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Construction Law update – Court gives useful reminders about payment claims and payment schedules

October 19, 2020

Harriet Quinlan Senior Associate
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There have been a few recent Court decisions that have clarified some questions regarding the validity of payment claims and payment schedules.

 

Payment Claims must be accompanied by a Form One notice

 

Since December 2015, payment claims served under all construction contracts (commercial and residential) must be accompanied by a “Form 1 notice”. The Form 1 notice is a prescribed form in the Construction Contracts Regulations, which explains the process for responding to the payment claim, and an explanation of the consequences of not responding to the payment claim and not paying the claimed or scheduled amount.

 

The recent cases of PHI Construction Ltd v Insight Plumbing (NZ) Ltd and Poly Wealth Trustee Ltd v van Vlerken have clarified that every payment claim served by a payer must include a Form 1 notice. If a payment claim is not accompanied by a Form 1 notice (which was the case in PHI Construction Ltd), it is not a valid payment claim.

 

This is important for both payers and payees to be aware of, because an invalid payment claim will not trigger the default obligation on the payer to pay the claimed amount if a payment  schedule is not provided in time.

 

To explain …

 

As is well known, if a payer does not respond to a payment claim with a valid payment schedule in the requisite time, section 22 of the Construction Contracts Act 2002 (CCA) says that the payer becomes liable to pay the entire amount of the payment claim on the due date for the payment. This is an “all or nothing” approach. Where section 22 applies, the Courts and Adjudicators will enforce the payee’s right to payment, and will not circumvent it simply because the payer has a counterclaim or disagrees with the claimed amount.

 

The case law on payment claims establishes a principle that Courts will not require strict adherence to the requirements of the CCA, and technical noncompliance will not normally invalidate a payment claim. However, the Court in PHI Construction Ltd said that the absence of a Form 1 notice is a substantive breach and therefore invalidates the entire payment claim.

 

Parties previously may have thought a Form 1 notice is not required because the parties involved are experienced in the construction industry and understand the payment  claim/payment schedule process. The Court rejected this argument and held that regardless of the parties’ expertise, any payment claim served without a Form 1 notice is invalid.

 

A payee also cannot be saved by saying they had included a Form 1 notice with previous  payment claims. The Court said every payment claim must contain a Form 1 notice to be valid.

 

It is therefore imperative that a payee serves a valid payment claim if it wishes to take advantage of the default liability to pay under section 22.

 

Payment Schedules

 

The Court has given helpful guidance on the requirements for a valid payment schedule, in The Fletcher Construction Company Limited v Spotless  Facility Services (NZ) Limited. Again, this is important for both payers and payees to be aware of, because an invalid payment schedule triggers a default liability to pay the payee the full amount claimed in their payment claim, and entitles the contractor/subcontractor to issue a notice to suspend works. Spotless was a subcontractor for Fletcher on the Commercial Bay development. Spotless had issued a Payment Claim seeking payment of around $2million. Fletcher issued a Payment Schedule in response. The Payment Schedule certified less than the amount claimed by Spotless for the subcontract works and for variations, and asserted contra charges. Fletcher’s Payment Schedule stated that Spotless owed Fletcher around $4million.

 

Spotless then issued a notice of intention to suspend its contract works, asserting that the  Payment Schedule was invalid and therefore Fletcher had failed to issue a valid payment schedule within the time required by the subcontract and had failed to
pay the claimed amount.

 

Spotless asserted that the Payment Schedule did not comply with section 21(3) of the CCA as it did not:

 

  •  indicate the manner in which Fletcher had calculated the scheduled amount; and/or
  •  indicate the reasons for the difference between the scheduled amount and the claimed  amount.

 

Fletcher sought a Court declaration that the Payment Schedule was valid and therefore Spotless’
notice of intention to suspend works was invalid.

 

We briefly outline some of the challenges to the Payment Schedule, and the Court’s conclusions,
below.

 

Scheduling lesser amounts based on a percentage of work complete

 

Fletcher scheduled lesser amounts for the subcontract works by deducting five or 10 per cent from Spotless’ claims based on 100 per cent completion. While Fletcher did not specify the percentage figure, the Court found that given the practice of Spotless and Fletcher of calculating payments as a percentage of work under each item, Spotless could readily ascertain the  percentage figure, so these deductions complied with section 21(3) of the CCA.

 

Insufficient reasons for percentage figures

 

Fletcher did not update comments where it scheduled a different percentage rate for some of the subcontract works. The Court did not consider this as non-compliance with section 21(3) because it would have been obvious from the percentage figures how much work Fletcher considered had been done.

 

Absence of reasons

 

In some cases, Fletcher made no comment at all but scheduled 95 per cent of the total amounts claimed. The Court said this is a technical non-compliance with section 21(3), but where the deductions were small ($5,000), a certification of 95 per cent would sufficiently indicate to Spotless that Fletcher considered there was a small amount of finishing work required.

 

Where the amount deducted was more than $20,000, simply noting a five per cent deduction does not sufficiently indicate reasons for the deduction. Additionally, where Fletcher scheduled payment for 40 per cent of the work against a claim for 95 per cent, the Court considered a complete absence of any reason to be non-compliant with section 21(3). However, because these deductions only represented 4% of the amount claimed by Spotless for those items, the non-compliance did not invalidate the entire Payment Schedule.

 

The Court also found that an absence of reasons for scheduling lesser percentages for variations was non-compliant because there may have been a variety of reasons why Fletcher refused to schedule the claimed amounts, and their decision may have been arbitrary. The Court likely came to this conclusion because it is more difficult to assess a percentage of work completed for variations than it is for subcontract works.

 

Claims “under assessment”: Fletcher rejected some variation claims and noted they were “under assessment”. The Court found this, in itself, is insufficient as a reason for the purposes of section 21(3), particularly where the payer declines payment altogether. At a minimum, there should be some indication of the purpose of the assessment.

 

Contra charges – “refer to Aconex correspondence”: Fletcher’s contra charges were for  liquidated damages under the head contract, and a deduction of around $2.6million for delay claims brought by other subcontractors, which Fletcher says was caused by Spotless. The Comments column alongside the deduction for the delay claims by other subcontractors said “Refer to Aconex correspondence for breakdown of claim”. There was no Aconex document number reference. The Court said that notwithstanding verbal conversations between Fletcher and Spotless, given the size of these deductions, Fletcher was obliged to indicate with some clarity how the charges arose and the basis upon which they were calculated. A general
reference to “Aconex correspondence” was not enough.

 

Because the contra charges for delay claims made up over half of the total value claimed by Fletcher for contra charges in the Payment Schedule, the Court found the entire Payment Schedule did not substantially comply with the CCA and was therefore invalid. Spotless’ notice of suspension was therefore valid, and Fletcher was required to pay to Spotless the full amount claimed in the Payment Claim.

 

Key message for Principals and Head Contractors

 

This case demonstrates that the payment schedule must indicate reasons for each deduction. However, the sufficiency or otherwise of each reason, and the consequence of an insufficient reason, is largely dependent on the size of that deduction in the context of the payment claim as a whole. Where the relevant deduction is significant, more detailed reasons may be required, and non-compliance is more likely to invalidate the entire payment schedule.

 

A key point for those drafting payment schedules to remember is that the purpose of the  payment schedule is to “give the contractor/subcontractor full and unequivocal notice of all areas of difference or dispute to enable it to properly assess its future options”.1

 

  1. Metalcraft Industries v Christie HC Whangarei CIV-2006-488-645, 15 February 2007, Harrison J
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