Construction contracts can be sneaky—indemnification clauses, termination clauses, warranties. There’s lots to be aware of. Arguably the most important clauses to look out for when reviewing your construction contracts are the infamous pay-if-paid and pay-when-paid provisions.
These contingent payment clauses are designed to reduce risk for general contractors by making sure GCs don’t have to pay subcontractors until they get paid. Unfortunately, this places more burden on you as the sub.
Collecting payments on construction projects takes long enough as-is. These clauses delay payment even further. Worse, one of them can result in you never getting paid at all.
Difference Between Pay-when-Paid and Pay-if-Paid
This is one case where two little words equal one big difference in your risk factor. One is a matter of when you get paid. The other means it’s possible you might never see a dime.
Pay-when-paid clauses are all about timing.
When your contract contains a pay-when-paid clause, the GC can (and usually will) delay paying you until they get paid. They can’t stretch payments out indefinitely, though. Even if they don’t get paid, they eventually still have to pay you, and it must be within a “reasonable” time frame, though “reasonable” is subjective. There is literally no concrete definition for this term.
Here’s some common language found in pay-when-paid clauses within construction contracts.
Pay-when-Paid Example 1
The Subcontractor shall be paid within ten (10) business days after receipt of payment from the Owner by the General Contractor for Subcontract work.
Pay-when-Paid Example 2
Payments will be made not more than thirty (30) days after the Subcontractor submission date or ten (10) days after the Contractor has been paid by the Owner, whichever is later.
Pay-if-paid clauses are all about shifting risk—from the GC to you.
These clauses are worded so that the GC only has to pay you if they get paid. In cases where the owner fails to pay the GC, the GC in turn is never required to pay you.
Here are two examples of pay-when-paid clauses.
Pay-if-Paid Example 1
Contractor’s receipt of payment from the Owner is a condition precedent to Contractor’s obligation to issue payment to the Subcontractor. The Subcontractor fully understands that it bears the risk of non-payment by the Owner.
Pay-if-Paid Example 2
Contractor may withhold payment for work done by Subcontractor (including retainage) until the Contractor has been paid for that work by Owner. Payment by Owner is a condition precedent to payment to the Subcontractor for work completed. Subcontractor acknowledges reliance on the credit of Owner for payment, not the credit of Contractor.
How Pay-when-Paid Clauses Affect the Construction Payment Timeline
You already know that it takes a long time to get paid for construction projects—90 days on average.
Chances are your contact allows for progress payments at scheduled intervals between the time the project starts and the time it’s completed. But all this really means is that you can submit a payment application at those intervals.
But thanks to pay-when-paid clauses, you won’t actually get paid when you submit your pay app. You won’t receive payment until after the GC does. How long after will depend on the terms of your contract. It could be ten days, 30 days, or more. Pay close attention to the wording in your pay-when-paid clauses so you know what to expect.
Legalities of Pay-if-Paid Clauses
The legalities of pay-if-paid clauses are a hot legislative debate and we see varying policies across the country. Currently, they’re illegal in 12 states, difficult to enforce in others, and nuanced everywhere else.
- California, Kansas, Illinois, Indiana, Nevada, Montana, North, Carolina, New York, South Carolina, Utah, Virginia, and Wisconsin all prohibit pay-if-paid clauses. Virginia was the most recent to join this list in 2022.
- While pay-if-paid clauses aren’t exactly illegal in California, North Carolina, Nevada, and New York, these states have deemed them unenforceable.
- Most states require specific language in order for the clause to be enforced. Contracts in Colorado, for example, must unequivocally state that the subcontractor bears the risk of the owner's nonpayment.
- Some states restrict the liability of pay-if-paid clauses to a specific dollar amount.
It’s important to understand the legal requirements surrounding pay-if-paid clauses in your state. The Foundation of the American Subcontractors Association put together this handy state-by-state overview of contingent payment clauses.
What to Do About Pay-if-Paid Clauses
Pay-if-paid clauses ultimately leave you in a tough spot. You basically have three options—try to negotiate, take the risk, or walk away.
There are a few things to think about when trying to make your decision:
- Are pay-if-paid clauses enforceable in your state? If so, are there guidelines around specific contractual language? If there’s a likelihood the clause would get thrown out in court, you may be able to convince the GC to remove it.
- Can you still file a mechanic’s lien in your state even if the contract contains a pay-if-paid clause? 24 states will allow you to do this, although the timing can be tricky.
- Are you in a strong negotiation position? You could be if you offer highly specialized services or no one else is available to take the job on the required timeline.
- What’s the property owner’s payment reputation? If the company at the top of the project has a history of defaulting on payments, take heed before signing a contract with a pay-if-paid clause.
If you’ve encountered a pay-when-paid or pay-if-paid clause in your subcontract, take a step back and ask yourself if your company can afford to take the risk. It can be hard to justify turning down a contract. But consider this:
According to the 2022 Construction Payments Report, 37% of all subcontractors had to stop work last year due to non-payment and 27% had to file a lien due to slow payments. These figures are up 9% and 10% respectively over the previous year. Roughly half of subcontractors are turning to savings and credit lines just to finance projects until they get paid. And this data is all irrespective of pay-when-paid and pay-if-paid clauses.
Reducing your risk starts with knowing what you’re getting into. This article covers 9 tips to help subcontractors spot risk in construction contracts. At the end of the day, your ability to get paid for the work you complete isn’t something you should leave to chance. It’s always a good idea to have legal counsel review your construction contracts, especially when your company’s survival is at stake.