How Can a Contractor Control Payments?


User Submitted Question

Struggling SmallSub
asks:

Peter – I am a small subcontractor that does about 500k gross revenue per year. I made a nice living for myself doing many jobs on my own with a helper or 2.

The past few years it seems as though receiving final payment from the owner has become more and more difficult.

Why does it take so long to get paid, and how can I continue work and start the next project while waiting so long for my money?

Answer:
This question has been an issue for as long as I have been involved in the contracting business, and that is over 40 years. Unfortunately it has worsened and the current attitude of seemingly, everyone, in the construction business, is a very bias self-serving attitude, get the money and NEVER give it up! Money in and never out!

When I first started in the construction business, there was a sense of honor and integrity regarding payment of bills, and ensuring that your “ credit score “, as well as your reputation, throughout the industry, was one that revolved around the companies’ ability and history of paying bills.

This is NOT the case within the present construction marketplace, and the attitude by owner’s, developers, general contractors as well as subcontractors, is to treat receivables as the sole intent of the business, and to delay any type of payment out, as long as legally possible. This delay in many cases, far exceeds the legal requirements of bill paying.

When I first started in Connecticut, the attitude was, we are not like the City (NYC), in Connecticut, contractors expected to receive their final payment, known as retainage. However, if you worked in the City, contractors simply added the 10%, to their initial bid, knowing full well that if they received the retainage at the end of the project it was a bonus. Why, the majority of the time, the 10% retainage was never paid, however, this attitude of never paying the retainage, has infiltrated to all parts of the country. Currently, the work is never completed, according to the party with the retainage money; therefore the retainage is held forever, or until the subcontractor or contractor simply gives up their attempts to collect.

Being a contractor all my life, I have been involved with several conversations, regarding the attitude of payments within the construction industry. What other industry allows the acceptance of not paying bills? What other industry, expects a contractor, subcontractor, etc. to expend, in many cases, over a million dollars to start a project without payment? This is unheard of other industries, however, in construction, this is standard policy.

I am currently involved with a project where a landscaper will have expended the entire $550,000.00 contract, prior to obtaining any money. This is due to the limited growing season in Connecticut, and the need to plant and seed the entire scope of the project within the first ( 2 ) months. The subcontractor cannot, per contract, invoice the owner until 30 days has passed, the payment is due 30 days after the receipt of the first invoice. Therefore, the work will be complete, prior to any money being legally due the subcontractor. Now, if the owner is less than 100% honorable regarding the payment schedule, the subcontractor may be financing this project for well over 60 days. What happens when there is payroll involved, payment to suppliers, etc. that do not parallel the payment timing of the owner? The subcontractor is forced to account for a negative balance, until the owner pays the requisition.

This is a common occurrence, and is the main reason why so many contractors, subcontractors and suppliers have lost their businesses due to lack of payment.

This is the marketplace and the industry that we all live in, therefore, how can we try to ensure timely payment and a positive cash flow?

The answer is neither simple nor foolproof, however, there must be methods and procedures to try and keep the payments in balance with expenditures.

Noted below are some common suggestions and methods, to minimize the effects of negative cash flow, and attempt to manage this difficult situation.

Contract Negotiations

  • Hire a legal advisor, specializing in construction law, to represent your interests during contract negotiations.

 

  • Do NOT allow the “other party “whether it is the owner, another contractor, etc. to lessen the importance of the written contract terms with promises of “friendship, relationships, etc. “In days gone by, all of these conversations and interactions, were much more valid than they are in the current state of the construction industry. NO handshake deals, no agreements made at a late dinner or long lunch. If it is not written down, it never occurred.

 

  • Attempt to limit the amount of time allowed for submission of the first invoice, by making the first invoice submission date, the 23rd of the month. In this manner the extent of the money required to start the project can be invoiced on the 23rd of the month and the money could be due as soon as 30 days later. It is essential that you negotiate payment terms to “test the waters “regarding payment status. If the initial payment is immediately late, you will be able to negotiate and manage the issues early on, prior to becoming too far in debt on the project.

 

  • Attempt to hold the payment time period to net 30, try to negotiate any attempts to increase the payment period.

 

  • Do not allow the retainage to be over 5% and try to negotiate a reduction of retainage to 2.5% once the project is 50% completed.

 

  • Request a copy of the owner’s contract to the general contractor if you are a third party, and make sure your contract parallels this contract. For example, a typical scenario is that the principal party (general contractor) has an agreement with the owner, for payment every two weeks; this clause should transfer down the line to your agreement.

 

Payment management

  • Submit the monthly requisition on time, and email, as well as call, to ensure that the accounting department of the party you are contracted with, has confirmed receipt of the invoice.
  • Question the acceptance of the invoice, do not simply confirm receipt. I have been involved in situations where the invoice was received, however, there were questions that were never answered. The receiving party then confirms receipt, however, never qualifies the status of the invoice as being incorrect. This will allow the party that is paying the invoice to claim an incorrect invoice was issued, and therefore the payment will be delayed.
  • Immediately (the day after) the payment is due, call and email the party paying the invoice. Continued calls, emails and eventually certified letters are required to maintain pressure on the party paying the invoice, to issue the check. Stay diligent and constant, do not allow time to pass without continued follow up.
  • Insist on picking up the payment. The check has been mailed is NOT an acceptable response.

