A recent TCC decision appears to mark a departure from the position in Scotland as to whether an employer is entitled to raise set-offs not previously raised in a pay less notice. The TCC’s decision in supporting the approach taken by an English adjudicator appears to endorse a “cards on the table” approach, in contrast to the more lenient position in Scotland. Further decisions in both jurisdictions will be needed before the law on this topic becomes clear. In the meantime, parties would be best advised to continue to include all relevant set-offs and counterclaims in any payment or pay less notices.

Section 111 of the Construction Act: a recap

Under Section 111 of the Housing Grants, Construction & Regeneration Act 1996 (as amended in 2011) (the “Construction Act”) a party to a construction contract must, in relation to any payments falling due under the contract, “pay the notified sum … on or before the final date for payment”. A notified sum is either the amount stated in a payment notice issued by the payer or a third party certifier or, in default of such a notice, a prior payment application or subsequent payment notice issued by the payee. However, if a pay less notice is subsequently issued by the payer the amount stated in the pay less notice becomes the notified sum. The notified sum may subsequently be challenged by either party through adjudication or court proceedings.

By contrast, prior to the 2011 amendments, the position under section 111 was that a payer “may not withhold payment…of a sum due under the contract” unless it had given a valid “withholding notice” specifying the amount(s) to be withheld and the grounds attributable to each amount.

The difference in wording is potentially important. The old section 111 specifically sought to remove a payer’s entitlement to set-off unless expressly included within a withholding notice. The new section 111 says nothing about a payer’s entitlement to withhold payment and deals only with the circumstances in which a payer is required to pay a notified sum. A question therefore arises as to whether a payer retains an entitlement to set-off where that entitlement has not been expressly referred to in a payment notice or pay less notice. Such an issue is most likely to arise where a payee brings an adjudication to challenge a payment notice or pay less notice, and the payer seeks to rely on new set-offs in defence of those proceedings.

DC Community Partnerships Limited v Renfrewshire Council

In this Scottish case decided at the end of 2017 (covered in our Law-Now here) a dispute arose over the sum the Council was due to pay in respect of an interim payment. The Project Manager certified an amount significantly less than the amount applied for and the Council paid the certified sum. The Council did not issue a pay less notice. The contractor started an adjudication on the payment certificate seeking an increased amount and the Council claimed an entitlement to set-off liquidated damages from any further sums the adjudicator may find due.

The adjudicator awarded additional sums to the Contractor but did not specifically refer to the Council's set-off argument. On enforcement, the court refused to enforce the adjudicator's decision on the basis that the adjudicator had failed to consider the Council's entitlement to deduct liquidated damages. The court found that the “notified sum” in section 111 could not sensibly be construed as including any additional sums that an adjudicator may later decide are due. The Council had paid the “notified sum” and there was nothing preventing it from raising new defences in response to the contractor’s claim for an increased payment.

M I Electrical Solutions Limited v Elements (Europe) Limited

A recent unreported decision in the TCC may endorse a contrary approach to section 111. In that case a sub-contractor (“MIES”) commenced an adjudication for the recovery of £179,931.57 in respect of two payment applications. The contractor (“Elements”) had issued a pay less notice quoting a negative sum due to the sub-contractor on account of delay claims. After the commencement of the adjudication, Elements discovered what it alleged to be extensive defects in the work carried out by MIES and sought to set-off sums on account of the repair of those defects in the event that the adjudicator otherwise found MIES entitled to the sums claimed.

The adjudicator declined “to form any view on the merits of what Elements submitted about these ‘significant and extensive faults’” because they had not been included within the pay less notice. Somewhat inexplicably Elements did not raise any natural justice challenge in this regard, but instead attempted to make out an entitlement to set-off its defects claim against the adjudicator’s decision. This attempt was rejected by the TCC principally on the basis that the adjudicator had already decided the point. As the court noted: “The substantive point decided by the Adjudicator was that only points included in the Pay Less notice are capable of being relied on as a defence and the cross-claim for defects was not included.”

The judgment notes that Elements had not sought to have this substantive point determined afresh by the court. Nonetheless, certain passages of the judgment appear to approve the adjudicator’s approach. For example, the court noted in simple terms that: “The time at which to raise defective works in defence of a cross-claim to a claim for payment is in the Pay Less notice.” And in dealing with a subsidiary point as to the applicability of a set-off provision in the sub-contract: “the requirement, in that context, as I have construed it, is that the Pay Less notice should have been served identifying the set-off relied upon”.

Conclusion and implications

As noted in our earlier Law-now on the DC Community case, some English commentators had expressed surprise at the approach taken in Scotland and suggested that the practice in England was more in favour of a “cards on the table” type of approach. The present case would appear to bear these comments out, both in terms of the adjudicator’s decision and the court’s apparent approval of it.

However, the court’s comments in this regard were obiter and the DC Community case does not appear to have been raised by either party. The absence of any natural justice challenge meant that the correctness of the adjudicator’s approach did not need to be reviewed. The question therefore remains open under English law, albeit the present decision suggests that both judicial opinion and adjudicator practice exist opposed to the approach in the DC Community case.

Given the uncertainty around the English approach to this issue, parties would be well advised to set out all of their potential set-offs in any payment or pay less notice. Whilst this may be more time consuming and dispenses with a payer's ability to use additional set-offs as a surprise tactic, it should ensure that a payer is able to rely on those set-offs in any subsequent adjudication proceedings.

References:

DC Community Partnerships v Renfrewshire Council [2017] CSOH 143.

M I Electrical Solutions Limited v Elements (Europe) Limited [2018] EWHC 1472 (TCC).