Retentions regime to be tested

Law reform last year aimed to ring fence retention money in construction contracts, and in turn protect subcontractors when contractors go bust (Regime). See one of our previous publications on the Regime here.

How well that law achieves its purpose is about to be tested. Following the recent collapse of Ebert, its receivers, PricewaterhouseCooper (PwC) are asking the High Court to decide how approximately $3.7 million held in a separate bank account for retentions (the Fund) should be dealt with.

Directions sought

The uncertainties to be tested are set out in PwC’s summary of application to the court. In this article, we set out some of the key questions the Court is being asked. We will provide further comment after the Court issues an order (sometime after the hearing scheduled for 8 November 2018).

Why is PwC the person making the application?

PwC obtained control of the Fund following their appointment as receivers (by Ebert’s bank). While appointed by the secured creditor, PwC is seeking directions on how to deal with the Fund to the benefit of the relevant subcontractors.

Subcontractors may have an interest in the Court inquiring whether amounts held by Ebert outside of the Fund are or are not required to be distributed under the relevant rules (as at the time of the receivership certain amounts were in the process of being calculated, collected and paid into the Fund but that did not occur).   These amounts are not significant but the principle might be usefully considered in this context.  We understand that approximately $800k was to be processsed during the month the receivers were appointed or shortly thereafter and possibly $170k might relate to subcontractors that were incorrectly excluded from the Regime due to mis-recording the time their original contracts were entered into.

Which subcontractors have a basis to claim from the Fund?

The basis for retention claims against Ebert by subcontractors have been grouped into three categories. PwC has asked the Court to give directions as to which groups of subcontractors can claim from the fund:

  • Subcontractors with retention amounts invoiced, calculated, and then placed into Ebert’s retention account
  • Subcontractors with retention amounts invoiced and calculated but not placed into Ebert’s retention account
  • Subcontractors with retention amounts not invoiced, not calculated and not transferred into Ebert’s retention account

The Receivers have received legal advice that the more likely interpretation, given the fact situation, is that only subcontractors with retention amounts already invoiced, calculated and placed into Ebert’s retention account are entitled to a claim against the Fund. The Court has a significant decision to make. If it follows that view, the Court will be arguably interpreting the CCA so that subcontractors with retentions placed in a separate trust account are the only subcontractors who can claim from the Fund.

This is an interesting argument in light of the wording of the Act which places no obligation on a principal to place retention money in a separate trust account. In any event, the Court will have to decide whether only these subcontractors can draw from the fund, or all subcontractors owed retentions, or a middle ground of some kind.

Can subcontractors with incorrectly dated contracts claim from the Fund?

Some subcontractors (with claims as at the date of receivership of approximately $170k) had contracts that were incorrectly recorded as being entered into prior to the law on retentions coming into effect on 31 March last year, so that Ebert did not realise it was required to place these retentions on trust. PwC is asking the High Court whether these subcontractors have any entitlement to the Fund. Again, the court is faced with a significant decision. Does every subcontractor entitled to have its retention held on trust pursuant to the Regime get a piece of the pie? Or does access to a piece and the size of that piece, depend on Ebert’s compliance with the Act prior to insolvency?

Are subcontractors entitled to interest pursuant to section 18G?

PwC is asking the High Court whether interest is calculable on the subcontractors’ entitlements.  The Act says it would accrue from the date the amount is payable at a rate as set out in the subcontract or, failing that, the rate prescribed by regulations.  In this case we understand that for the most part there did not appear to be interest rates recorded in the subcontracts and to date no regulations were issued.  If the Court addresses this issue, the decision will not change the total amount of money available and could add complexity and cost to the court process.

Who will pay the receiver’s costs?

PwC has sought orders as to their own costs, requesting they be paid from the Fund. This is unlikely to be contentious given that, if PwC does not carry out the task of distribution, some other person or entity would have to be paid to do so. The task is for the benefit of subcontractors so the Court may consider it reasonable that payment for work associated with this task can be drawn from the Fund.

Interpretation of the CCA is required before distributions are made

The Court’s interpretation of the retentions provisions in the Construction Contracts Act 2002 is central. In particular, the court will have to choose between two general approaches:

  1. A subcontractor’s retention will only be established and set aside from assets available to other creditors if it has been properly accounted for in accordance with the Regime. If not, and the principal has not complied with its obligations under the Regime, this becomes the misfortune of the subcontractor in the principal’s insolvency. Either the retentions were not placed or not held on trust as directed by the Act in the first place, or a trust over the monies does not exist for uncertainty.
  2. All retentions owed to subcontractors are identified and the total of these amounts is set aside on trust and excluded from the pool of assets available to creditors. The Court could accordingly take the approach that those subcontractors whose retentions are not readily identifiable need to provide evidence of what amounts are owed to them before being entitled to any distribution – and a timeframe to do so could be provided. If the total amount of retentions owed exceeds the assets available, distributions of retentions could be pro-rated.

This is ultimately the decision of the Court, and will involve the Court striking a balance between the purpose of the Regime being to “help ensure payment of retentions money to payees”, and protecting assets that are not subject to trust that should be available to creditors with legitimate claims. The decision made by the Court in this application will of course be restricted to the particular circumstances of this case, but the Court’s approach to what money will be regarded as retention money will be instructive for future similar insolvency scenarios.

Lessons based on what is known now

As a subcontractor, it is important to know the status of your retention amount, confirm it exists and request the documentation. Accounting records may be the proof that your retention exists. While it may be a breach of the law for a principal not to keep proper records, this ought not be relied on because all the subcontractor will have in an insolvency is a claim against a principal for a breach of the act – likely of little or no value – after the company’s receivership and / or liquidation are in full effect.

Despite the fact that the law imposes obligations on the principal, the effects of the principal’s non-compliance are most keenly felt by the contractor / subcontractor in an insolvency scenario. It is therefore vital that a subcontractor exercise its rights of inspection around compliance with the Regime. This will increase its chances of having its retention monies identifiable.

A summary of the key provisions of the regime is set out at the figure here.

For advice on the retention regime, including in the insolvency context, contact one of our experts.

Contributor: Frank Brown, Solicitor

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