Pay-When-Paid Clauses: Are They Legal in Manitoba?

We all know that in a typical construction project, payment flows down the contractual chain. The Owner pays the Prime Contractor; the Prime Contractor pays Sub-Contractors and suppliers; Sub-Contractors pay Sub-sub-Contractors and so on.

Perhaps as a result of this practical reality, it has become tacitly accepted in the construction industry that those down the contractual chain receive payment after the person above them receives payment.

No harm, no foul if payment continues to flow within contractually agreed upon timelines.

But what happens if it doesn’t? What happens if, for example, the Owner refuses to pay the Prime Contractor? Can the Prime Contractor use this as an excuse to not pay one or more of its Sub-Contractors? If the Prime Contractor’s sub-contracts contain a “pay-when-paid” clause, can the Prime Contractor rely upon it to refuse to pay its Sub-Contractors? If not expressly contained in a contract, can a “pay-when-paid” clause be inferred in a contract?

In this article, we will discuss what pay-when-paid clauses are, what they look like, and whether they are enforceable in Manitoba.

What they are

The basic rule is that a Sub-Contractor has a right to be paid regardless of whether the Prime Contractor is paid. This is because there are two distinct contracts: one between the Owner and the Prime Contractor; and the other(s) between the Prime Contractor and its Sub-Contractor(s). However, certain contractual terms, such as pay-when-paid clauses can be used to tie these classes of contracts together. On their face, pay-when-paid clauses appear to prohibit someone down the contractual chain from getting paid before someone else receives the money – i.e. I will pay you when I, myself, have been paid by a third party, such as the Owner of the property. Frequently, a pay-when-paid clause will act to the benefit of the Prime Contractor over a Sub-Contractor.

What they look like

Depending on who drafted the contract, pay-when-paid clauses can take different forms. For example, in the case, A&B Mechanical Ltd v Canotech Consultants Ltd (2013 MBQB 287) [A&B Mechanical], the clause the defendant Canotech Consultants Ltd argued to be a pay-when-paid clause was as follows:

The Contractor agrees to pay the Sub-Contractor for the performance of the Sub-contract as follows:

Payments will be made monthly on progress estimates as approved by the Architect and/or Engineer and the Contractor's Superintendent covering 92.5% of the value of the work completed by the Sub-Contractor to the end of the previous month, such payments to be made five days after the Contractor receives payment for such work from the Owner.

Payment of the balance of 7.5% owing under the Sub-Contract will be made within five days after final payment has been received by the Contractor.¹

Ultimately, Chief Justice Joyal found that this clause was not a pay-when-paid clause. Instead of a pay-when-paid clause, the clause in question was considered a "timing provision" that clarified the Prime Contractor's and Sub-Contractor's obligations regarding when (not if) the Prime Contractor was paid. ² (In some legal jurisdictions, the differing clauses are referred to as “pay-if-paid” clauses versus “pay-when-paid” clauses.)

Interpreting Them

At their core, pay-when-paid clauses are still contractual terms. This means pay-when-paid clauses still follow well-established contractual interpretation principles.³ The parties' intentions should be clearly understood from the language of the document. This means the contract’s reader should interpret the contract using the ordinary meaning of words used by the parties, with no external aids necessary. The contract's plain language is paramount. ⁴

Chief Justice Joyal, in A&B Mechanical, borrowed the reasoning from a case in the Nova Scotia Court of Appeal (Arnoldin Construction & Forms Ltd. v Alberta Surety Co. (1995) ⁵. This reasoning carried with it two main considerations:

• 1. A pay-when-paid clause cannot and will not be an implied term in a contract; and
• 2. If you want a pay-when-paid clause in a contract, the language used must clearly notify the Sub-Contractor that they are making their pay conditional on the Owner paying the Prime Contractor [emphasis added] ⁶.

These considerations from case law mean, to be valid, a pay-when-paid clause must be written in a straightforward manner. There is a line of cases in Manitoba ⁷. which support this logic; pay-when-paid clauses will be narrowly interpreted (i.e. if there is any doubt, the court will not find a clause to be a pay-when-paid clause).

1 A&B Mechanical Ltd v Canotech Consultants Ltd, 2013 MBQB 287 at para 12 (A&B Mechanical), aff’d 2014 MBCA 80.
2 Ibid at para 22.
3 Ibid at paras 29-31.
4 Ibid at para
5 Arnoldin Construction & Forms Ltd. v Alberta Surety Co. (1995), 137 NS R (2d) 281 (CA).
6 Ibid at paras 19-28.
7 See both A&B Mechanical, supra note 1 and Winfield Construction Ltd. v Robinson (B.A.) Co et al (1996), 110 Man R (2d) 41 (CA).

Policy Considerations

In this section, we will discuss various policy considerations and legal principles behind pay-when-paid clauses.

First, a pay-when-paid clause creates a condition precedent based on a third party to a a contract between (usually) a Prime and Sub-Contractor. It does not make sense to imply a term that is contingent on a third party to a contract.

Assume, for a moment, that a judge would be willing to find a clause that contained an implied pay-when-paid clause. That implies that: one, an implied term that the parties didn't explicitly agree to, is contingent on the actions of a third-party to the contract, and; two, there is no contractual privity between the Sub-Contractor and the Owner. It is not the Sub-Contractor’s fault the Prime Contractor did not get paid, but pay-when-paid clauses make Sub-Contractors suffer all the same. In contrast to a Prime Contractor who has had their bill unpaid, there is no legal mechanism for the Sub-Contractor to force payment from the property owner.

Second, is the practice of interpreting a contract against its writer. ⁸ The contract between Prime Contractor and Sub-Contractor is (likely) written by the Prime Contractor. It makes sense that a clause of this gravity is interpreted in a matter against the contract's writer, given how impactful a pay-when-paid clause could be on an Sub-Contractor. In this circumstance, this is achieved by interpreting the clause narrowly and limiting it to a clause clarifying payment timing.

The third thing to keep in mind is that a pay-when-paid to the compensation (money) owed to the Sub-Contractor. It strikes right to the heart of the bargain. Surely, it would be unreasonable for something so central to the contract to be implied in a vague, uncertain matter.

Conclusion

Pay-when-paid clauses will not be implied into a contract. Don’t be fooled by someone higher up the contractual chain telling you that they don’t have to pay you because it is “industry practice” or there is an “implied term” in the contract that you only get paid when they get paid.

Contracts containing pay-when-paid clauses are subject to the normal rules of contractual interpretation. When you layer the rules onto each other, this means Manitoba courts interpret them very narrowly.

If you are going to try to rely upon a pay-when-paid clause, it should be very blunt. Don't leave anything to the imagination. Write in clear, plain language that you will ONLY pay the other party IF you, yourself, are paid.

⁸ See for example A&B Mechanical, supra note 1 at paras 31-32 (which makes reference to the principle of contra proferentum in the context of PWP but is otherwise decided on other factors).

Legal Advice and Assistance

If you are trying to enforce a pay-when-paid clause; defending against someone who is trying to enforce one; or if you require professional assistance to write a construction contract, we can help.

Contributors to this article were Ivan Holloway, Jared Wheeler and Evan Podaima of Holloway Thliveris LLP Construction and Commercial Lawyers.

Holloway Thliveris LLP Construction and Commercial Lawyers specializes in construction law, construction disputes and construction contracts. Call us at 204-289-1523 or email us at info@htlaw.ca