Why payment provisions matter more than ever

First appeared in EG

The Construction Act requires every construction contract to include an adequate mechanism for determining what payments are due and when. The payment process starts with the payee issuing a payment application. Payees should ensure they comply with any service requirements under the contract.

The application should identify the relevant due date for payment and set out the payee’s assessment of the value of the work carried out up to that point. The paying party must then issue a payment notice, no later than five days after the due date, setting out the sum due along with the basis on which that sum was calculated.

Even where nothing is due, a payment notice must still be provided. Failure to provide a payment notice will result in the payee’s payment application automatically becoming the default payment notice, and the sum applied for will become the notified sum payable by the final date for payment. A paying party that misses the payment notice deadline may still protect its position by serving a valid and timely pay less notice. This must be issued within the contractual timeframe, set out the sum considered and how it has been calculated.

Protecting cashflow

Additionally, construction contracts must specify a final date for payment. Case law has emphasised that this must be calculated by reference to the applicable due date, rather than another event, such as the provision of a valid VAT notice by the payee (see Lidl Great Britain Ltd v Closed Circuit Cooling Ltd t/a 3CL [2023] EWHC 2243).

If a paying party fails to serve a compliant payment notice and does not serve a valid pay less notice within the contractual timeframe, it will ordinarily be liable to pay the notified sum in full. If payment is not made, the payee may commence a “smash and grab” adjudication and/or suspend work under the Construction Act.

This framework reflects the cashflow realities of the construction sector. Contractors routinely incur substantial upfront costs, often long before payment is received. As a result, interim payment mechanisms are critical to maintaining a regular flow of funds through the supply chain and helping manage the pressure that rising costs and tight margins place on working capital.

Avoiding costly mistakes

Missed deadlines, reliance on informal communications and a lack of clarity around responsibility for contract administration are all common issues and lead to disputes. On larger, more complex projects involving multiple subcontracting tiers, these risks are often exacerbated, increasing the likelihood of notices being missed or served late.

The consequences can be severe. A paying party that fails to serve a compliant payment notice and/or a pay less notice on time will be required to make payment in full, regardless of the substantive merits of the valuation. Where the paying party disagrees with the substantive merits of the payment application but fails to serve the required notices, it will ordinarily be required to make payment in full and seek to challenge the merits of the payment application through a “true value” adjudication.

However, the case law is clear that in such a case, a “pay now, argue later” approach is applied. In practice, this means the paying party will usually need to make payment first before seeking to contest the valuation through a subsequent true value adjudication (see Grove Developments Ltd v S&T (UK) Ltd [2018] EWCA Civ 2448). The resulting cashflow impact of this approach can be considerable for contractors operating on tight margins.

What should businesses be doing?

Contracts should be reviewed carefully at the outset of each project, with focus on valuation and payment schedules and notice requirements (including service requirements). Clear internal processes are equally important, including systems for tracking deadlines and ensuring responsibility for issuing notices is properly allocated. Those involved in project delivery and commercial management need to understand both the requirements of the payment regime and the potential consequences of failing to comply. Even minor errors can invalidate a notice and expose a paying party to liability for the full value of a contested payment application.

At a time when many construction businesses are feeling the squeeze from ongoing cost pressures, tight margins and insolvency risk, getting the payment process right is about more than contractual compliance. It can help businesses protect working capital, reduce the risk of disputes and build resilience in an increasingly challenging trading environment.