Pay-if-Paid vs. Pay-when-Paid in Construction Contracts
Article drafted with Practical Law talking about the variations between pay-if-compensated clauses and pay-when-compensated clauses in construction contracts and also the enforceability of these provisions.
© 2015 Thomson Reuters. All rights reserved.
When drafting a contractor-subcontractor
agreement, it is not always clear which party
bears the risk of an owner’s nonpayment.
Whether a prime contractor remains obligated
to pay its subcontractors even if the owner
defaults may be governed by statute, case law
or contract. This Practice Note discusses how to
establish who bears that risk and whether the
risk can be shifted by contract.
One of the key provisions in any construction contract between a
general or prime contractor (contractor) and a subcontractor, or
between a subcontractor and its lower-tier contractor, deals with
payment. Most notably payment provisions focus on when, and even
whether, the contractor is obligated to pay the subcontractor for
work it performed. Subcontract payment provisions typically contain
terms identifying when the contractor is obligated to issue payment
to the subcontractor in relation to when the contractor is paid by the
owner. For a discussion of the owner-contractor payment process, see
Practice Note, Payment Provisions in Construction Contracts: Drafting
Depending on how the payment obligation in a subcontract is phrased,
it may be considered a “pay-when-paid” or “pay-if-paid” clause. The
legal difference between these two clauses is significant. If found to
be a pay-if-paid clause:
„„ The contractor may be relieved of any obligation to pay its
subcontractors for the work they performed.
„„ Subcontractors may be denied the right to recover against the
contractor’s payment bond, if one was posted.
A payment provision in a construction contract is construed as a pay-
when-paid clause if it only addresses the timing of the contractor’s
obligation to issue payment to the subcontractor, usually a set
number of days after the contractor receives payment from the project
owner. In this instance, the language is simply a timing mechanism
and generally does not excuse the contractor from having to pay the
subcontractor, regardless of whether the contractor has been paid by
the owner. A sample of this provision may be:
“Within five (5) days of the Contractor’s receipt of its monthly
progress payment from the Owner, the Contractor shall pay to the
Subcontractor all amounts paid to the Contractor by the Owner
on account of the work performed and materials provided by the
Subcontractor, exclusive of any retainage withheld under the
In this example, the subcontractor agrees that it is only entitled to
be paid for the work it performed after the contractor receives its
progress payment from the owner. Therefore, regardless of whether
the contractor is timely paid, or its payment is delayed after the owner’s
approval of its payment application, the contractor is not obligated to
pay the subcontractor until five days later. The contractor’s payment
to the subcontractor cannot be considered to be late until those five
days have lapsed.
The problem arises under one of the following circumstances:
„„ The owner’s payment to the contractor is significantly delayed,
usually due to the owner’s financial problems.
„„ The owner never pays the contractor because it files for bankruptcy.
Under a pay-when-paid clause, the subcontractor does not assume
the risk of the owner’s indefinite failure to pay for the work. The
subcontractor is presumed to have based its decision to enter into
the subcontract on the creditworthiness of the contractor rather than
the owner and looks solely to the contractor to be paid for the work
Pay-if-Paid vs. Pay-when-Paid in
MICHAEL S. ZICHERMAN, ESQ., PECKAR & ABRAMSON, P.C. WITH PRACTICAL LAW REAL ESTATE
View the online version at http://us.practicallaw.com/9-604-7025
© 2015 Thomson Reuters. All rights reserved. 2
Pay-if-Paid vs. Pay-when-Paid in Construction Contracts
Therefore, if the subcontractor is not paid within a reasonable time
after the subcontractor’s payment application is approved, it may still
be entitled to receive payment from the contractor, even if the owner
fails to pay the contractor. What is considered “reasonable” varies
depending on factors, such as:
„„ The law of the jurisdiction.
„„ The nature of the project.
„„ The work performed by the subcontractor.
„„ The terms of the parties’ contract.
Because the contractor bears the risk of the owner’s nonpayment
under a pay-when-paid clause, it may still be obligated to pay its
subcontractor for work for which it never received payment from the
Conversely, the intent and purpose of a pay-if-paid clause is to
completely shift the risk of the owner’s nonpayment from the contractor
to the subcontractor. However, the treatment of pay-if-paid clauses
varies from state to state. Counsel should consult the statutes and
case law in the applicable jurisdiction before drafting any subcontract.
In some states, pay-if-paid clauses are expressly illegal or void as
against public policy, either by statute or by case law. For example:
„„ Delaware. It is against public policy and void and unenforceable
for any provision in a construction contract or subcontract to state
„„ the contractor or subcontractor assumes the risk of nonpayment
by the owner; or
„„ a subcontractor relies on the credit of the owner and not on the
credit of the general contractor or a bonding company.
(Del. Code Ann. tit. 6, § 3507(e).)
