On June 24, 2007
By Scott Wolfe Jr
Background on Payment Provisions & What is a “Pay When Paid” Clause
While it’s common practice in the construction industry to provide for partial payments from the contractor to subcontractor as work progresses, in Louisiana, unless the contract specifies otherwise, payment from the general contractor to the subcontractor is not actually due until the project is completed. See LA CC Art. 2550; See also Sacco v. Koepp, 169 La. 789, 793-94 (1930).
Therefore, if such progress payments are desired, it’s important to have a clause clearly providing for these payments in the contract.
A common contract provision in many contractor-subcontractor agreements provides that progress payments are not payable to a subcontractor until the owner pays the corresponding amount to the general contractor. These contract provisions typically come in two varieties, and are commonly referred to as “pay when paid” and “pay if paid” clauses.
“Pay when paid” and “Pay if paid” clauses are designed to shift the burden of owner non-payment from the contractor to its sub-contractors and suppliers. Accordingly, both provisions can be very onerous for the subcontractor – oftentimes preventing payments to a sub or supplier when the Owner is in an unrelated dispute with the general contractor, or merely becomes financially unable to make payments under the contract.
Enforceability of “Pay When Paid” Provisions
“Pay when Paid” provisions and other conditional payment provisions are not favored in courts, and therefore, it’s imperative to carefully draft and review any such provisions in the construction contract.
Hostility towards these types of provisions are fueled by subcontractors and their trade organizations.
Courts in some parts of the country have even gone so far as to call such provisions against public policy and unenforceable. See Capitol Steel Fabricators, Inc. v. Mega Construction Co., 58 Cal App 4th 1049 (2d Dist. 1997). Legislatures in a number of states have considered such provisions as impermissible waivers of the subcontractor’s constitutionally protected mechanics’ lien rights.
In Louisiana, properly drafted “Pay when Paid” provisions are enforceable, but the wording must be clear and unambiguous.
However, even with an enforceable conditional payment provision, Louisiana courts still require payment to the subcontractor within a “reasonable period of time,” thereby watering down the effect of the provision. See Southern States Masonry, Inc. v. J.A. Jones Contr. Co., 507 So.2d 198 (La. 1987). Through this Southern States decision, and similar decisions, the courts re-shift the risk of non-payment back upon the general contractor.
If the parties truly intend for the subcontractor to bear the risk of non-payment, or if payment from the owner is not reasonably certain, this intent should be clearly expressed in the construction contract. In these situations, the contract should have a “Pay if Paid” provision instead of a “Pay when Paid” provision. See C. Bel for Awnings, Inc. v. Blaine-Hays Constr. Co., 532 So.2d 830 (La. App. 4th Cir. 1988).
“Pay When Paid” versus “Pay If Paid”
Although only separated by one word, legally the two provisions are drastically different.
Pay when Paid
This common payment provision stipulates that a general contractor is legally obligated to pay a subcontractor only when it receives a corresponding payment from the owner. As discussed above, however, most courts view such a clause as a timing provision and not the basis for nonpayment.
Accordingly, if payment is never received from an owner, under a “Pay when Paid” payment provision, the general contractor must still make payment to a sub or supplier within a “reasonable time.”
Pay If Paid
“Pay if paid” clauses are more specific than their “pay when paid” counterparts. Unlike the “pay when paid” clause, oftentimes considered a timing provision, the “pay if paid” clause more clearly expresses the parties’ intention to shift the credit risk of owner nonpayment down through the contracting ranks.
Accordingly, payment to the subcontractor is more likely to be contingent on the general receiving payment from the owner under a contract with a “pay if paid” provision than a “pay when paid” provision.
Conclusion
Deciding when payments are due a subcontractor can sometimes lead to long and complicated legal disputes. As such, it’s very important for the parties to clearly express their intent when contracting.
The Wolfe Law Group is experienced in drafting and reviewing construction contracts to clearly reflect the intent of the parties. Contact us today to learn more about how the Wolfe Law Group can be your company’s new legal department.
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