Avoid the Pitfalls of the Clause
General contractors utilize subcontract agreements to protect their interests and shift risk downstream to subcontractors. They accomplish this end by including powerful contract clauses that provided little escape from harsh outcomes if the project does not unfold as planned. One such clause is the contingent payment clause, also known as “pay when paid” or “pay if paid” clauses, which obliges a subcontractor assume the risk of the owner’s failure to pay.
Unfortunately, a subcontractor typically does not become aware of this clause until long after the subcontract is executed.
By this time, a subcontractor may assume they are at the mercy of the non-paying contractor as they watch their cash flow drop dramatically. Although the language in the standard contingent payment clause does not appear to provide much relief, Texas law actually provides subcontractors with some protection.
Understand the Law to Ensure Proper Payment
Texas Business & Commerce Code §56.054 attempts to balance the interests of general contractors and subcontractors by providing common sense application of contingent payment clauses. The statute first defines three key terms:
- “obligor” (often the owner)
- “contingent payor” (often the general contractor)
- “contingent payee” (often the subcontractor)
The statute provides that if the owner withholds payment to the general contractor due to the fault of the general contractor, the general contractor cannot withhold payment from a subcontractor. However, if the owner is withholding payment to the general contractor because of subpar work performed by the subcontractor, the general contractor is entitled to enforce the contingent payment clause against the subcontractor.
In the first example, the general contractor would have to pay the subcontractor even if it had not been paid by the owner. Otherwise, the general contractor would not have to pay the subcontractor.
If a contingent payment clause is enforceable against the subcontractor, there is still an exception to the rule if the subcontractor gives notice to the general contractor that it intends not to be bound by the clause. The statute provides a strict timeframe for providing the notices, which are ineffective as to subsequent payments and must be reissued.
Experience When and Where You Need It
It is important that you consult with an experienced attorney to ensure you follow the guidelines in the statute properly. The protections in the statute cannot be waived and cannot be used against a properly perfected mechanic’s and materialman’s lien-otherwise known as an M&M lien. Additionally, a contingent payment clause cannot be enforced if it would be “unconscionable.”
So who gets to define “unconscionable,” and what exactly does that mean to you? If you feel like the clause is unconscionable, the first step would be to mention your concerns to the other party and see if a compromise can be reached. It would probably be a good idea to do this in writing in case more action is required-even better, have your attorney provide the clarification request in writing. And yes, “more action” means a more formal process.
If reaching out to the other party does not resolve the unconscionable section of the contingent payment clause, then both parties would need to seek the assistance of the court to clear up any concerns.
A judge would then define what is or is not unconscionable, which is a more subjective deliberation than you would think. It really just comes down to a, excuse the pun, judgment call.
If you entered into a subcontract agreement with a contingent payment clause, it is important to be ready for action as soon as the general contractor attempts to enforce the provision against you. Failure to act can cost you a great deal.
The Cromeens Law Firm provides clients with expert navigation of the Texas contingent payment clauses, ensuring subcontractors protect their bottom line by having access to the right tools. Contact one of our experienced attorneys today by calling 713-677-2136 or contact us online to discuss your options.