Holdback obligations under builders lien legislation are often misunderstood, even by those in the construction industry. The requirement to retain a 10% holdback does not arise by contract, but by virtue of the Builders Lien Act.
The purpose of the holdback under the Builders Lien Act is both to provide security for contractors and subcontractors who supply labour and materials to a construction project and to limit the liability of owners who have hired and paid a general contractor against liens filed by subcontractors further down the contractual chain. As they relate to limiting an owner’s liability, the holdback provisions limit the liability of those who retain the holdback in the event that someone further down the chain files a claim of lien.
It is important to note that a builders’ lien holdback is not to be used as a deficiency holdback or as compensation for delays or other claims respecting the work performed on the project. Those types of holdbacks are often written into contracts, but they are separate from builders lien holdbacks.
The Act requires everyone in the contractual chain, starting from the project owner, to retain a 10% holdback from all amounts paid in respect of work done on a construction project. It does not matter whether the contract itself allows for such a holdback; the requirement to retain a holdback arises out of the legislation, not the contract:
4 (1) The person primarily liable on each contract, and the person primarily liable on each subcontract, under which a lien may arise under this Act must retain a holdback equal to 10% of the greater of
(a) the value of the work or material as they are actually provided under the contract or subcontract, and
(b) the amount of any payment made on account of the contract or subcontract price.
(2) The obligation to retain the holdback under subsection (1) applies whether or not the contract or subcontract provides for periodic payments or payment on completion.
So, starting from the owner down the contractual chain, 10% must be held back from every payment made on account of the contract. If the value of the work or material supplied is greater than the amount of any payment made on account of the contract price (for example, where “extras” have been agreed to and carried out), the owner must hold back 10% of the value of the work.
By way of example, an owner holds back $40,000 from the general contractor over the course of the construction of a house that had a fixed price of $400,000. The general contractor gets into financial trouble from cost overruns on this or other projects and does not pay the plumber, electrician and tile setter. Each of those subcontractors files claims of lien, which total $60,000. It is hardly fair that the owner should be expected to pay out money that he or she has already paid to the general contractor. Instead, assuming the liens are validly filed, the holdback funds are used to pay the subcontractors on a pro rata basis, leaving the subcontractors to pursue the general contractor for the difference. Having properly retained and paid the holdback funds, the owner has no further liability to the lien claimants.
If there is no general contractor and the owner contracts separately with each trade, the owner must retain a holdback from each trade, as set out above.
What Happens if the Owner or a Contractor doesn’t Retain a Holdback?
If an owner does not retain a holdback, they will still be liable to the extent of the amount that the holdback should have been. The result is that, even though they’ve paid the general contractor the full amounts of their invoices, the owner will be required to pay 10% of those amounts again. In effect, the owner will be forced to pay 110% of the contract price where liens filed against the property have been proven.
The same situation will be the case where a general contractor fails to retain a holdback from its subcontractors. If anyone below those subcontractors files a claim of lien (whether a sub-subcontractor or a material supplier), the contractor is liable to pay the 10% that it should have retained to satisfy the lien claimants.
Where does Holdback Money go?
The Act requires that holdback money be deposited into a holdback account. The holdback account is to be jointly administered by the owner and the contractor.
When can Holdback Money be Released?
The Act dictates when holdback money can be released. The length of time that holdback money has to be retained is tied to the lien period. The lien period runs for 45 days and starts when one of three triggers occurs:
- completion of the head contract, or, if there is no head contract, substantial completion of the project;
- termination of the head contract before a certificate of completion has been issued;
- abandonment of the head contract before a certificate of completion has been issued.
The determination of each of these triggers depends on the facts of each case. The most common trigger is completion. As stated above, if there is no head contract, “completion” is determined by the status of the project as a whole. It is important to note that “completion” does not mean total completion; it means substantial completion. It is determined by a formula set out in the Act, and is evidenced by a certificate of substantial completion posted on site. The formula for determining when substantial completion occurs is described as follows in the Act:
(2) For the purposes of this Act, a head contract, contract or subcontract is substantially performed if the work to be done under that contract is capable of completion or correction at a cost of not more than
(a) 3% of the first $500,000 of the contract price,
(b) 2% of the next $500,000 of the contract price, and
(c) 1% of the balance of the contract price.
Whatever the trigger (completion, termination or abandonment), the Act calculates the holdback period as being 55 days after the start of the lien period. In other words, holdback money is to be released 10 days after the end of the lien period, provided no liens have been filed against the property.
What if Liens have been Filed?
If claims of lien have been filed against the property prior to the expiry of the lien period, the holdback money cannot be released. There are a number of complications that can arise when a lien has been filed. For example, a lender may require that the lien immediately be discharged (which typically requires the owner or another responsible party to pay security in the full amount of the lien claim). Further, in order to enforce a lien, the lien claimant must start a lawsuit within a year of filing the claim of lien. Lawsuits involving builders liens can quickly become complicated, so you should seek legal advice if you find yourself faced with the prospect of litigation.
For more information contact Angela Folino or Rodney Urquhart.