Dialogue: Don't rely on bill's good intentions

GARETH HOOLE says a new bill governing construction contracts may help sub-contractors and suppliers, but it's no substitute for commercial caution.

It's good but does it really provide protection?

There have long been moves afoot to introduce legislation to protect suppliers and sub-contractors from sustaining financial loss when others higher up the contractual chain default on their obligations.

The recent demise of Hartner Construction has highlighted the perceived necessity for such legislation to be passed.

The Construction Contracts Bill has now been introduced in Parliament and could be enacted before the end of this year, with the purpose of protecting those in the construction sector who are typically affected when developers or principals fail to honour their contractual commitments.

The intention of the bill is to facilitate prompt and regular payments in the construction industry, protecting suppliers and sub-contractors from being used to finance the developers or contractors cash flow through the delay of payment for work already completed.

Commonly, current business practice is that construction contracts contain conditional payment provisions, the so-called pay when paid or pay if paid clauses.

These provisions mean that until the party higher up the chain is paid, those who have performed services or made supplies on behalf of that party do not get paid.

If that party is never paid, or goes into liquidation, the sub-contractor suffers the loss and generally stands as an unsecured creditor.

Probably the most important key concept of the bill is the invalidating of such conditional payment conditions, thereby creating the right of the aggrieved sub-contractor to seek payment for work they have completed, regardless of whether the party for whom they rendered the service has been paid or not.

This will have the important effect of giving the sub-contractor stronger contractual rights and not leaving them in the situation of being subject to the performance of obligations by some other party over whom they have no control.

The bill provides that parties to a construction contract do not have the propensity to contract out of any of its provisions. Therefore, they cannot make arrangements between themselves in this regard, nor can an aggressive contractor force a sub-contractor to accept conditional payment terms.

Another key concept of this bill is that parties to a construction contract are free to reach their own agreement on periodic payment provisions in the contract, regarding the number of such payments, the interval between them, the amount of each payment and the date they fall due.

When the parties are unable to reach agreement on such a mechanism, the bill contains default provisions covering the right to periodic payments, the amounts and the due dates.

A further important concept of the bill is that it creates a mechanism whereby a party to a construction contract can serve a payment demand on the other party for each periodic payment.

The party served with such a demand may respond by providing a payment schedule indicating how the amount demanded will be met.

The bill stipulates certain consequences in the event that the party on whom the demand is served does not respond, or fails to adhere to the payment schedule.

Typically, when a contractor wishes to delay payment to a sub-contractor, the usual tactic is to dispute the work performed as this can cause lengthy delays while claims and counter-claims are processed. It can take months, or even longer, for a resolution to be achieved through an adjudication process.

Alternatively, sub-contractors are often given no reasons why they are not receiving payment for the work they have rendered.

The bill addresses these scenarios by providing that a payment due may not be withheld unless notice has been given stating adequate reasons why.



Where there is a disagreement over whether an amount is payable, or the reasons for the withholding of a payment, the bill fast-tracks an adjudication process.

It aims to provide a dispute resolution mechanism in a short time frame, effectively just 30 working days, thereby avoiding drawn out proceedings.

The bill also works in the favour of the sub-contractor by creating the right for the suspension of work in the event of a payment default.

It also provides for the registration of a charge against a construction site where the party who owes money under a contract is related to the owner of that site, thereby strengthening the rights of the claimant by giving them security.

It has very wide ramifications, applying to all construction work carried out in New Zealand, with certain exceptions, and the definition of construction work is very broad, covering almost every aspect of the construction of a building or structure.

The intent behind this legislation is to be commended, given the far reaching ripple effects felt by smaller enterprises when larger businesses fail.

However, a word of caution to sub-contractors before they breathe a collective sigh of relief believing that their rights will be fully protected in the future.

While the bill does address many of the issues which have been problematical in the past and creates certain favourable mechanisms, the economic reality is that where the party higher up the contractual chain simply cannot make payment, the sub-contractors could well find themselves no better off than they are now.

A contractor might have the best of intentions to honour the obligations to the sub-contractors, but where the developer has defaulted, leaving the contractor out of pocket, unfortunately the mechanisms of this bill are unlikely to strengthen the actual position of those down the line.

All the favourable adjudications and judgements given will not be of much practical assistance when the debtor simply cannot pay and files for liquidation.

The intention behind this legislation is good, but sub-contractors should not rely too heavily on it to protect them from financial loss in the future.

Instead they should continue to exercise caution regarding the parties with whom they choose to do business, making certain that they have financial substance and can meet their obligations. An ounce of protection is better than a pound of cure.

* Gareth Hoole is a Senior Manager in the Client Advisory Services division of Staples Rodway. The views expressed are his own and not necessarily those of Staples Rodway.