Construction can be a tough business. Contractors, suppliers, and laborers need to have a high degree of skill and technical knowledge to build increasingly complex things. But they also need to understand a complex and confusing payment process that is unique to the industry. In this article, we’ll break down everything you need to know about getting paid in construction.
This article covers the laws that protect you, how to use them, and the specific steps you should take on every job to avoid payment disputes and get paid on time, every time.
Getting paid in construction isn’t always easy
Because of the large amount of financial risk involved in construction, money can move very slowly on a project. In 2018, the average time to get paid for construction work was 83 days. That’s a long time. Payment delays have a detrimental effect on a construction contractor’s cash flow. But when you understand how financing a construction project works, you start to see the levers you can pull to ensure payment and even speed it up.
The people in charge of a project – the property owner, lender, general contractor – want to reduce their financial risk. Their biggest fear is sinking all of their money into a project that fails. In addition, they worry about the real risk of making double payments. As a result, they want to hold onto their money as long as they can. They want to verify that the work is complete and meets their expectations. They also want to reduce their risk of payment disputes.
The people doing the work – architects, subcontractors, suppliers, laborers, etc. – want to do quality work and get paid quickly so they can pay their employees, suppliers, and utility bills without going into debt. They need to make enough money to invest in the next construction project.
As a result of these conflicting interests, construction businesses don’t have the luxury of simply doing good work and expecting to get paid on time. In order to get paid on time in construction, you have to understand contracts, notices, pay applications, change orders, mechanics liens, bond claims…it can get overwhelming very quickly. But don’t worry; we’ll break down and explain all of it in simple terms.
Before we get into the steps you need to take to get paid in construction, it’s important to review the payment laws that construction businesses need to know.
Laws that support your right to get paid
Perhaps the single most important thing a laborer or construction business owner can do to ensure that they always get paid on time and in full is to learn the laws that protect their right to payment. Knowing what your rights are will help guide you to take the appropriate steps at the right time.
Every state has multiple statutes that protect construction businesses and laborers from going unpaid for their contributions.
Mechanics Lien Law
When it comes to getting paid in construction, few laws carry as much weight or importance as mechanics lien statutes. Every state in the US has laws that gives construction businesses the right to file a mechanics lien if they aren’t paid.
A mechanics lien is an involuntary security interest in real property – it allows the unpaid contractor to hold a claim in the property itself, preventing its sale or transfer until the debt is resolved. Generally, any person or business who makes a contribution to a permanent improvement to real property has the right to file a mechanics lien claim.
One of the many reasons that mechanics liens are so powerful is that, in most places, contractors and laborers can file a claim on their own. Bringing a contract claim against a customer is a time-consuming and very expensive proposition. Filing a mechanics lien, on the other hand, can be as simple as bringing a one-page document to your local county office.
However, it is critical to understand the ins-and-outs of the law in each state where you work. Each state has their own mechanics lien process and deadlines. If you fail to complete any one of the steps in that process on time, you can lose your right to file a lien entirely.
Public Construction Law
Typically, mechanics lien laws only apply to private or commercial construction projects. On public projects, where a government agency is the property owner, filing a mechanics lien isn’t an option. The government doesn’t allow other parties to have a security interest in their property.
A different set of laws govern these projects. Though these laws don’t allow mechanics liens, unpaid contractors and suppliers will have the right to make a different kind of claim: a claim against the payment bond.
The general contractor on a public project is typically required to purchase a payment bond from a surety. This bond guarantees that everyone on the project will get paid according to their contract. If a business isn’t paid, they can make a bond claim to recover what they’re owed.
Similar to mechanics lien laws, claimants must follow the specifics in these laws in order to retain the right to make a bond claim. Failing to follow the bond claim process could forfeit your right to use these laws to recover payment.
Prompt Payment Law
Federal and state prompt payment laws give contractors and material suppliers the right to receive payment within a specific timeframe. If a payment is late, these laws allow the unpaid party to collect an interest penalty. In some places, they are entitled to recover attorney fees and court costs as well.
On federal construction projects, the US Prompt Payment Act governs the deadline for payments. In addition, nearly every state in the US except has prompt payment laws that give contractors, subcontractors, and material suppliers the right to payment within a specific timeframe. Some states have prompt payment laws that only apply to private construction or public projects. Others have laws that apply to both.
Contract Law
A contract is an agreement between two parties. In a construction contract, the property owner agrees to provide something of material value – usually money – while the contractor agrees to provide services or materials in exchange.
If one side doesn’t hold up their end of the agreement, contract law provides remedies to the other party. Sometimes, the value of these late payment penalties can be far greater than the original contract amount.
However, enforcing a contract should never be the first line of defense. Contract litigation is time-consuming and expensive, and the outcome is never guaranteed. Why jump straight into a full-blown lawsuit when you have so many other options to collect payment on time?
How to get paid (faster) on every construction project
Think of getting paid as a process that involves multiple tools and steps. Each one of these tools improves your chances of collecting payment on time.
When used together in a standard procedure, these steps create a near-perfect payment guarantee, ensuring construction businesses get paid in full and on time on every job.
Before you start: Document everything
In every step, keep the most detailed records you can. If a payment dispute arises on a project, the party with the best documentation to support their case will win. At the end of the day, it doesn’t matter whether you did the work on time and according to the contract. The only thing that matters is what you can prove.
Create a document retention strategy for your construction company, so every employee who handles documents knows exactly what to keep and where to put it. Create a new project folder for each job. Whether it’s a physical paper folder or a digital version on your computer system, make sure you follow the same process every time. And back up your files!
1. Get licensed
Contractor licensing requirements are regulated by each state. The California State Licensing Board (CSLB), for example, has 43 different types of licenses. There are different licenses for general contractors, general builders, and subcontractors.
While having a contractor’s license isn’t always required for every construction project, it adds an extra layer of payment protection. Licensing requirements can be complicated. You might think that you don’t need a license, only to find out later that you did.
If you don’t have a contractor license, and you perform work that requires one, there’s a good chance that you could lose any legal recourse if you’re unpaid. You can lose your right to file a mechanics lien, bond claim, or even a lawsuit to recover payment.
2. Write a credit policy
A credit policy contains your company’s process for providing credit to your customer. Unless you get paid before you perform the work or provide materials, you are always providing your customer with credit.
The credit policy should provide the steps and schedule you follow on every project to collect payment. It should describe the steps you will take when payments aren’t made according to the agreement. In addition to information about late payment penalties or sending accounts to collections, a credit policy should include your mechanics lien policy as well. This document outlines the steps you will take when you’re not getting paid on time on each construction project.
For example: 15 days after payment is overdue, the company will send a notice of intent to lien. The company will file a mechanics lien on all past due accounts before the filing deadline.
Your credit policy should never be up for debate or discussion – a policy means you follow the same procedure every time, regardless of who’s on the other side.
3. Prequalify potential customers
As the saying goes, “don’t count your chickens…” You know how that ends. Before you ever sign a contract, the first step is to prequalify your customer. It doesn’t matter how lucrative the contract is – if the property owner or GC can’t make the payment, you’re worse off than when you started.
Prequalifying your customer means researching their payment practices and financial history. If you’re a general contractor, ask the property owner for financial information on the project. Is the funding already in place for the entire job? Or are they still looking for investors? It’s important to make sure that the owner has solid financial backing to complete the project.
If you’re a subcontractor, prequalifying the general contractor means reviewing information about their past payment performance. After all, this is the person responsible for making sure you get paid. Check their credit history.
View Contractor Payment Profiles
Learn more about the contractors you work with! View their payment history, risk factors, and customer reviews.