Contract documents

March 27, 2024

Our last article discussed several methods of determining contractor compensation. This article will discuss payment processes and associated issues. Your agreement should include provisions that specify the essentials of the payment process.

Owner Financing

A few words should be said about owner financing. Depending on whether you have previously worked with a client, and the size and scope of the project, you may wish to have confirmation of the owner’s ability to pay for the work. Many standard form contract agreements permit the contractor to request the owner to provide evidence of financing. For example, A201- 2017 General Conditions of the Contract for Construction, contains specific provisions that give the contractor the right to request evidence of the owner’s financial arrangements to fulfill the owner’s contractual obligations, both before the contractor begins the work and during the course of the work. Those provisions also address when the contractor may delay or stop the work if the owner does not provide the information.

Payment Process

Typically, payments from an owner to a contractor are based on percentage of completion of the work or on completion of project milestones.

When the payment method is based on percentage of completion of the work, the contractor usually submits payment applications at monthly intervals, detailing the work that was performed during that month. The amount of each monthly application is part of the contract sum.

Typically, for stipulated sum or guaranteed maximum price contracts, the contractor will prepare a detailed schedule of values prior to the start of the work that will be agreed upon with the owner. The schedule of values is a line-item list of each item that is included within the scope of work, broken down by cost and schedule. The payment application will be based on an updated schedule of values as work is completed. The schedule of values is an important tool for the contractor and the owner to plan cash flow and to track the progress of the project.

If an architect is providing contract administration services, the architect will review the payment application and recommend to the owner whether to pay the application in whole or in part. If an architect is not providing these services, the owner or the construction lender would review the contractor’s payment application.

Another method of payment that might be used on smaller projects is based on completion of construction milestones. For example, in a residential renovation project, milestones when payments might be due could include completion of demolition, framing, hanging of drywall, etc. The contract should include a list of the milestones and the amount that would be due at completion of each.

Payments might be conditioned, by the owner or by the construction lender, on the contractor providing certain documentation such as releases and waivers of liens from subcontractors and suppliers or manufacturers’ warranty documents. Any such requirements should be specified in the owner/contractor agreement.

The agreement should also specify when the contractor will make payments to subcontractors; for example, within seven days of receipt of payment from the owner. The Owner has the right to request evidence from the contractor that the contractor has properly paid subcontractors and suppliers amounts paid by the owner to the contractor for subcontracted Work.

Final payment at project completion is typically due after a final inspection and when the owner is satisfied that the punch list items have been completed.

Retainage

Retainage is a percentage of compensation that may be withheld by the owner to ensure that the work is completed. The retainage may be released in part as the project progresses or may be released in full after completion of the work. The owner/contractor agreement should specify how much, if any retainage will be withheld and how the retainage will be released.

Rights for Failure to Pay

The agreement should state how many days the owner has, after receipt of an invoice or payment application, to make the payment. The agreement should also state the amount of interest that should be paid, if any, on late payments.

A201- 2017 , for example, provides that, if the architect does not issue a certificate for payment within seven days after receipt of the contractor’s payment application or if the owner does not pay the contractor within seven days after the date established in the contract documents, the contractor may, after giving seven days’ notice, stop the work until payment of the amount owed has been received. In addition, the contractor is entitled to an adjustment to the contract time and the contract sum due to the delay.

In addition, the agreement should state when failure to pay is grounds for termination of the contract. A201 provides that the contractor may terminate the contract if the work is stopped for a period of 30 consecutive days because the architect has not issued a certificate for payment and has not notified the contractor of the reason for withholding certification or because the owner has not made payment within the period of time stated in the contract documents. The owner may terminate the contract if the contractor fails to make payment to subcontractors or suppliers in accordance with the respective agreements between the contractor and the subcontractors or suppliers. Remedies for these types of termination should be addressed.

Conclusion

It doesn’t need to be said that the issue of payment is a common area in which disputes arise.  To help keep this from happening, your owner/contractor agreement should provide clear and complete provisions on the amount of compensation as well as the compensation method, the payment process, and the right to stop or terminate the work in the event of non-payment.

Susan Van Bell, Esq. was Senior Director of Content for AIA Contract Documents for over ten years. She is currently a consultant.

AIA Contract Documents has provided this article for general informational purposes only. The information provided is not legal opinion or legal advice and does not create an attorney-client relationship of any kind. This article is also not intended to provide guidance as to how project parties should interpret their specific contracts or resolve contract disputes, as those decisions will need to be made in consultation with legal counsel, insurance counsel, and other professionals, and based upon a multitude of factors.