interim, penultimate and final certs?

● Can certificates be revised?

● Can sub-con claim direct payment?

Retention Monies- must it be in a separate account? (1)

For discussion

Why is this question important?


Why is this question important?

● Most contracts provide for retention sum (usually 5%)

● Usually released in 2 moiety

○ 1st moiety upon CPC

○ 2nd moiety upon CMGD

● If not set aside in separate account:

○ Employer may utilise monies for its own purposes

○ Monies at risk if employer enters into liquidation before full release

○ Employer may be indebted to other creditors whose claim may affect the monies held


Contractually:

● PAM

○ Employer has fiduciary duty as trustee of money to Contractor

○ Contractor’s beneficial interest subject to deductions certified by Architect

○ Contractor can demand for monies to be held in trust account at its cost

● CIDB

○ Same provisions but requires separate bank account - interest belongs to Employer

● JKR

○ No retention sum - use of performance bond instead

For discussion:

● Even though PAM provides for contractors to demand for monies to be held in trust account, it is extremely rare for contractors to do so. Why do you think that is so?


Case Law: Qimonda Malaysia Sdn Bhd (in liquidation) v Sediabena Sdn Bhd & Anor [2012] 3 MLJ 422, CA

Facts:

● Employer voluntarily wound up

● Did not release in excess of RM6m of retention sum to contractor & sub-con

● Contractor sought declaration retention monies were held in trust

Employer’s Arguments:

● Contract does not provide for a trust

● Retention sum not set aside in separate account (no request by Contractor either)

● Contractor filed proof of debt as creditor- claim as trust money would be preferential treatment of Contractor as a creditor

● So, how would you argue against the Employer in this case?



Contractor’s Arguments:

● Retention monies, by nature, are trust monies

● Express clause not a precondition of trust- can be by operation of law

● Employer is fiduciary to the trust

● No issue of preferential treatment because retention monies do not belong to Employer in the first place

● Filing of proof of debt as an estoppel is an afterthought and non-issue, and is without prejudice to Contractor’s claim for retention sum as trust money

So, how would you decide if you were the panel?



Held by the Court:

● Property in retention sum resides with Contractor and is held by Employer in trust

● Retention Sum already earned by Contractor for works already done- mere provision for making good defects. Even if mixed in common fund, is traceable

● No requirement to be held in separate account or Contractor must make such request. Contractor may not want to jeopardise relationship/applied its mind

● Failure to separate monies cannot defeat the trust. Release or preservation of monies after liquidation is not preferential treatment because monies do not belong to Employer

● Allowing retention to be part of general funds would unjustly enrich other creditors

Back to Back Payments (1)

Commonly known as:

● Back-to-back

● Pay when paid

● Pay if paid


Not so much an issue any longer.

Section 35(1) CIPAA

● Renders conditional payment provisions void

For discussion:

● Are conditional payment clauses in construction contracts entered into prior to CIPAA void?

● Wouldn’t a retrospective application of CIPAA be an interference with vested interests/rights?


Case Law: UDA Holdings Bhd v Bisraya Construction Sdn Bhd & Anor and another case [2015] 11 MLJ 499, HC

Central Issue: Whether CIPAA applies to payment disputes and their underlying contracts which arose before the coming into force of CIPAA

Important Consideration:

● CIPAA not only introduces adjudication but also affects substantive rights, including:

○ Right of Contractor to suspend works

○ Right of Contractor to demand direct payment from principal

○ Prohibition of conditional payments

○ Stipulating default time and rates for payment


Case Law: UDA Holdings Bhd v Bisraya Construction Sdn Bhd & Anor and another case [2015] 11 MLJ 499, HC

Held by Court:

● “Substantive rights” are not vested by written law but merely in contracts

● Rights not accrued, vested or acquired save for pending liti/ arb preserved under s41

● CIPAA as new procedural legislation introduces new forum, and no vested rights under law affected, so can apply retrospectively

● Section 35 CIPAA is merely declaratory in nature

● In any case, if conditional payment defence is allowed, it would defeat CIPAA

Right of Contractor to Suspend, Go Slow and Terminate (1)

For Discussion

Based on general principles of law, do you think that a contractor has the right to suspend works, go slow on works, or even terminate the contract for failure of the Employer to make timely progress payments?


100% Safe Approach

Section 29 CIPAA

● Contractor may suspend works or reduce rate of progress after 14 days’ notice if adjudicated sum is not paid

● When he does so, the Contractor:

○ Is not in breach of contract

○ Is entitled to reasonable EOT

○ Is entitled to recover loss and expenses

○ Must resume work within 10 working days after being paid


Outside the scope of CIPAA, the Contractor would have to rely on contractual provisions or common law principles

For example, PAM:

● Failure to pay certified sums allows Contractor to suspend works after 14 days’ notice

● Contractor may also terminate the contract for failure to pay certified sums or obstruction from issuance of certificates by Employer

● Note: Going slow is not provided in all contracts. If not provided, it would seem a riskier approach because time continues to run leading to potential issues with delay/LAD


Case Law: Kah Seng Construction Sdn Bhd v Selsin Development Sdn Bhd [1997] 1 CLJ Supp 448, HC

Facts:

● There was no formal contract

● Contractor made claims progressively and certificates were issued

● On basis of estimated costs for defective works and LAD, Employer withheld payment of later certificates

● Contractor suspended works and sued for payment. Employer counterclaimed for damages.

