One of the themes in the Enterprise Bill relates to payment practices with the small business commissioner being tasked with adjudicating payment complaints against large companies. Barrister Professor Rudi Klein provides an update of progress on lobbying to protect cash retentions.
The retention scam I covered the shortcomings in the proposal for a small business commissioner in the January issue of SpecFinish, but during the debate on the Bill in the House of Lords the government acknowledged that it also needed to address the practice of withholding retention monies in the construction industry.
At any one time, £3 billion worth of retention monies are outstanding in the construction industry. As well we all know, the ostensible purpose of retention monies is to provide security in the event that a contractor does not, for whatever reason, return to remedy defects. But the abuse in the system is nothing short of scandalous.
- The withheld monies are rarely released voluntarily. The cost in chasing the monies and challenging refusals to release the monies often means that small firms write off millions of pounds of retentions each year.
- The monies are invariably used to improve the working capital of the party withholding them. Research carried out last year by the Specialist Engineering Contractors’ Group revealed that some local authorities were deducting 10 per cent retentions – double the norm – and others were using retention monies for the purpose of investment on the overnight money markets!
- Parties withholding the monies will often seek to blackmail small firms by refusing to release the monies unless they were prepared to reduce their final accounts.
- The final part of the retention monies is usually expected to be released after one year. In reality, the wait for the release of the monies can be upwards of two years – in some cases as long as five or six years.
- In 2015 approximately £40 million worth of retentions was lost by small firms because of upstream insolvencies. The largest loss resulted from the demise of GB Building Solutions. In law, retention monies belong to the firm from whom they were withheld; they are deducted from payments that have become due. Furthermore, on public sector projects, subcontractors will always lose their retention monies when the main contractor goes bust. The main contractor does not have such risk since public bodies don’t go into insolvency.
The £40 million lost last year could have funded 4,000 apprentices in the construction industry!
The government’s review of retentions
The government is now undertaking a cost benefit analysis of the retention system. It aims to eliminate retentions by 2025. The following is from a House of Commons debate:
Construction Sector: Cash Retention
David Simpson (Upper Bann) (DUP): “What steps are the Government taking to tackle cash retentions within the construction sector?”
The Minister for Skills (Nick Boles): “We are working with the industry through the Construction Leadership Council and its supply chain payment charter, which includes a commitment to zero retentions by 2025”.
HANSARD 15 Sep 2015: Column 891
All this is welcome. A review of the retentions system is long overdue and, assuming it leads to the abolition of the system, so much the better. (As long ago as 2002, the Trade and Industry Select Committee recommended the phasing out of the system. This recommendation was repeated again by the same Committee in 2008.) But, in the meantime, small businesses in the industry continue to suffer unacceptable abuse and the risk of losing their monies due to insolvencies. Even if we were to assume that the practice of deducting cash retentions will be eliminated by 2025 and if the insolvency losses incurred in 2015 are to be repeated each year, then by 2025 small businesses in the industry will have lost £400 million!
What still needs to be done
The overriding priority now is to ensure that, until this happens, cash retentions are placed in a ring-fenced or protected account. A suitable model is the tenancy deposit schemes that operate under the 2004 Housing Act. Deposits paid in connection with shorthold tenancies must be placed in a government authorised deposit scheme. Similarly, retention monies should be placed in a secure deposit account. This would accord with legislation already introduced in certain EU states, certain Australian and US States, and, very recently, in New Zealand.
If the government was to adopt a similar solution this would complement its current review and, far from pre-empting a solution which the government might come up with, it would help realise the aim of abolishing retentions by 2025. If cash retentions have to be placed in trust, or in a deposit account, this would also deter those wishing to deduct and use them for purposes for which they were not intended; there would be little point in withholding the cash unless one can use it.
When considered fully, why would anyone object to funds belonging to a small business being protected from misuse and/or total loss (often because of events over which that business has no influence or control)? This issue has already been addressed in a different sector – the rented property sector; why not apply the same principles to cash retentions?
Moreover the available solutions for effective protection of cash retentions are very limited. A legislative solution would be the most effective solution to protect these funds (as other jurisdictions have acknowledged).
If we were to achieve this, banks and other lending institutions would be prepared to increase their lending to small firms on the back of the security provided by retention monies being held in a secure account. This would, in turn, help to promote growth and productivity in the small business sector, which the government says it is keen to promote.
What can SpecFinish readers do now?
The Enterprise Bill is now in the House of Commons. Send this article to your MP. Ask if your MP would support a measure for inclusion in the Bill that cash retentions are placed in a retention deposit account (similar to the model already adopted for tenancy deposit schemes).
Do you have any cash retention horror stories?
Let your MP know and forward them to the Editor (anonymity will be preserved unless you state otherwise).
It’s about time that we ended the scandal of the abuse and misuse of cash retentions.