Changes coming for retention money obligations

Thursday 24 February, 2022

The current rules on retention money withheld from construction contracts lack clarity and may disadvantage subcontractors. Now, a new Bill is proposing changes to the way principals and head contractors must hold and account for retention money.  

Background 

On 22 November 2021, the Transport and Infrastructure Committee (TIC) recommended the passing of the Construction Contracts (Retention Money) Amendment Bill 2021, with some changes. If passed, this Bill will be significant for principals, construction companies and directors, as it changes how parties must hold and use retention money and introduces heavy fines for non-compliance.

In short, the Bill provides greater protection for payees (often subcontractors) who have had retention money withheld from them by payers (often principals or head contractors) under construction contracts. Under the old legislation, payers were able to mix retention money with their assets and working capital. If they became insolvent or mismanaged these funds, payees unfairly missed out on this money. The Bill contains new obligations for payers to manage these risks. For more detailed background on what retention money is, the need for reform, and the Bill as initially proposed, see our previous article: New rules and penalties for retentions regime - Tompkins Wake. 

Requirements for holding and disposing of retention money 

Holding requirements 

The old legislation and initial Bill are unclear on when funds become retention money, and the type of bank accounts that retention money can be kept in. 

The TIC clarifies that an amount becomes retention money at the time the payer can withhold it under the contract. This will vary depending on the specific contract terms between the parties. 

As soon as possible, the payer must hold these funds for the payee(s) in a designated retention money bank account or complying instrument, such as an insurance policy. This is known as holding funds ‘on trust’ for the payee(s). The bank account does not need to be a statutory trust account, and a third-party account can be used, such as one managed by an accountant or legal practitioner.

A payer can keep retention money for multiple payees in a single account, provided clear accounting records are kept. 

Use or disposal of retention money 

Under the old legislation, payers were allowed to use retention money to fix defects in the payee’s work as they wished. In some cases, the defects were not the payee’s fault, or they were willing to remedy the defects themselves. 

To address this, the TIC proposes stricter requirements for payers using retention money in this way. This includes a 10-day notification period, which gives payees a reasonable opportunity to fix defects or raise disputes. Failure to comply with the new notification regime will be an offence under the Act with a significant penalty.  

The TIC also provides guidance for payers who keep retention money for different payees and contracts in the same account. If it is unclear which retention money is owed to which payee, the balance of the account will be paid out according to the payees’ ledger balances. 

Reporting requirements 

Under the old legislation, payers were to report bank account or instrument details to the payee on request. For increased transparency, the initial Bill introduced a 3-monthly reporting requirement, which the TIC has affirmed. 

Once a payer holds retention money for a payee, they must report the amount held and the bank account or instrument details to the payee as soon as possible, and follow-up every 3 months. 

The TIC suggests deleting the provision that would include retention money in the payer’s payment schedule, as a monthly reporting requirement is unnecessary. 

Recording requirements 

The initial Bill required payers’ accounting records to comply with the Financial Reporting Act 2013. The TIC considers this a heavy compliance burden and recommends a set of minimum requirements more in line with the old legislation. It will be open to the government to impose stricter requirements through regulations. 

Under these relaxed rules, payers will be required to keep ‘appropriate’ records of all retention money bank accounts and/or complying instruments they hold for payees, and any other information required by regulations. 

Receivership or liquidation 

The initial Bill provides that a receiver or liquidator appointed to manage an insolvent payer’s assets will take over the payer’s responsibilities to hold retention money. This is known as taking over trusteeship. The TIC clarifies that this trusteeship automatically transfers if a new receiver or liquidator is appointed.  

The TIC inserts a new provision for payees to dispute the use of retention money by the receiver or liquidator to meet their fees and costs as trustee. The payee or new trustee can apply to the High Court to review or fix these costs. 

Offences and penalties 

Failure to keep or provide correct accounting and other records, or failure to comply with reporting requirements can each attract a fine of up to $50,000. 

Payers who fail to keep and use retention money as required, including failure to follow the new notification regime, could be fined up to $200,000. If the party is a company, its directors could also be fined up to $50,000 each. The TIC uses the definition of ‘director’ from the Financial Markets Conduct Act 2013. Any director, or someone in a comparable position by any name, could be captured by this provision, making it important for those in management positions to know these requirements.   

The TIC emphasises that the proposed penalties apply for each separate breach committed, which could expose payers to multiple fines. 

What now? 

The amendments proposed by the TIC may affect your obligations as a party to a construction contract and expose you to significant penalties. The Bill will continue to its Second Reading in Parliament and may undergo further changes. To keep up to date with the progress of this Bill and how it may affect you, check in on our website, or ask one of our experts. 

Thank you to Jordyn Renner (Summer Intern) for her contribution to this article.