Construction contracts routinely set payment terms as “pay-when-paid” or “pay-if-paid.” These terms protect the prime contractor from bearing all the risk of nonpayment by the owner. In Virginia, however, that will not be true for much longer. Last month, Virginia lawmakers passed Senate Bill 550, which makes “pay-when-paid” and “pay-if-paid” clauses unenforceable in most circumstances. Specifically, the new law applies to both public construction contracts and certain private construction contracts that involve at least one general contractor and one subcontractor. Construction companies at all tiers should understand the scope of this new law before entering any construction contract in Virginia on or after January 1, 2023.
The new law amends the Virginia Prompt Payment Act (Va. Code § 2.2-4354) and Virginia’s wage theft statute (Va. Code § 11-4.6), as applicable to both public and private construction contracts respectively. Here is what Virginia construction contractors need to know about the new law:
For Public Construction Contracts
- Contracts must include a payment clause that requires a contractor to be individually liable for the entire amount owed to any subcontractor.
- The contractor will not be liable for amounts that stem from the subcontractor’s noncompliance with the terms of the contract.
- If the contractor withholds all or part of the amount promised to the subcontractor, the contractor must notify the subcontractor, in writing, of its intention to withhold with the reason for nonpayment.
- Payment by the party contracting with the contractor must not be a condition precedent to the contractor’s payment to its subcontractor(s), regardless of whether the contractor received payment for amounts owed. (This essentially means that “pay-if-paid” or “pay-when-paid” clauses are no longer enforceable.)
- These payment requirements must flow down to the contractor’s subcontractors.
For Private Construction Contracts
- Contracts between an owner and the general contractor must include a provision that requires the owner to pay the general contractor within 60 days of receiving an invoice following satisfactory completion.
- Contracts between a general contractor and a subcontractor must include a provision that makes the higher-tier contractor liable for the lower-tier subcontractor’s duties under the contract.
- The higher-tier contractor must pay the lower-tier subcontractor within the earlier of (i) 60 days of the satisfactory completion of the work or (ii) 7 days after receiving amounts paid.
- If the owner or contractor withholds all or part of the amount promised to the general contractor or subcontractor, the owner or contractor must notify the general contractor or subcontractor, in writing, of its intention to withhold and the reason for nonpayment.
- Payment by the owner or higher-tiered contractor must not be a condition precedent to the contractor’s payment to its subcontractor(s), regardless of whether the contractor received payment for amounts owed, unless the party contracting with the contractor is insolvent or a debtor in bankruptcy. (This essentially means that “pay-if-paid” or “pay-when-paid” clauses are no longer enforceable.)
Contractors will have some time to prepare for these changes. These changes apply only to construction contracts executed on or after January 1, 2023. In addition, the new law defines “subcontractor” to exclude persons solely furnishing materials, so these changes do not need to be incorporated into purely supply contracts.
At bottom, this new law shifts the risk of nonpayment by the owner onto higher-tiered contractors. Construction contractors should compensate for this risk-shifting by taking the following steps:
- Ensure that private contracts include the new prompt payment provisions as well as interest penalties to the maximum extent possible.
- Modify “pay-when-paid” and “pay-if-paid” clauses to apply only to circumstances where the project owner is insolvent or files for bankruptcy protection.
- Include specific provisions in all subcontracts that allow the prime contractor to withhold payment from subcontractors and set out a clear process for doing so that meets the law’s new notification requirements.
- Structure private construction contracts to provide more frequent determinations of satisfactorily completed work and mandate payment within 60 days for that satisfactorily completed work.
In the meantime, if you want to discuss the implications of Virginia’s new law on your current prime contracts and subcontracts or would like to prepare for any necessary revisions and modifications to your contracts, please contact Kevin Barnett or Sara Nasseri, the authors of this blog, or another member of PilieroMazza’s Construction Industry Team.