BILL ANALYSIS
SENATE JUDICIARY COMMITTEE
Senator Ellen M. Corbett, Chair
2009-2010 Regular Session
SB 629
Senator Liu
As Introduced
Hearing Date: April 14, 2009
Civil Code
ADM:jd
SUBJECT
Private Works of Improvement: Retention Proceeds ("Retainage")
DESCRIPTION
This bill, applicable to all contracts entered into on or after
January 1, 2010, would prohibit retention proceeds withheld from
any payment made by an owner to the original contract from
exceeding 5 percent of the amount otherwise due under the
contract. This bill would prohibit the percentage of the
retention proceeds withheld from any payment made by the
original contractor to any subcontractor, or by a subcontractor
to another subcontractor, from exceeding 5 percent of the amount
otherwise due under the contract, or the percentage of each
payment that may be withheld under the contract, whichever is
less.
This bill would require any retention proceeds withheld to be
deposited in an interest-bearing escrow account and, upon the
release of any retention proceeds, the contractor or
subcontractor to whom the proceeds were released would be
entitled to any accrued interest. This bill would require that,
with respect to a contract between an original contractor and a
subcontractor, or between two subcontractors, any retention
proceeds withheld, together with accrued interest, be released
within 45 days after the date that all line items listed in the
schedule of values in the applicable contract are completed or
the work for those line items are accepted.
(This analysis reflects author's amendments to be offered in
committee.)
(more)
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BACKGROUND
The holding of so-called "retainage" monies owed primarily to
contractors and subcontractors for completed work is a
traditional and common practice in the construction industry and
is used by owners and builders to assure a timely and
satisfactory completion of a construction project. In current
practice, owners and builders often withhold 10 percent or more
in retention proceeds until an entire project is completed,
which may take many months or years depending on the size of the
project. The result is that contractors and subcontractors
whose work has been completed and approved must wait lengthy
periods of time to be paid in full.
Existing law allows owners and builders to withhold up to 150
percent of amounts due for disputed work. Current law does not
however provide a cap on the amount an owner or builder may
retain from contractors and subcontractors pending completion of
a project or a portion thereof. This bill would provide for
such a cap.
CHANGES TO EXISTING LAW
Existing law provides that a prime contractor or subcontractor
must pay subcontractors, to the extent of their interest
therein, within 10 days of receipt of any progress payment,
unless otherwise agreed to in writing. In the event of a good
faith dispute over the amount due, the prime contractor or
subcontractor may withhold up to 150 percent of the disputed
amount. This section applies to private and public works of
improvement, except as specified. (Bus. & Prof. Code Sec.
7108.5.)
Existing law provides for the distribution of any proceeds
withheld by a project owner (retention proceeds) within 45 days
of completion of a private work of improvement. However, an
owner may withhold up to 150 percent of any disputed amount.
Existing law also provides that an original contractor must pay
subcontractors their share from the received retention within 10
days, but may withhold up to 150 percent of any disputed amount.
(Civ. Code Sec. 3260.)
Existing law provides that on a private work of improvement the
owner shall pay progress payments due under a contract within 30
days of a demand for payment, but may withhold up to 150 percent
of any disputed amount. (Civ. Code Sec. 3260.1.)
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Existing law defines "date of completion" as the date of
issuance of any certificate of occupancy covering the work by
the public agency issuing the building permit; the date of
completion indicated on a valid notice of completion; or the
date of completion as defined in Section 3086 (the occupation or
use of a work of improvement accompanied by cessation of labor
thereon; acceptance by the owner of the work of improvement; or
cessation of labor on a work of improvement for a continuous
specified period). (Civ. Code Secs. 3086, 3093, 3260.)
This bill , applicable to all contracts entered into on or after
January 1, 2010, would prohibit retention proceeds withheld from
any payment made by an owner to the original contract from
exceeding 5 percent of the amount otherwise due under the
contract.
This bill would prohibit the percentage of the retention
proceeds withheld from any payment made by the original
contractor to any subcontractor, or by a subcontractor to
another subcontractor, from exceeding 5 percent of the amount
otherwise due under the contract, or the percentage of each
payment that may be withheld under the contract, whichever is
less.
