Retainage is a portion of the agreed upon contract price deliberately withheld until the work is complete to assure that the contractor or subcontractor will satisfy its obligations and complete a construction project. A retention is money withheld by one party in a contract to act as security against incomplete or defective works. They have their origin in the Railway Mania of the 1840s but are now common across the industry, featuring in the majority of construction contracts. A typical retention rate is 5% of which half is released at completion and half at the end of the defects liability period (often 12 months later). There has been criticism of the practice for leading to uncertainty on payment dates, increasing tensions between parties and putting monies at risk in cases of insolvency. There have been several proposals to replace the practice with alternative systems.
History and purpose The practice of retainage dates back to the construction of the United Kingdom railway system in the 1840s. The size of the railway project increased demand for contractors, which led to the entrance of new contractors into the labor market. These new contractors were inexperienced, unqualified and unable to successfully complete the project. Consequently, the railway companies began to withhold as much as 20% of contractors' payments to ensure performance and offset completion costs should the contractor default. The point was to withhold the contractor's profit only, not to make the contractor and its subcontractors finance the project. Given the often large-scale, complexity, cost and length of construction projects, the risk of something not going according to plan is almost certain. Accordingly, a common approach that contracting parties take in order to mitigate this risk is to include retainage provisions within their agreements. The concept of retainage is unique to the construction industry and attempts to do two things: provide an incentive to the contractor or subcontractor to complete the project and protect the owner against any liens, claims or defaults, which may surface as the project nears completion. Incidentally, owners and contractors use retainage as a source of financing for the project, contractors in turn withhold retainage from subcontractors, frequently at a greater percentage than is being withheld from them.
United Kingdom Retentions are widely used in the British construction industry: in the majority of all contracts awarded, a sum of money is withheld as a security against poor quality products (defects) or works left incomplete. Clients withhold retention against main contractors and main contractors withhold payment against sub-contractors. Retentions typically take the form of a percentage on the contract value. The rate can vary wildly but is typically around 5%. The general state of the economy can affect the rates set: in a buoyant economy with plentiful work sub-contractors are able to pick which work they accept and therefore have potential to negotiate more favourable rates. The chain of retention starts with the client who withholds money on the main contractor. The main contractor withholds money on sub-contractors who may also then withhold on sub-sub contractors. The retention money is typically released in two portions (known as moieties); the first being payable at completion of a project and the second at the end of the defects liability period. This period is the time during which the client is able to identify works that are defective to the contractor who must then remedy them; it is often twelve months. The use of retentions is not common to all sectors of the industry; for example lift installers have developed their own guarantee system instead. A mobilization payment is an advance payment to a contractor at the start of a project to assist in the beginning of operations.
Impact The use of retentions is intended to encourage efficiency and productivity. The contractor has a financial incentive to achieve completion as early as possible (to release the first moiety payment) and to minimise defects in the works (to achieve the second payment). Retentions held against sub-contractors are also a key source of cash for main contractors, who may use them to finance new projects. However sub-contractors often complain about the system. They sometimes lack a firm date on which retention monies will be paid and a 2017 British government report noted that more than half of contractors had experienced late or non-payment of retention monies. Delays are reportedly longer for sub-contractors and sub-sub contractors than for the main contractor. This restricts cash flow available for the company as a going concern and for capital investment. The chasing up of payments is also resource intensive, as such smaller businesses are hit more severely than larger ones. Some smaller companies simply write off the retention money, increasing their prices to compensate. The practice has also been described as increasing tensions between the parties in contract. There is no current requirement for retention monies to be ring-fenced (kept separately to general company funds and preserved from spending) and they are usually held in a client's or contractor's main bank account. This can cause problems in cases of insolvency, where the money can be lost and payments owed to the supply chain put at risk. The use of retentions (which are considered a form of stage payments) can also render construction companies unsuitable for factoring (the sale of accounts receivable).
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