 

  • Your receivable department must remain vigilant and consistent in their attempt to collect the invoice due. This must be continuous and relentless.

Offensive Options ( what to do when the payment is delayed ? )

  • Although most subcontractors understand the 90 day lien period, you can and should place the lien on the project immediately after the paid clause is exceeded. You must show that you will not be delayed in payment receipt! This is important.

What is a lien / a lien is a legal document placed on the project, for the amount of money due the subcontractor. This legal document will be placed on the property’s legal papers, to ensure that the lien is satisfied, prior to property transfer, property closings, etc.

The lien can and should be placed on the property prior to the 90 day period. Most subcontractors wait until the last allowable day to place the lien due to the negative psychological reaction by the owner; however the lien can be placed at any time, just not over 90 days since the last activity performed on the project by the subcontractor.

 

  • Contact the owner or the entity responsible for paying your invoice.

Although many contractors and subcontractors are reluctant to contact the party originating the payment, many times it is not as negatively received as thought. All parties in construction understand the importance of payment and diligence is many times looked at in a very favorable manner. It is important that the owner of the project understand if subcontractors, suppliers or other financially obligated entities on their project are not being paid. Do not be reluctant to notify the responsible parties; many times they do not have the proper information.

 

  • Review the contract, ensuring that the proper legal clauses are followed, and issue written indication that work forces will be removed from the site until payments are submitted, making the account current. If the project is threatened by lack of manpower, this will in many cases produce results.

Payment Strategy ( Summary )

  • Incorporate the use of a legal construction consultant to ensure contract requirements,regarding payment are followed.
  • Force the best terms possible in the initial contract to more stringently manage payments.

 

  • Diligent collection communication, phone calls, emails, certified letters, etc. on a consistent basis.

 

  • Do not allow the normal responses by accounting departments such as check in the mail, waiting for signatures, waiting for the owner to pay, etc.

 

  • Negotiate retainage clauses that, at a minimum, parallel the owner’s contract with the contractor, or the party paying your invoice.

 

  • Negotiate similar payment provisions with third party suppliers and subcontractors that you have contracted with, on the same project.

 

  • Ensure your project management team, follow all the proper payment clauses within the contract, and follow up on the receipt of invoices as well as approval of these invoices.

The easy part of our job is the performance of the work. The hardest part is getting paid for this work.

This has been a consistent and reoccurring issue for all contractors, subcontractors and suppliers. Accounts receivable is the biggest reason for contract failure and loss of profit. The never ending pursuit of payables, is a necessity for every contractor and supplier.

Retainage Comments

  • Retainage, as I have indicated in this discussion, is the amount of money withheld from an established invoice, to ensure compliance with all final contract stipulations and completion of all scopes of work.
  • Retainage should never be more than 5%. Many contractors will attempt to hold 10% even if their contract with the owner retains a lesser amount. This percentage should always be negotiated to the lowest percentage possible.

 

  • Retainage should be decreased 50% once the project is 50% completed. Once the project reaches 50%, the retainage is either reduced down on a monthly basis, or simply not held for the remaining payments. The end result being, ½ the original retainage held, once the contract work is completed.

 

  • Upon issuance of the punchlist, the items remaining on the punchlist should be evaluated for financial value. The entire retainage being held at the end of the project should not be held in full, as the punchlist is completed. As each item on the punchlist completed, retainage amount should be reduced. This concept is always difficult to negotiate and manage, however it is important to the overall final payment. Do NOT allow full retainage to be held as punchist items are taken care of.
  • Do not allow all the retainage to be held for minimal punchlist items. Negotiate a lump sum to be held or even a “ give back “ to forgive any punchlist items physically impossible to complete.

 

  • If possible, hold important information for a final trade of information and final payment. This is the best method for insuring the final payment. If there is a requirement for a final inspection, have the final payment on site when the final inspection is conducted. A trade off, to obtain the final payment, is the best way to ensure a final release.

 

  • During contract negotiations, make the retainage contingent on your scope of work. Most of the time the contractor paying the retainage will attempt to qualify the release of retainage with the last remaining retainage items. For example if the landscaper has items remaining on the punchlist, the electrician’s retainage is held up. During contract negotiations, try to negotiate this situation out of your contract. Do not allow yourself to be controlled by other’s incompetence.

Unfortunately the most difficult part of our job is to be paid for the work that we perform. The industry has transformed into an industry that makes money with other people’s money. This has become so common, that it is now the norm and accepted. It is the responsibility of the subcontractor or contractor to spend more time and effort getting paid for legitimate work as in performing the work.

Although I hear so many contractors and subcontractors hesitate to work for Local, State and Federal government agencies, I constantly inform these contractors and subcontractors that public money, offers much more security, on the payment side of the equation. Although the paperwork is intense, the guarantee of payment is much more secure than working with the private developers and homeowners.

Good luck, and remain diligent in your pursuit of payables, please hire that legal construction consultant to guide you through the legal clauses of your contract.

Without the payment, all your hard work is for nothing!!

 

 

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