This bill would require any retention proceeds withheld to be
deposited in an interest-bearing escrow account and, upon the
release of any retention proceeds, the contractor or
subcontractor to whom the proceeds were released would be
entitled to any accrued interest.
This bill would require that, with respect to a contract between
an original contractor and a subcontractor, or between two
subcontractors, any retention proceeds withheld, together with
accrued interest, be released within 45 days after the date that
all line items listed separately in any schedule of values
(detailed statement outlining the portions and values of the
portions of the contract sum) that forms a part of the
applicable contract are completed or the work for those line
items is accepted.
This bill would provide that it would be against public policy
for any party to require any other party to waive any provision
of the bill.
COMMENT
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1.Stated need for the bill
The sponsor, American Subcontractors Association, California,
provides the following reasons for the bill:
Right now cash flow is the most important element in
construction. Yet, on most projects, 10 percent of money that
is due for work properly performed by subcontractors and
approved is withheld until the entire project is completed.
This means a subcontractor's entire profit margin is absorbed
in the retention. Trades working on the job may go years
before receiving their final payment.
Without full payment, subcontractors cannot pay employees,
contribute to their benefit programs, or buy adequate supplies
and tools. The ability to seek or begin new projects can be
delayed as a result.
Retainage increases bid prices because contractors have to
account for loss of use and financing costs of retained funds.
Retainage is unnecessary because performance bonds and the
right to withhold payment protect against incomplete or
defective work.
Since 1993, the federal government's Fair Acquisition
Regulations have allowed zero retention on projects it funds,
unless poor performance is documented.
In the 2007-2008 Session, the legislature responded to this
dilemma for public works projects by passing SB 593 (Margett,
Ch. 341, Stats. 2008), which prohibits the Department of
Transportation (DOT) from retaining any payments (0 percent)
to subcontractors once their work has been satisfactorily
completed. [Senate Bill] 629 parallels this policy by
limiting retention in the private sector to 5 percent.
Numerous other states prohibit or limit retainage
practices.
The logic in this approach is inescapable and is critical to
our economic recovery. Full payment for full performance is
fair and responsive to the cash crisis. Full payment will
keep companies in business, stimulate construction, and keep
projects on schedule.
1.Retention guidelines from Associated General Contractors of
America (AGCA),
American Subcontractors Association (ASA), and Associated
Specialty Contractors (ASC)
The sponsor, the American Subcontractors Association,
California (ASAC) provided the committee with an excerpt from
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Guidelines for a Successful Construction Project by the AGC,
ASA, and ASC. That excerpt provides that retainage is a
traditional and common business practice in the construction
industry, used to assure timely and satisfactory completion of
construction projects. The guidelines make a number of
recommendations, including:
a.retainage should be eliminated or reduced whenever possible;
b. if retainage cannot be eliminated, an acceptable
alternative form of security should be used; and
c.if there is no choice but retainage, the percentage should be
as low as possible.
The guidelines also make various other recommendations,
including:
a. retainage should be released as early as possible for
completed and accepted work;
b. reduction and release of retainage should not be delayed
because change order work has not been finalized; and
c. retainage should be deposited in an escrow account to
accrue interest to be paid to contractors and
subcontractors according to their respective shares.
1.Summary of retainage practice studies from Clemson University
and of reports by the Foundation of American Subcontractors
Association (FASA)
The sponsor also provided the committee with excerpts from a
report entitled Retainage Practice in the Construction Industry.
The report was commissioned by the FASA and was conducted by
Dennis Bausman, PhD, assistant professor in the Construction
Science and Management Department at Clemson University. The
report summarizes recent studies regarding retainage, and
legislation across the country that has addressed retainage, and
the different approaches taken by different states. The report
notes, "federal and state legislation has continued down the
path of increased regulation, reduced retainage rates, and
increased acceptance of retainage alternatives for both public
and private work."
