Anthony LaPlaca | Seyfarth Shaw
For general contractors working in Virginia, 2023 marks the end of one of the more prolific contractual rights available—the pay-if-paid defense. Until now, pay-if-paid clauses were a valid means of shifting to subcontractors the risk of owner insolvency or wrongful withholding. In the spirit of freedom of contract, Virginia courts historically held that unambiguous language rendering owner payment a condition precedent to the contractor’s duty to pay subcontractors was enforceable.[1] Not any more. Under the new statutory regime, contractors must pay subcontractors regardless of whether the owner has timely made payment to them. Notably, however, contractors retain general withholding rights arising out of subcontractor default and, on private projects, have been afforded a new 60-day pay period in which the owner is obligated to deliver progress payment or notify them of withholding.
Senate Bill 550
Virginia Senate Bill 550 went into effect on January 1, 2023. This legislation modifies existing statutes to prohibit, for both public and private subcontracts, contingent pay clauses for all subcontracts entered into in 2023 and onward; though, as discussed below, the legal effect of Senate Bill 550 differs somewhat between public and private works of improvement.
Absolute prohibition on pay-if-paid in public works
The operative statutory amendment compels general contractors to include in all public contracts a payment clause that obligates the contractor to “be liable for the entire amount owed to any subcontractor with which it contracts.”[2] The statute further states that payment by the public owner “shall not be a condition precedent to payment to any lower-tier subcontractor, regardless of that contractor receiving payment for amounts owed to that contractor.”[3] Thus, any attempt to shift risk to subcontractors for the Commonwealth’s payment default violates public policy moving forward.
Notice of withholding on public works
To be certain, the new legislation preserves the general contractor’s right to withhold payment from subcontractors for amounts “otherwise reducible due to the subcontractor’s non-compliance with the terms of the contract.” However, general contractors have a statutory duty to notify subcontractors, in writing, of their intent to withhold part or all of an invoice, and the reasons for withholding. Such notice of withholding must be sent to both the subcontractor and the agency of the Commonwealth or the municipality awarding the prime contract, not later than 7 days after receipt of progress payment from the owner.[4]
Private projects: 60-day owner pay period
Section 11-4.6 of the Virginia Code governs payment on private projects for the construction, alteration, repair, or maintenance of any building or structure, including moving, demolition, or excavation related to private projects. Notably, the payment requirements of this Section only apply to subcontractors furnishing labor and materials, but do not apply to purchase orders with companies that are pure material suppliers, who are expressly exempted.[5]
At the ownership level, private owners are now obligated to satisfy invoices within 60 days following receipt of an invoice, provided there is “satisfactory completion of the portion of the work for which the general contractor has invoiced.”[6] The owner may still withhold on the basis of contractual withholding provisions (such as AIA General Conditions of Contract § 9.5), but must notify the general contractor “in writing and with reasonable specificity, of his intention to withhold all or part of the general contractor’s payment with the reason for nonpayment.”[7] The owner’s failure to make payment within 60 days of receiving an invoice triggers interest penalties under Virginia Code Section 2.2-4355. Before turning to the general contractor’s flow-down obligations, three things are worth noting about the 60-day owner pay period.
First, nothing in this statute prohibits general contractors from negotiating stricter pay periods than the 60-day statutory turn-around. In other words, 60 days is the ceiling for owner delay in payment or notice of withholding; a 20-day, 30-day, or 45-day period for owner payment remains enforceable in Virginia.
Second, the private owner’s payment obligations are triggered by the receipt of an invoice, which must be distinguished from the Owner or Architect’s certification that an invoice is valid. Contractual payment regimes that attempt to extend the Owner’s payment obligations beyond the statutory deadline by including prolonged review and approval process will not likely relieve the owner of its obligation to pay or notice withholding within 60 days of receipt of an invoice.
Third, the enactment of Senate Bill 550 does not impact the Owner’s ability to withhold retention on progress payments.[8] Private owners in Virginia may retain as much from progress payments as the market conditions warrant in negotiations of the prime contract (though public agencies remain limited to withholding 5%).[9]
Private projects: contractor payment with 60 days of pay period or 7 days of owner payment
Subsection C of the private payment statute requires general contractors to flow down payment to first-tier subcontractors within the earlier of: (i) 60 days after the satisfactory completion of the work invoiced by the subcontractor; or (ii) 7 days after receipt of payment by the private owner.[10]
By way of example, let’s say a subcontractor invoices the general contractor for work performed through and including June 30, 2023. The owner satisfies the general contractor’s June 2023 payment requisition on August 10, 2023. The general contractor would then be required to pay its subcontractors not later than August 17, 2023. If, however, the owner has not made payment to the contractor by August 30, 2023, the general contractor still has an obligation to pay all subcontractors (or otherwise notify them of legitimate grounds for withholding) by that date. The same analysis applies to first-tier and second-tier subcontractors receiving payment from the general contractor or higher-tier subcontractor, as applicable.
As with public projects, Subsection C precludes pay-if-paid clauses on private contracts, but does not preclude contractors and subcontractors from withholding, provided that they “notify the subcontractor, in writing, of his intention to withhold all or a part of the subcontractor’s payment with the reason for nonpayment, specifically identifying the contractual noncompliance, the dollar amount being withheld, and the lower-tier subcontractor responsible for the contractual noncompliance.”[11] Likewise, Subsection C has no impact on any contractual retainage provisions in subcontracts for private works projects
Conclusion
Starting January 1, 2023, the payment regime for public and private works projects in Virginia has forever changed. For public contracts, the pay-if-paid defense is no longer available and contractors must pay subcontractors or notify of withholding with 7 days of receiving payment from the Commonwealth or a municipality. For private projects, owners must pay general contractors within 60 days of receiving an invoice, while general contractors must pay their subcontractors or notify of withholding within the earlier of: (i) 60 days after a pay period expires, or; (ii) 7 days of receiving payment from a private owner.
[1] Univ. Concrete Prods. v. Turner Constr. Co., 595 F.3d 527 (4th Cir. 2010); but see Galloway Corp. v. S.B. Ballard Constr. Co., 250 Va. 493 (1995) (holding that “pay-when-paid” clauses must be interpreted to determine whether parties intended to allow for absolute withholding rights); James River Iron, Inc. v. Turner Constr. Co., 2004 WL 3001151, at *5 (Cir. Ct. 2004) (holding that a pay-when-paid clause, which is a mere timing mechanism for payment to subcontractors, only affords the general contractor a reasonable delay in making payment).
[2] Va. Code Ann. § 2.2-4354(1).
[3] Id.
[4] See Va. Code Ann. § 2.2-4354(2)(b).
[5] Va. Code Ann. § 11-4.6(A) (“General contractor” and “subcontractor” have the meanings ascribed thereto in § 43-1, except that those terms shall not include persons solely furnishing materials.”); Va. Code Ann. § 43-1.
[6] Va. Code Ann. § 11-4.6(B).
[7] Id.
[8] Id. (“Nothing in this subsection shall be construed to apply to or prohibit the inclusion of any retainage provisions in a construction contract.”).
[9] Va. Code Ann. § 2.2-4333.
[10] Va. Code Ann. § 11-4.6(C).
[11] Id.
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