Perhaps the most consequential provision in any construction contract is the so-called “pay-if-paid” clause. This provision transfers the risk of owner nonpayment from the general contractor, who traditionally bears the risk, to the subcontractor, who is less able to assess a project owner’s creditworthiness or exert pressure on a nonpaying owner.
In most jurisdictions, pay-if-paid clauses are disfavored by courts because these provisions impose an unfair burden on subs. In fact, several states have barred the use of pay-if-paid clauses entirely. Other states will not enforce a pay-if-paid clause unless payment by the owner is explicitly made a “condition precedent“ to payment by the general contractor of its sub.
This article discusses a recent Connecticut Appellate Court decision that significantly alters the legal landscape in Connecticut regarding pay-if-paid clauses, much to the detriment of subcontractors. It is now more important than ever for subs to identify, negotiate, and try to sidestep these troublesome clauses.
Since pay-if-paid clauses are inherently unfair to subcontractors, Connecticut courts historically were very hesitant to enforce these provisions absent clear risk-shifting language. Such language must include, at a minimum, the words “condition precedent.” However, even when payment is expressly made a “condition precedent” in a subcontract, without additional clarifying language, virtually every Connecticut court that had addressed the issue construed these provisions as “pay-when-paid” clauses, not pay-if-paid clauses. The difference is significant: faced with owner nonpayment, a pay-if-paid provision excuses the general contractor’s payment obligations to its subcontractors entirely; conversely, a pay-when-paid clause merely postpones the general contractor’s payment obligations for a “reasonable time.”
For more than twenty years, Connecticut courts have been reluctant to enforce these provisions in a way that shifts the burden of nonpayment entirely onto the sub, even when there is clear “condition precedent” language. Courts have been far more likely to give the general contractor a reasonable time to collect payment from the owner, but still face the obligation to pay their subcontractors down the road.
This more “subcontractor friendly” approach changed with the Connecticut Appellate Court’s recent decision, Electrical Contractors, Inc. v. 50 Morgan Hospitality Group, LLC, et al., 211 Conn.App. 724 (2022).
The facts underlying the case may be disturbingly familiar to many subcontractors. The general contractor on a privately-owned construction project claimed that although it had sought payment from the project owner for its subcontractors’ work, the owner had failed to release payment. As a result of the nonpayment, numerous subs filed mechanic’s liens on the property and filed breach of contract claims against the general contractor.
The general contractor did not deny that its subs were owed money, but instead argued that the subs’ claims against it were barred by a purported “pay-if-paid” provision. The provision in the subject subcontract, which was only a single sentence, read as follows:
Subcontractor expressly agrees that payment by the Owner to General Contractor is a condition precedent to General Contractor’s obligation to make partial or final payments to Subcontractor as provided in this paragraph.
Despite the brevity of the clause and its similarity to other clauses which have been deemed pay-when-paid clauses by numerous prior Connecticut courts, the Appellate Court held that the term “condition precedent” was not ambiguous. The Court stated: “We decline to read into the contract a ‘reasonable time’ provision. Instead, we are duty bound to rely on the plain language of the contract, which makes clear that [the owner] must pay [the general contractor] in order to trigger [the general contractor’s] duty to pay the plaintiff [subcontractor].”
The Appellate Court further explained:
In any construction project, there is a risk that an owner will become insolvent and therefore be unable to pay its general contractor. The plaintiff [subcontractor] in the present case is a sophisticated construction company. It could have added language to the contract specifying that [the general contractor’s] duty to pay would be postponed only temporarily if [the general contractor] did not receive payment from [the owner]. Instead, the plaintiff now asks this court to write such clarifying language into the contract. We are not inclined to make a new and different agreement by adding terms to which the plaintiff and [the general contractor] did not agree.”
In light of Electrical Contractors, Inc. v. 50 Morgan Hospitality Group, LLC, et al., Connecticut subcontractors can no longer assume that contingent payment provisions containing only the words “condition precedent” will be interpreted as “pay-when-paid” provisions. Subs who do not wish to assume the risk of the owner’s nonpayment should attempt to strike any “condition precedent” language from their contracts before signing. Such provisions should be modified to give the general contractor a reasonable time to obtain payment from the project owner, but not eliminate the general contractor’s liability to the sub entirely in the event of an owner default. (If the sub has contracts with its own suppliers and sub-subcontractors, the sub should incorporate the pay-if-paid clause into those agreements.) If the sub is unable to strike or modify a pay-if-paid provision from its contract with the GC, and the sub believes payment may be a problem, it may be prudent to avoid the project entirely.
Finally, it is important to note that Connecticut has enacted a law which allows subs to sue a private project owner directly for late payments after providing notice of nonpayment to the owner. The law is known as the Fairness in Construction Financing Act, Connecticut General Statutes §42-158i et seq. The Act applies to private commercial and industrial construction contracts valued at more than $25,000.00, as well as residential contracts with more than four units. The Act was enacted in part to eliminate the problem encountered by many subs with pay-if-paid clauses. For a greater discussion of the Act, see our prior newsletter on the topic.
Subcontractors should be very wary of pay-if-paid provisions, especially in the wake of Electrical Contractors, Inc. v. 50 Morgan Hospitality Group, LLC, et al. If you have questions regarding pay-if-paid or pay-when-paid clauses, please call MKR&B at 860-522-1243.
Michelson, Kane, P.C.
