Termination, rights to withhold payment and withholding notices under the Housing Grants, Construction and Regeneration Act 1996 Under the JCT suite of contracts, an employer is entitled to terminate the contractor’s employment where the contractor has become insolvent (including the appointment of administrative receivers in relation to the contractor). If an employer exercises this right of termination, the JCT provisions set out the resulting financial consequences. These provisions envisage that the employer may have a cross claim in damages against the contractor which exceeds the amount of the contractor’s claim for unpaid work; and so gives the employer a right to withhold further payments as security for such cross-claims, pending completion of the works and the preparation of a final account. In the following case, House of Lords considered, amongst other things, whether the JCT provisions which give the employer a right to withhold further payments (referred to above) are consistent with section 111(1) of the Housing Grants, Construction and Regeneration Act 1996 (the “Construction Act” ). Section 111(1) stipulates:

“A party to a construction contract may not withhold payment after the final date for payment of a sum due under the contract unless he has given an effective notice of intention to withhold payment.”

If it was impossible for the employer to give a timeous and effective notice of intention to withhold payment - because the employer’s right to terminate arose after the final date for payment - did that mean that the employer could not withhold payment? In the words of one of the Law Lords:

“ ... must the words of this subsection be taken literally?”

Melville Dundas Ltd (In Receivership) & Ors v George Wimpey UK Ltd & Ors [2007] UKHL 18

The parties entered into a contract which incorporated that JCT Standard Building Contract with Contractor’s Design (1998 edition) (“JCT Contract”). On 3 May 2003, the contractor applied for an interim payment. Under the JCT Contract:

  • the final date for payment of the interim payment was fourteen days from the date of the contractor’s application, i.e. by 16 May 2003; and
  • Wimpey (as developer) was obliged to submit a notice of intention to withhold payment in relation to such interim payment five days prior to the final date for payment, namely, by 11 May 2003.

Wimpey did not submit a notice of intention to withhold payment in relation to such interim payment by 11 May 2003; and it did not make the interim payment to the contractor on 16 May 2003.

On 22 May 2003, administrative receivers were appointed in relation to the contractor, which entitled Wimpey, under the JCT Contract, to determine the employment of the contractor. Wimpey exercised this right on 30 May 2003.

The grounds on which Wimpey refused to make the interim payment

Wimpey argued that clause 27.6.5.1 of the JCT Contract entitled the employer to retain the interim payment. It provided that, where the employer determined the employment of the contractor as a result of the appointment of administrative receivers in respect of the contractor:

“... the provisions of this contract which require any further payment ... to the contractor shall not apply”

(until completion of the works and the preparation of the final account).

The grounds on which the contractor claimed the interim payment

The contractor argued that it was entitled to the interim payment due to it on 16 May 2003 on two grounds:

First, clause 27.6.5.1 of the JCT Contract entitled the employer not to make “any further payment” to the contractor. “Further payments” did not include interim payments which the employer was already due to pay under contract before the determination of the contractor’s employment.

Secondly, even if clause 27.6.5.1 did apply, section 111 (1) of the Construction Act invalidated clause 27.6.5.1 since no valid notice of intention to withhold payment had been issued by 11 May 2003.

Did “any further payment” (in clause 27.6.5.1) include or exclude payments already due?

The House of Lords held that the words “any further payment” in clause 27.6.5.1 of the JCT Contract were unqualified. Their plain meaning was that the contractor ceased to be entitled to require any further payment whatever - whether or not already due - pending the making up of the account following completion of the works. Thus clause 27.6.5.1 entitled Wimpey to withhold the interim payment which had become due on 16 May 2003. Did section 111 (1) of the Construction Act invalidate clause 27.6.5.1? The House of Lords was divided: three of the Law Lords held that section 111 (1) of the Construction Act did not invalidate clause 27.6.5.1 of the JCT Contract; whilst two dissenting Law Lords held that section 111 (1) of the Construction Act did invalidate clause 27.6.5.1 of the JCT Contract. The majority of the House of Lords: section 111 (1) did not invalidate clause 27.6.5.1

The reasoning of the majority was as follows:

  • The purpose of section 111 (1) of the Construction Act was to enable the contractor to know immediately and with clarity why a payment was being withheld.
  • The purpose of clause 27.6.5.1 of the JCT Contract was to give the employer a limited right (pending completion of the works and preparation of a final account) to retain funds by way of security for any cross-claims the employer may have against the contractor.
  • In enacting section 111(1), Parliament probably did not consider a situation in which parties would enter into contracts under which the ground for withholding a payment would arise after the final date for payment.
  • Parliament enacted the payment provisions contained in the Construction Act to maintain the contractor’s and sub-contractors’ cash flow. However, if section 111 (1) of the Construction Act was held to prevent an employer from retaining money which provided him with security for his cross claim, the reality was that such money would go to straight to the contractor’s bank. The contractor and its sub-contractors (as unsecured creditors) would not get anything. It would therefore serve no practical purpose to construe section 111(1) so as to prevent the employer from retaining the money.
  • It was absurd to impute to Parliament an intention to nullify clauses like clause 27.6.5.1 of the JCT Contract by providing a notice requirement with which the employer could never comply.
  • Section 111(1) had to be construed in a way which was compatible with the operation of clause 27.6.5.1.

One of the Law Lords (in the majority) also reasoned that Section 111(1):

  • applied only during the currency of the contractor’s employment under the contract, in relation to the stage payments to which the contractor was entitled (under section 109 of the Construction Act); but
  • did not apply following determination of the contractor’s employment.

(All the other Law Lords disagreed with this reasoning.)

The dissenting Law Lords

Two Law Lords dissented from the majority view on numerous grounds, including the following:

  • Section 111(1) was unambiguous and unqualified.

As a matter of statutory interpretation, if a statute provided that a person “may not withhold payment” after a specified date has passed, then a contractual provision that he may do so, must be ineffective.

It was clear from consultation papers published prior to the Construction Act that Parliament intended the Construction Act to contain “certain essential terms [which] may not be omitted or substantially varied”. [Emphasis added]. These essential terms included prompt payment and protection against insolvency.

Parliament could not have overlooked the fact that the grounds for withholding payment could arise after the cut off date for a notice under section 111(1).

If it was correct that, once a “final date for payment” had passed, it was possible for parties to agree terms which could retrospectively render a stage payment “undue”, then it would be possible for parties to render “undue” a stage payment in almost any circumstances they wished. This would render the provisions of the Construction Act, which require payment to be made by the final date for payment unless a valid withholding notice has been served, a “dead letter”.

Editors’ comments

On the issue of statutory interpretation:

  • the majority of the House of Lords stated that section 111(1) had to be construed in a way which was compatible with the operation of clause 27.6.5.1; whilst
  • the minority of the House of Lords stated the opposite - namely, that, in so far as clause 27.6.5.1 was incompatible with section 111(1), the clause was ineffective.

The current review of the Construction Act does not include section 111 of the Construction Act. However, in the light of the dissent within the House of Lords on the effect of section 111(1), we wonder whether the scope of the review will now be extended to include section 111.