Based upon a review of studies, surveys, and various states'
practices and laws, the report concludes that retainage
negatively influences project relationships; owners are neutral
on whether retainage is needed as an incentive for quality work;
there is usually substantial "float" time between the general
contractor's receipt of subcontractor retainage and payment to
the subcontractor; retainage increases the cost of a
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construction project; retainage is often misused as leverage to
resolve disputes or negotiate changes for extra work;
alternatives to retainage are not in wide use, despite the
industry's overall progress toward retainage reduction; the
view, pervasive among owners, that retainage adds no cost to
construction projects is a position not "in harmony with
economic theory;" and alternatives to retainage may meet the
main concern of owners who defend current practice, which is
proper completion of projects.
The report also notes that in 2002, the AGC, the ASA, and the
ASC approved a joint position concerning retainage practices,
including among others, the elimination or reduction of
retainage whenever possible.
The federal government has noted that, although a percentage of
a progress payment may be withheld when satisfactory work has
not been achieved, the amount withheld should be as low as
possible and should not exceed 10 percent. The federal
government advises, "retainage should not be used as a
substitute for good contract management, and the contracting
officer should not withhold funds without cause." (Current
Federal Acquisition Regulation, Paragraph 32.103.)
In 2007, the FASA released a report, Introduction: Retainage and
Backloading. The report concludes:
Retainage is an inefficient mechanism for ensuring project
completion because it punishes all of the contractors and
subcontractors on a construction, rather than targeting those
who actually cause delays. In fact, retainage undermines
incentives for project managers to closely monitor
subcontractor performance in connection with progress payment
requests, because project mangers are lulled into relying on
retainage to ensure proper project completion in place of
their own, active monitoring efforts. Also, retainage shifts
financing costs away from lending institutions, which are
specialized in bearing financial risks, to construction
subcontractors who are not specialized in financing and who,
as a result, must necessarily charge more for bearing the
opportunity costs and the risks of default than any
institutional lender would charge. The largest buyer of
construction services in the world, the U.S. federal
government, has led the way by eliminating the use of
retainage for most federal projects and many federally-funded
projects. It is time for the rest of the industry to follow
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the federal government's lead. Owners who eliminate retainage
reduce their building costs while improving the value of the
construction services they receive.
2.Not less than five percent retainage on public works of
improvement, except DOT projects
In California, the rate of retainage on a public work of
improvement may not be less than 5 percent until the final
completion and acceptance of the project. (Pub. Cont. Code Sec.
10261.) At any time after 95 percent of the project has been
completed, the state may reduce the retained funds to not less
than 125 percent of the value of the work left to be completed;
the contractor can elect to substitute securities in lieu of
retainage; the contract can request that the owner make payment
of retentions into an escrow account; and the contractor can
direct the investment of the payments into securities from which
the contractor receives the interest earned from the
investments. (Pub. Cont. Code Secs. 10263, 22300.)
However, the DOT is prohibited from withholding retention
proceeds when making progress payments to a contractor for works
performed on a transportation project. (Pub. Cont. Code Sec.
7202.) Section 7202 sunsets on January 1, 2014. (Id.)
3.Negative economic effects of current retainage practices
The sponsor, ASAC, provided the committee with an excel
spreadsheet illustrating the impact on net income of retention
proceeds of 10 percent. The example assumes a $120,000 job that
took a year to complete, had a profit margin of 5 percent, with
a 10 percent retention withheld. With the interest on a line of
credit (used because most jobs run 60 days before accounts
receivable start coming in) and taxable amounts assessed
quarterly, the result is a negative cash flow for the entire job
for the contractor. The ASAC argues that retainage does not
allow competitive bidding, particularly where larger companies
with capital have the advantage over small businesses. Thus,
ASAC argues this results in small businesses going under and
jobs being lost in this particularly bad economy.
