Pay-When-Paid vs. Pay-If-Paid Clauses in Construction Contracts

Pay-if-paid clauses in construction contracts can have major implications for a business’s bottom line. With a pay-if-paid clause, a subcontractor could be at risk of never being paid for the work or materials that they furnish on the project. Alternatively, without a pay-if-paid clause, a general contractor might be required to pay a subcontractor for work even if the contractor hasn’t been paid yet from the owner. Thus, most contractors strongly desire pay-if-paid clauses, and most subcontractors strongly resist pay-if-paid clauses.

Lingo can be confusing, however, as there is a difference between “pay-when-paid” clauses and “pay-if-paid” clauses. Though they sound similar, their effects on a contractor’s payment obligations to a subcontractor are drastically different.

Pay-if-paid clauses determine whether a contractor must pay a subcontractor at all. A pay-if-paid clause shifts the risk of owner nonpayment onto the subcontractor, where the risk would normally be borne by the contractor. The owner’s payment to the contractor is a necessary requirement to trigger the contractor’s duty to pay the subcontractor. If the owner never pays the contractor, the contractor is not required to pay the sub. A typical situation where this might occur in the real world is if an owner goes bankrupt and never pays the contractor. Pay-if-paid clauses are an important risk mitigation clause for contractors when payment on a project is hindered.

Pay-when-paid clauses, on the other hand, focus on the timing of when a contractor must pay a subcontractor. The contractor will always be responsible to pay the sub for the work within a reasonable time, even if the owner fails to pay the contractor. With a pay-when-paid clause, the contractor must pay the subcontractor, and the clause only addresses the timing of payment.

While some states have prohibited the pay-if-paid clauses, Pennsylvania courts generally enforce them. The language in the clause, however, must clearly establish that the owner’s payment to the contractor is a condition precedent to the contractor’s payment to the subcontractor. If the contract language isn’t specific and explicit, a court will often interpret the clause as a pay-when-paid clause and require the contractor to pay the subcontractor, even if the contractor did not get paid from owner.

The specific language of payment clauses can be complex, and there are different approaches to take to negotiate the terms. It is important to seek legal assistance for a contractor to protect itself from payment claims, and it is important for subcontractors to negotiate reasonable payment clauses. Saxton & Stump attorneys Aaron Scheibelhut, Jeff Bright, Ron Pollock, Matt Chabal, Mike Traxler and Ben Pratt are available to advise companies on contract issues, insurance disputes and construction litigation.