Late Payments in Construction | How Did We Get Here and How Can We Solve This Problem?
Late payments are a notorious issue within the construction industry, and the problem is exacerbated in times of economic volatility when cash retention becomes a greater priority for many businesses. As money moves through the payment pipeline, the further down from the top you are, the longer you’ll be waiting to be paid. The squeezing of subcontractors and suppliers is essentially accepted practice within the industry, and the intervals between payments continue to increase.
Impacts of Late Payments
For smaller sized firms, late payments can have devastating consequences on the company’s financial stability. If payments aren’t coming in as agreed, contractors can be left to float the cost of the project themselves, using their own money to ensure the job is completed. From gas for your vehicle(s) to the price of materials and payroll, costs can add up quickly.
A 2019 survey of 184 contractors and subcontractors in the United States found that floating payments for wages and invoices added on average more than 5% to total project costs, resulting in $64 billion in excess costs for the year. 30% of respondents had been forced to delay or stop working on a project due to payment delays in the preceding 12 months.
The impact of late payments is a massive problem and contractors, particularly subcontractors, have felt this pain for decades. Until recently they've taken matters into their own hands, often finding their own ways to hack the system and try to get paid for work more promptly.
One way this happens is by front-loading their schedule of values. This adds more weight to line items that occur near the beginning of a project, which theoretically allows them to get paid for work they've yet to complete. By the time they actually receive payment, they've already completed the work. In many ways it's more fair than what you might initially think, and for most of these contractors, it's the only way they can make ends meet. However, needless to say this is not sustainable and is definitely not a long-term solution to this industry problem.
Causes of Late Payments
Oftentimes project contracts will provide clauses allowing clients to withhold payment to allow for situations where work was not completed on time, was done poorly, or done incorrectly altogether. This is usually around 10% of the contract value and is commonly referred to as ‘holdback’. While contractual holdback offers the client some protection in ensuring that contractors are held to their word and return to sites to fix any shortcomings, there will inevitably be bad actors who often abuse this system and find faults that may not actually exist in order to withhold payment.
This tactic often holds subcontractors powerless as most of them don’t have the tools or overhead to maintain a set of records that they could use as proof. Even if they did, the legal fees from taking them to court would eat up the profits in the project - practically deeming the whole effort of taking a GC or owner to court useless.
On the flip side, without retentions, the only way for GCs and owners/clients to ensure they receive the quality of work they paid for (but did not receive) would be through the same costly legal action. Not only does this process cost a large amount of money, but it requires a large time investment as well, and there’s no guarantee everyone will be satisfied with the outcome.
As you can see, a change with the current system is badly needed as it is definitely one-sided. There will always be abusers of the system, so the new system needs to be as hack-proof as possible or else we’ll end up in the same spot.
Cash Flow Issues
Cash flow issues can be the result of either the client having insufficient funds to pay the contractor, or the contractor withholding money from their subcontractors and suppliers. Did total costs exceed expected costs of the project and now the client needs more time to pay the extra costs? Has the money just been slow moving from one hand to the other down the construction pipeline? Regardless which scenario it is, it isn’t fair to the parties waiting to be paid for their time, work, and supplies.
One way to avoid this being your problem is ensuring that you exclude any ‘paid when paid’ clauses in your contracts. Be extremely diligent in reviewing your contract documents and scope, and seek counsel from a lawyer if possible. Payment clauses are often added to protect the GC or owner and not the subcontractors, so knowing which clauses to look out for is key in protecting yourself from not getting paid. Contracts can be changed, so make sure you take this time to ensure your company is not getting the short end of the stick.
Eliminating Late Payments
Given the amount of lost revenue due to late payments every year, contractors have been demanding increased transparency and payment reform for ages. Provincial governments across Canada have recently been introducing legislation in order to curtail the persistence of late payments across the construction industry.
In 2019, changes made to Ontario’s Construction Act came into effect; clients must issue payment to contractors within 28 calendar days of receiving a proper invoice, or dispute the invoice within 14 days and detail their reasons for non-payment. The contractor is responsible for issuing payments to subcontractors within seven calendar days of receiving payment from the client, or sending the subcontractors notices of dispute within seven calendar days.
Times are changing now and organizations are actively looking to solve this issue through focus groups and legislature changes. It’s only a matter of time before technology takes this personally and creates a solution that directly solves this problem. The use of smart contracts and blockchain technology can be a great starting point as they can provide complete transparency and automated payments as a result of smart contracts.
Even after receiving payment from a client, contractors still have plenty of calculations to do to figure out their payroll and operating costs. Why not save yourself some time and trouble by using automation to handle your project and field management for you? OnTraccr makes it easy to schedule your workers, receive notifications when work has been completed, create and send invoices, issue and track payments, and more! Have a look at what OnTraccr’s powerful automations can do for you here.
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