4.Opposition
The Construction Employers' Association (CEA) and the California
Building Industry Association (CBIA) oppose the bill on
essentially the same grounds. They write:
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Retention serves many purposes; to soften the blow if a
subcontractor defaults or provides an unacceptable work
product; to use as motivation to get a subcontractor to pay
his or her subcontractors if they fail to do so; and ? to help
cover any losses associated with the subcontractor. Under
this measure, if a subcontractor were to default, the
contractor would be forced to absorb an even larger loss,
thereby jeopardizing their own solvency.
The author and sponsor, ASAC, counter that, if there is a
problem with a private work of improvement, the general
contractor or the owner already has the right to withhold 150
percent of the amount in dispute and therefore there is no merit
to the claim that general contractors or owners cannot withhold
adequate monies to protect themselves. They also argue that
retainage is unnecessary if project managers adequately perform
their oversight obligations on projects. And, they assert
contractors and subcontractors are the ones in jeopardy of
insolvency because their profit margin is often less than the
percentage of retention proceeds being withheld. Finally, they
note that there is no evidence that zero retainage has had any
negative impact on federal projects or on state DOT projects.
The CEA and the CBIA also write:
Under current practice, retention amounts are negotiable. It
is not uncommon for general contractors to withhold smaller
retention amounts from bonded subcontractors whom they
determine are less likely to default. If a subcontractor has
a strong track record and provides a performance bond, the
contractor may withhold less; if their track record is not as
strong and they do not provide a bond, they may withhold more.
The author and ASAC respond that bonding should be available as
an alternative to retention, not in addition to. Further, they
assert that "negotiating of retentions only works when you are
the only one bidding, ? [and] in this economy retentions are
never reduced."
5.Author's amendment
On page 3, after line 10, insert:
(f) This section does not prohibit the withholding of funds
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pursuant to Section 3260 in the event of a dispute.
Support : Engineering Contractors' Association; Marin Builders'
Association; California Fence Contractors' Association;
Flasher/Barricade Association; Porter Law Group; California
Association of Sheet Metal and Air Conditioning Contractors'
National Association; National Electrical Contractors
Association, California Chapter; Legislative Conference of the
Plumbing, Heating and Piping Industry, California Chapter;
Advanced Installations; Advanced Lab Concepts; Ahlborn Fence &
Steel Inc.; Ahlborn Structural Steel Inc.; Alternative Energy;
Anchor Construction Specialties Inc.; Architectural Wood Design
Inc.; Arise/Waco Scaffolding & Equipment; Bagatelos
Architectural Glass Systems Inc.; Barbara Roddick at Stroer &
Graff Inc.; Bayview General Engineering Inc.; Bellicitti &
Pellicciotti Construction Co. Inc.; Brik-Art; Brudvik Inc.;
Bullet Guard Corp.; California Erectors Bay Area Inc.;
Consolidated Partitions Inc.; Construction Industry Producst;
Construction Preliens & Paperwork; Continental Electric Inc.;
Continental Plumbing Inc.; A.C. Whitacre Construction; David
Graff at Stroer & Graff Inc.; Don Brandel Plumbing Inc.; DPW
Inc.; Eckles Construction Inc.; Ertel Cabinets & Mill Work Inc.;
Finishline Wood Crafters Inc.; F.M. Thomas Air Conditioning
Inc.; Jake Lee at Stroer & Graff Inc.; James Riolo Paving Inc.;
Ks Telecom Inc.; Karsyn Construction; Lescure Company Inc.; M.F.