„„ South Carolina. Payment by the owner to the contractor or from
the contractor to an upper-tier subcontractor is not a condition
precedent for payment to a subcontractor and any agreement to
the contrary is unenforceable (S.C. Code Ann. § 29-6-230).
„„ Wisconsin. Any provision making the receipt of payment by
the contractor from a party who does not have a contractual
relationship with a subcontractor a condition precedent to payment
to that subcontractor is void and unenforceable (Wis. Stat. Ann. §
779.135). The statute does not, however, prohibit contract provisions
that delay payment to the subcontractor until the contractor
receives payment from that third party (see Pay-when-Paid).
„„ New York. The New York Court of Appeals held that a provision
forcing the subcontractor to assume the risk that the owner will
fail to pay the contractor is void and unenforceable as contrary to
the public policy set out in New York Lien Law Section 34. The court
compared this to a pay-when-paid provision which merely fixes a
time for payment and is enforceable. West-Fair Elec. Contractors v.
Aetna Cas. & Sur. Co., 87 N.Y.2d 148, 158, 661 N.E.2d 967, 971 (1995).
Even in those states where pay-if-paid clauses are enforceable, they
are highly disfavored by the courts and will only be enforced where
the language clearly reflects the subcontractor’s agreement to
assume the risk of the owner’s nonpayment. For example:
„„ Florida. In Peacock Construction Co. v. Modern Air Conditioning,
Inc., the court confirmed the parties’ right to shift the risk of
the owner’s nonpayment to the subcontractor if the contract
unambiguously expresses that intention (353 So. 2d 840 (Fla.
1977)). The court further held that the burden of clear expression is
on the general contractor (see also, DEC Elec., Inc. v. Rafael Const.
Corp., 558 So. 2d 427 (Fla. 1990)).
„„ Ohio. Parties are free to shift the risk of loss from the contractor
to the subcontractor in the event the owner becomes insolvent
or otherwise defaults if the contract clearly and unequivocally
expresses that intent (Transtar Elec., Inc. v. A.E.M. Elec. Servs. Corp.,
140 Ohio St. 3d 193, ¶ 27(2014), 199, 16 N.E.3d 645, 651).
Even in states that recognize and enforce pay-if-paid clauses where
the language conclusively establishes that the subcontractor accept-
ed the risk of nonpayment, that clause does not prevent a subcon-
tractor who has not been paid from filing a mechanic’s lien against a
project. For example:
„„ Ohio. No contract that makes payment to a subcontractor or
lower-tier contractor contingent or conditioned on payment from
another party shall preclude that subcontractor or lower-tier
contractor from timely exercising its lien rights while awaiting
receipt of payment (Ohio Rev. Code Ann. § 4113.62).
„„ Illinois. Any provision in a contract where payment from a
contractor to a subcontractor is conditioned on receipt of payment
from another party is not a defense by the party responsible for
payment to a claim brought under Illinois’ lien law (770 Ill. Comp.
Stat. Ann. 60/21).
There is no clear metric as to what must be said for a payment clause
to be construed as a pay-if-paid provision. Therefore, the more spe-
cific the language used to clearly reflect the parties’ intent, the better.
Some courts have held that a payment provision that unequivocally
states that the owner’s payment to the contractor is a condition
precedent to the contractor’s obligation to pay the subcontractor is
sufficient to communicate the parties’ intent to transfer the risk to the
subcontractor (see, for example, Transtar at 651 (the use of the term
“condition precedent” clearly expresses the intent to shift the risk
of nonpayment to the subcontractor and negates the need for any
further language to demonstrate the intent to transfer the risk)).
A fairly standard pay-if-paid clause may be:
“The Owner’s payment to the Contractor on account of the
Subcontractor’s work shall be a condition precedent to the
Contractor’s obligation to make payment to the Subcontractor,
and the Subcontractor agrees that the Contractor shall have no
obligation to pay the Subcontractor unless the Contractor first
receives payment from the Owner for Subcontractor’s work.”
3Pay-if-Paid vs. Pay-when-Paid in Construction Contracts
To further clarify the pay-if-paid intent and more expressly reflect
that the contractor is not expected to be independently liable for the
cost of the work performed by the subcontractor, this type of general
statement can be supplemented with the following language:
“The Contractor shall have no liability or responsibility for any
amounts due or claimed to be due to the Subcontractor except
to the extent that the Contractor has actually received funds
from the Owner specifically designated for disbursement to the
For additional guidance in drafting a pay-if-paid clause, see Standard
Clauses, Pay-if-Paid Clauses in Construction Subcontracts (http://
Even if a contract contains an enforceable pay-if-paid clause, the
subcontractor does not bear all risk of nonpayment. As a general
principle of law, a party cannot seek to enforce a condition to an
obligation when it is directly responsible for the failure of that
Therefore, where the owner does not pay the contractor for a reason
that is solely attributable to the conduct of the contractor, then:
„„ The precondition of payment by the owner becomes inoperative.
„„ The subcontractor is generally entitled to payment from the
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