The introduction of security of payment legislation in all Australian jurisdictions has reinforced the common law position that ‘pay when paid’ and ‘pay if paid’ clauses are void in respect of contracts for construction works performed or related goods and services supplied in Australia. In Queensland for example, s 16 of the Building and  Construction Industry Payments Act 2004 (Qld) provides that ‘a pay when paid provision of a construction contract has no effect in relation to any payment for construction work carried out or undertaken to be carried out, or related goods and services supplied or undertaken to be supplied, under the construction contract’. Prior to the bar on 'pay when paid' and 'pay if paid' provisions under security of payment legislation, courts had viewed such clauses unfavourably: seeWard v Eltherington [1982] QdR 561; Sabemo (WA) Pty Limited v O’Donnell Griffin Pty Limited (1983) (unreported, Court of Western Australia); Crestlite Glass & Aluminium Pty Ltd. v. White Industries (QLD) Pty Ltd (Unreported, Federal Court of Australia).

While head contracts are typically drafted to avoid such clauses, 'pay if paid' and 'pay when paid' mechanisms tend to inadvertently creep into subcontract provisions concerning the release of security or head contract claims. 

Release of security

A clause that provides that the release of security under a subcontract will be subject to the release of security under a head contract is a 'pay when paid' provision. These clauses are typically drafted so that the subcontractor will be paid the outstanding security when the contractor is paid its security under the head contract.

While it is common for contractors to seek to extend  the various periods under subcontracts to coincide with events under the head contract, drafters must be careful that such an event under the head contract is not the payment of money. An alternative trigger to provide for the release of subcontract security is to make the release of the subcontract security subject to practical completion or the expiry of the defects liability period under the head contract. 

Head contract claims

A clause that makes recovery of a claim under a subcontract subject to payment for the claim under the head contract is effectively a 'pay if paid' provision. Variation, delay costs and latent condition clauses under subcontracts sometimes provide that the subcontractor’s entitlement to a claim will be subject to whether the contractor is able to recover payment for such a claim under the head contract. Sometimes such clauses go even further and require subcontractors to incorporate their claim within the contractor’s claim under the head contract (effectively subrogating their rights to what the contractor can recover and further limiting options for the subcontractor to independently recover against the contractor).

Generally, a subcontractor’s entitlement to recover payment of a claim under the subcontract should be tied only to the subcontractor’s compliance with the subcontract. Accordingly, a condition to payment of the claim which is referrable to the contractor receiving payment under the head contract may be deemed a 'pay if paid' clause and, if so, therefore void. 

In any event, where the contractor does not receive payment under the head contract because it fails to comply with the requirements for making a claim under the head contract, it will likely be considered unreasonable to preclude a subcontractor’s entitlement to receive payment as  the contractor’s non-compliance with the head contract is out of the subcontractor’s control.

Conclusion

Parties to a construction subcontract must ensure that any provisions which make payment (including the release of security or payment of a claim) subject to the head contract do not unintentionally result in a 'pay when paid' or 'pay if paid' mechanism. To avoid this, subcontract payment provisions should be carefully drafted so that payment is subject to an event under the head contract rather than payment.