Filice & Son Surfaces; Magik Glass and Door; McCurley & Day
Masonry; McLennon Law Corp.; Merritt Construction Inc.;
Mid-State Steel Erectors Inc.; Muhlhauser Steel Inc.; National
Concrete Cutting Company; North Bay Drywall & Plastering Inc.;
O'Brien Steel Erectors Inc.; P.T.S. Masonry Inc.; Pacific
Mechanical Contractors; Partition Specialties Inc.; Pike Heating
& Air Conditioning; Q.I.S. Inc.; Quality Fence Company Inc.; R &
R Maher Construction Co. Inc.; Randy Bogs Masonry Inc.; Rescue
Concrete Inc.; Richwell Steel Company Inc.; Risse Mechanical
Inc.; Roger Lee at Stroer & Graff Inc.; Russell Hinton Company;
Salvadore Altamirano at Stoer & Graff Inc.; San Joaquin Steel
Company Inc.; Santo & Cynthia Pernicano; Schroeder Iron
Corporation; Seawright Custom Precast Inc.; Service Metal
Products Inc.; Sierra West Construction Inc.; Superior Caseworks
Inc.; Supercraft Suppy Inc.; Swirdoff Construction Company;
Terra Pave Inc.; The Patterson Company Inc.; Tri-Co Floors;
Tru-Form Construction Corp.; Union Roofing Contractors
Association; Waco Scaffolding & Equipment; Wagner Electric;
Wayne E. Swisher Cement Contractor Inc.; Williams & Sons Masonry
Inc.; Engineering & Utility Contractors; Golden State Builders
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Exchange
Opposition : California Building Industry Association;
Construction Employers' Association
HISTORY
Source : American Subcontractors Association, California
Related Pending Legislation :
SB 802 (Leno) would prohibit retention proceeds from exceeding 5
percent of a payment, as specified, for all contracts entered
into on or after January 1, 2010, between a public entity and an
original contractor, between an original contractor and a
subcontractor, and between all subcontractors. The bill would
also prohibit the Department of General Services (DGS) from
withholding more than 5 percent of a contract price until final
completion and acceptance of the project. This bill has been
referred to the Senate Government Organization Committee.
AB 396 (Fuentes) would, among other things, prohibit retention
proceeds from exceeding 5 percent of a payment, as specified,
for all contracts entered into on or after January 1, 2010,
between a public entity and an original contractor, between an
original contractor and a subcontractor, and between all
subcontractors. The bill would also prohibit the DGS from
withholding more than 5 percent of a contract price until final
completion and acceptance of the project. This bill has been
referred to the Assembly Business and Professions Committee.
Prior Legislation :
SB 593 (Margett, Ch. 341, Stats. 2008) prohibits the DOT from
withholding retention proceeds when making progress payments to
a contractor for works performed on a transportation project.
This bill sunsets on January 1, 2014.
SB 619 (Migden, 2007) would have prohibited retention proceeds
from exceeding 5 percent of a payment, as specified, for all
contracts entered into on or after January 1, 2008, between a
public entity and an original contractor and a subcontractor,
and between all subcontractors. The bill would also have
prohibited the DGS from withholding more than 5 percent of a
contract price until final completion and acceptance of the
project. This bill died on the Assembly Floor.
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AB 1622 (Liu, 2005) would have provided, with respect to any
retention proceeds in a contract entered into on or after
January 1, 2006, between an owner and an original contractor
relating to the construction of a private work of improvement,
retention proceeds withheld from a payment by the owner to the
original contractor, by the original contractor to a
subcontractor, or by any subsequent subcontractors would be
limited to maximum retention rates, as specified. The bill
would have required that within 45 days after the date of
completion by the contractor or subcontractor, the retention
proceeds be released with interest. The bill would also have
provided that the provisions governing retention proceeds that
relate to the withholding of disputed amounts would not be
affected by the bill. This bill was vetoed.
SB 920 (Cox, 2005) would have, in a contract with the DOT that
utilizes federal funds, authorized an original contractor in a
contract between the original contractor and any subcontractor
to withhold 5 percent retention when making payments to the
subcontractor for work performed. This bill died on the Senate
Appropriations Committee's suspense file.
AB 940 (Miller and Mazzoni, 1997) would have, among other
things, specified the amount of retention proceeds permitted to
be withheld with respect to contracts between public entities,
contractors, and subcontractors, relating to the construction of
any public work of improvement entered into on or after January
1, 1998. This bill was vetoed.
AB 1949 (Conroy, et al., 1995) would have, until January 1,
2000, and with respect to contracts entered into on or after
January 1, 1997, that related to the construction of public
works of improvement, revised the limits on the amount of
retention proceeds that may be withheld, and the amounts of
progress payments to be made, subject to certain conditions.
This bill was vetoed.
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