So how would you decide if you were the judge in this case?


Case Law: Kah Seng Construction Sdn Bhd v Selsin Development Sdn Bhd [1997] 1 CLJ Supp 448, HC

Held:

● Contractor can elect to terminate if there is repudiatory breach by Employer or to affirm the contract and proceed with works

● There is no intermediate right to suspend works

● Any suspension becomes a repudiatory breach by the Contractor

In Conclusion, how would you advise a Contractor client who wants to suspend works for non-payment?

Interim, Penultimate and Final Certs (1)

Interim certificates:

● Issued progressively to estimate amount and value of work carried out and payment due to Contractor

Penultimate certificate:

● Issued after completion and before final certificate- usually after CPC to facilitate release of retention sums

Final certificate:

● Issued at end of contract period to verify final amount due (after CMGD)

The effect and conclusiveness of the certificate largely depends on the contractual terms, but even a “conclusive” certificate may be reviewed by an arbitrator or challenged before a judge.


Example of Contractual Term in PAM:

● Final Certificates are conclusive with regard to the final value of the works carried out

● But not conclusive that any work, materials, goods and designs are in accordance with the Contract


Case Law: Shen Yuen Pai v Dato Wee Hood Teck & Ors [1976] 1 MLJ 16

● This case discussed, inter alia, the position of the Architect’s Final Certificate

Held by Court:

● Architect is owner’s agent to give instructions for works

● But for issuing certificates, Architect is independent authority

● Architect owes duty of care not to issue final certificate unless satisfied with work. Once issued, final cert is conclusive

● Form of cert depends on contract terms. If no form is prescribed, Architect can determine the form.


c.f. Thamesa Designs Sdn Bhd & Ors v Kuching Hotels Sdn Bhd [1993] 3 MLJ 25, SC

Held:

Employer handed over site late to contractor

Employer therefore not entitled to LAD

Certificate of final payment issued by consultant authorizing deduction of LAD is invalid and not binding on parties

LAD which was deducted from retention fund must be restored

Note: Article by Vinayak Pradhan questions case- Shen Yuen Pai not brought to Court’s attention

Revision of certificates (1)

PAM:

● Architect cannot revise payment certificates except for clerical, computational and typographical errors

● But Architect can by a subsequent certificate correct or modify any valuation errors in earlier certificates

CIDB:

● Superintending Officer can by any Interim Certificate correct any error in previous Interim Certificate and adjust amount due to account for any under or over valuation

Revision of certificates (2)

Case Law: Fairweather Ltd v Asden Securities Ltd (1979) 12 BLR 40

Facts:

● After issuing Final Certificate, Architect subsequently issued CNC

Held by Court:

● After issuing Final Certificate, Architect was functus officio and precluded from issuing further CNC

cf. Bukit Cerakah Development Sdn Bhd v L’Grande Development Sdn Bhd [2008] 3 MLJ 547, CA held:

● It is a question of construction and not a question of general law as to whether an Architect is functus

Claims for Direct Payment (1)

For discussion:

Can a sub-contractor make a claim for direct payment from the Employer?

Would your answer be different if it was a nominated sub-contractor?

Claims for direct payment (2)

General Principle: Privity of Contract

There is no privity of contract between a subcontractor and an Employer to allow a direct claim

Exceptions:

● Contractual exceptions (eg JKR contracts)

● Statutory exceptions (CIPAA)


Contractual Exceptions

● JKR contracts provide for direct payment to nominated sub-contractors

● Even in non-JKR contracts, some NSCs require direct payment when nominated- usually by a side letter or supplemental agreement

● Must be agreed to by the Main Contractor

Statutory Exception

● Section 30 CIPAA allows for requests to be made to principal for direct payment of adjudicated sum

● But there is no provision for consequences to principal who fails to comply

● So what can be done if principal fails to comply?


Practical Problems with Direct Payment

● Potentially creates a collateral contract between sub-contractor and Employer (would it subject Employer to potential adjudication claims?)

● Potentially an undue preference of the sub-contractor as an unsecured creditor in the event of insolvency of Main Contractor

● This issue arose in:

○ Joo Yee Construction Pte Ltd v Diethelm Industries Pte Ltd & Ors [1990] 2 MLJ 66, HC (S’pore)

● Direct payment to sub-contractor may not have taken into account defects or delays, leaving main contractor saddled with all defects and LAD claims by Employer

That’s all Folks!

Thank You

Chan Kheng Hoe

[email protected]

Payments in the construction industry

Law

Transcript of Payments in the construction industry