The government has announced it will finally ban the use of retention payments in construction contracts.
The move, announced this morning (23 March) by the Department for Business and Trade (DBT), is intended to prevent smaller firms from losing money held back against defects, particularly in cases where upstream contractors become insolvent or fail to release funds.
The government last year launched a consultation on two options – a complete ban on retentions and the mandation the use of third party bank accounts to hold them – but it has plumped for the more radical path.
An announcement from the department said that it would “ban the withholding of retention payments under the terms of construction contracts, consulting on its implementation. This will prevent small firms losing retentions to insolvency or non-payment”.
Documents giving more detail on the consultation responses showed that responses were broadly divided between the two options, but “many” respondents indicated that a ban would be more effective in achieving the intended.
“Written responses were split between the two options, with agreement with the effectiveness of the measures at 62% for a ban, or 65% for a protections measure,” the government said.
“There was often the view, however, from a combination of written responses and stakeholder engagement, that a ban would be a simpler for industry to understand, to legislate for, and to enforce.”
The ban will is aimed at preventing the loss of retention payments due to upstream insolvency and reducing the risk of late or non-payment of retentions, the government said.
In addition, it will lead to “fairer contract terms, more transparent practices and stronger, more collaborative relationships in the construction supply chain for the public and private sectors,” it added.
The government identified a risk that firms fail to comply the legislation, either deliberately or “through ignorance”, but said this could be mitigated through the adjudication process and via the courts.
In addition, it is possible that a change in retention policy could cause a temporary increase in disputes requiring resolution via adjudication while new ways of working are embedded, it said.
The ban will also create “a need to create a larger and more sophisticated surety market to support the construction sector and its clients if retentions are no longer a means of mitigating risk”, the government said.
To reduce the impact on cashflow and higher surety costs, firms at the higher tiers of the construction chain could attempt to get round the retention ban by adjusting payment to later in the schedule, it admitted.
But it said: “This circumvention risk is judged to be material but is not likely to outweigh the potential benefits to be gained through protecting retentions from insolvency and abuse.”
Following the announcement, the Construction Leadership Council said it would work closely with the department as it develops the timeline and process for implementing the measure, which will bring a massive change to the current operation of contractual construction payments.
Mark Reynolds CBE, Mace Group‘s executive chairman and co-chair of the Construction Leadership Council (CLC), welcomed the ban, for which the CLC has campaigned since 2019.
He said: “For smaller firms up and down the country, late or non-payment of retentions is one of the primary risks that can lead to insolvency. The current status quo drives instability and restricts much-needed investment in the industry.
“Over the past half a decade, industry and clients have been unable to agree how to move away from retentions, and so it is welcome that Government has decided to intervene directly to outlaw them entirely.”
Reynolds said that the abolition of retentions will be a “substantial change to how we operate”.
“We recognise that both clients and the supply chain will need time to adapt and establish alternatives that effectively incentivise high-quality work and limit defects in construction.”
One source at a large contractor welcomed the announcement, saying that the impact on retentions held and owed by contractors should largely balance out.
He said: “I suspect most tier ones will be happy about this. We all have our own retention issues and any impact on cash going out will be negated by the positive of cash coming in from clients quicker.”
Industry bodies have long criticised the use of retentions, arguing that the practice restricts cashflow across supply chains and exposes subcontractors to disproportionate financial risk.
But the ban on retentions is likely to go down less well with housebuilders and clients, who sit at the top of the construction payment chain.
After the consultation was launched, Sam Bensted, assistant director of planning and development at the British Property Federation, said: “The complete abolition of retentions could also have an effect on investor appetite, as it will increase investment risk, and could disadvantage the smaller or one-off clients who are often at the sharp end of poor contractor behaviour.”
In 2023, a survey by CN found that 82 per cent of subcontractors had retentions on more than half of their projects, while 65 per cent had retentions on more than three-quarters of their jobs.
Retentions are typically worth up to 5 per cent of a contract value and may take years to be paid.
Under other announcements in today’s wider statement on payment reform, large firms will also face a maximum 60-day payment term when paying smaller suppliers.
All commercial contracts will also be required to include statutory interest on late payments, set at 8 per cent above the Bank of England base rate.
The Small Business Commissioner will gain powers to investigate payment practices, adjudicate disputes and issue fines worth tens of millions of pounds against persistent late payers.
Boards of large companies with poor payment performance will be required to publish explanations and outline corrective actions in their annual reports.
The DBT said the changes represented the most extensive reform of payment legislation since the Late Payment of Commercial Debts Act 1998.
The package aimed to tackle late payment practices that the government said cost the UK economy £11bn each year across all sectors.
Business secretary Peter Kyle said too many firms were failing because of delayed payments and that the reforms would strengthen protections for smaller businesses. He said the measures would “transform the fortunes of small businesses for years to come”.