How Getting Paid is Getting Harder in Construction

For all businesses, but especially those in the construction industry, a very important new law came into force in June 2020. It is called the Corporate Insolvency and Governance Act 2020 (CIGA) and its purpose, in the Government’s own words, is to give businesses the “breathing space they need to continue trading during this difficult time”. The background to this new legislation is clear but many of the CIGA’s effects are permanent.

Working with insolvent clients

One such effect is a new ban on terminating a contract – or exercising many other important rights under a contract – for the supply of goods and services on the basis of the paying party’s insolvency.

Apart from some limited exceptions, a clause allowing a supplying party to terminate a contract on grounds of the paying party’s insolvency is now invalid and unenforceable.
The same applies to a clause which allows a supplying party to “do any other thing” in the event of insolvency. This might include: imposing interest, compressing payments terms or permitting a suspension of the supply until all monies are paid in full.

Why suppliers can’t terminate

In the construction world, this means that a contractor or sub-contractor cannot simply terminate and walk away from a contract because its client is insolvent. This is something which is otherwise clearly allowed in a number of standard form construction contracts such as JCT.

It is worth noting that such a clause is still valid in the other direction – that is to say if a supplier becomes insolvent, there is nothing to stop an employer or main contractor terminating a building contract or sub-contract.

What about the right to suspend for non-payment?

An obvious question relevant to the construction industry is how can the CIGA be reconciled with the right to suspend for non-payment under S.112 of the Construction Act?
This has become a useful tool in the box of many contractors and sub-contractors seeking to limit exposure in an industry where margins are already notoriously tight. The answer isn’t entirely clear.

At first glance it seems that the CIGA prevents the exercise of the right to suspend because it clearly prohibits suppliers from doing ‘anything’, which has the effect of making the payment of outstanding monies a condition of continuing to supply an insolvent party.

Some good news for suppliers

However, look more closely and there may be some hope for the suppliers and sub-contractors who are already likely to be suffering most from the economic impact of COVID-19.
This right to suspend performance for non-payment is a statutory right under the Construction Act, meaning it arises automatically irrespective of the terms the parties have agreed in their construction contract.

So whilst the right to suspend for non-payment is often written into construction contracts it remains a statutory right which, in theory, should not be affected by the prohibition on contractual rights under CIGA.

Also, the CIGA does not affect a right to suspend performance for non-payment where the paying party either simply chooses not to pay or is having cashflow problems but is not technically ‘insolvent’ within the definition provided by CIGA.

Whilst this new legislation is intended to help businesses during this difficult time, interpreted narrowly, it could have a detrimental impact upon the construction supply chain at a time when it most needs to rely on the full range of benefits provided by the Construction Act.

It remains to be seen how the courts and, perhaps most relevantly, adjudicators interpret the provisions introduced by CIGA. In the meantime, it has never been more important for the entire supply chain to work with one another in an attempt to collectively trade through the challenges that COVID-19 continues to create.