Roythornes Banner Image


News and Events

Retentions in Construction and Engineering contracts

View profile for Derryn Rolfe
  • Posted
  • Author

It is normal practice for construction and engineering contracts to allow the client to keep a percentage of each interim payment as a retention. The retention is intended to be used against the client’s losses in the event that the contract defaults. Both parties need to be aware of the pros and cons of retentions, and consider the issues, before agreeing to them.

The first question is how much the retention should be. In engineering contracts, a retention of 10% or even more is normal, as contracts are often for large projects with a significant impact on the client if there is a problem and a similar level of difficulty in finding a third party to resolve it. Building contract usually have either 3% or 5% retention, indicative of the wider market for a replacement contractor to undertake incomplete or remedial works.

The next obvious point is repayment of the monies held. The normal provision if for half of he retention to be repaid on completion, with the remainder at the end of the rectification or defects period. Repayment is usually triggered by the issue of the relevant certificate by the engineer/project manager/contract administrator, and the contractor is relying heavily on the independence and professional conduct of that person to certify properly and in a timely fashion. With the retention often making up a significant amount of the contractor’s profit margin, getting the money back on time is important for cashflow.

Withholding the retention to off-set losses must be done as precisely as possible; it is not good enough simply to hold it all if a problem arises. The client must provide justification for the amount held back: particularly at the end of defects period the contractor has no further need to worry about the relationship between the parties and is therefore more likely to take action to recover their monies. An adjudication that is the result of sloppy accounting is an adjudication that could have been avoided.

The thorniest issue, though, is always the holding of the money until it’s repaid. The JCT contracts require that the retention is held in trust by the employer for the benefit of the contractor, and it must be held in a separate bank account. The rationale for this is simple: if the employer become insolvent, the contractor will be able to claim the retention without real difficulty. The problem for the employer, though, is that doing so affects both cash flow and, more importantly, financing costs. If each interim payment must be drawn down at 100%, then interest is being paid on 5 or 7% just for it to sit and do nothing in an account.

The MF contracts are silent on the treatment of retention, as is the NEC, and in reality, any set of amendments to the JCTs will include the deletion of the provisions requiring the separation of retention. For the client, this is commercial necessity, but for the contractor it puts their recovery in jeopardy. So many developments are undertaken by single purpose vehicles – companies set up solely for the purpose of that project – and in the event that the SPV founders, there are no assets against which the contractor can claim the retention. In this context, the position of the JCT contracts is wholly understandable.

So, what’s the answer? There was a brief push a few years ago for the adoption of retention bonds – third-party bonds provided to the client by the contractor instead of a retention, which could be used against losses. Obviously popular with contractors, the twin difficulties of cost and calling-in, together with having to pay 100% of each payment, made them unattractive for clients and they are now rarely seen in the domestic market. Without a bond, contractors need to do their homework. They should credit check their potential clients, demand a parent company guarantee when working for SPVs, check contract terms to see what will happen to the money, and make sure that no action of theirs enables the client to drag its heels or argue over repayment.

If you have any questions about retentions, our Construction and Engineering team will be happy to help. Please get in touch for further information.