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Finally getting paid on time? The introduction of the Security of Payment framework in the construction industry in Hong Kong

2021-12-30

Finally getting paid on time? The introduction of the Security of Payment framework in the construction industry in Hong Kong

Introduction

Cash flow is the lifeline of the construction industry. To ensure that the participants, namely the main contractors, sub-contractors, consultants, sub-consultants and suppliers, in a construction project at different tiers receiving payments on time, many jurisdictions such as United Kingdom, Australia and Singapore have already implemented security of payment legislations to regulate payment practices and enable quick resolution of payment disputes.

Hong Kong is (gradually) heading towards the same direction. Although it is still unclear when the Security of Payment legislation will come into force, the introduction of the mandatory security of payment provisions in the public work contract is certainly a significant step forward. 

On 5 October 2021, the Hong Kong Development Bureau issued Technical Circular (Works) No. 6/2021 (the “Circular”) outlining the policy on the implementation of security of payment provisions in public work contracts to facilitate timely processing of contract payment and introduce an interim mechanism for speedy resolution of payment disputes before the enactment of Security of Payment Legislation (the “SOP Pilot Scheme)

The SOP Pilot Scheme will come into effect for the tender invitations for Public Work contract issued after 31 December 2021 for Group B (contracts of value up to HK$400 million) or Group C (contracts of value exceeding HK$400 million) contractors on the “List of Approved Contractors for Public Work” or 1 April 2022 for other contractors on the “List of Approved Contractors for Public Work” or the “List of Approved Suppliers of Materials and Specialist Contractors for Public Work”.

Key requirements of the SOP Pilot Scheme includes:-

  1. Prohibition of conditional payment or “pay when paid” provisions;
  2. Exchange of payment claim and response within the prescribed timeframe;
  3. Introduction of payment dispute adjudication.
  4. Aggrieved party’s entitlement to suspend or reduce his rate of progress if the adjudicated / admitted amount is not received.

Below we highlight the key features SOP Pilot Scheme:-

 

Say no to pay when paid

To begin with, the SOP provisions should be incorporated into contracts, including the main contract, sub-contracts and supplies and services contracts at all tiers. Significantly, the SOP Pilot Scheme prohibits the inclusion of the “pay when paid” provisions. As such, it is impermissible for the main contractor to delay payments to its sub-contractors for the reason that he has yet to receive payment from the Employer under the Main Contract. Further, the contractors (at different tiers) are now entitled to submit payment claim if they are not paid on time.

 

Payment claim

As a default position, an aggrieved party is entitled to submit a single payment claim for each reference date, which will generally arise at the end of the month, or at the end of a milestone period. After receiving a payment claim, the respondent shall serve a payment response on the aggrieved party within 30 calendar days and the respondent shall make payment of the admitted sum within 60 calendar days from date of services of the payment claim. In the event that no payment response has been submitted within the designated timeframe, the respondent will:-

  1. be regarded as disputing the payment claim in its entirety; and
  2. lose his right to raise any set-off claim against the claiming party in the adjudication proceedings.

As such, to ensure that the respondent’s right is not prejudiced, proper legal advice should be taken before determining on how to handle payment claims.

 

Adjudication

Another key feature under the SOP Pilot Scheme is the claiming party’s right to refer a payment dispute to adjudication (in the event that the respondent refuses to pay the claimed sum). However, the process of which is quite different from the traditional dispute resolution mechanism.

In order to exercise its right to adjudicate, the claiming party should first comply with all claim handling mechanism under the contract. For this reason, before the claiming party can refer the payment dispute to the adjudication, the Architect / Engineer’s assessment or decision on the relevant claims, including the time related claim, should have been conducted and notified to the concerned parties.

The adjudication processes for the payment dispute are outlined as follows:

  1. a “notice of adjudication” setting out brief details of the parties, the nature of dispute and the redress sought must be served on the respondent and the adjudicator nominating body within 28 calendar days of when the payment dispute arises;
  2. an adjudication commences on the date when the notice of adjudication is served on the respondent;
  3. an adjudicator will then be appointed within 5 working days either by agreement or by nomination from an agreed adjudicator appointing body. Once an adjudicator is appointed, the claiming party will have only 1 working day to serve an “Adjudication Submission”;
  4. after receiving the Adjudication Submission, the respondent has 20 working days to serve its “Adjudication Response”; and
  5. the adjudicator has to decide on the payment dispute within 55 working days (or any longer period agreed by the parties) from the date of his appointment and the adjudicated amount shall be paid as decided by the adjudicator.

Given the very tight prescribed adjudication timetable, the parties should consider allocating sufficient resources for preparing and responding to the payment claims. Furthermore, due to the unique nature of this dispute resolution mechanism, parties are advised to seek legal assistance as soon as the dispute arises.

Under normal circumstance, the adjudicator does not have the power and jurisdiction to decide on disputes in relation to the entitlement of extension of time (“EOT”). However, when it comes to disputes in relation to time-related costs, the adjudicator will have the power and jurisdiction to decide on a party’s entitlement on EOT.

According to Annex C of the Circular, the Adjudication Decision will be binding on the parties and enforceable as a contractual obligation, until the Payment Dispute is resolved in writing between the parties, or the Payment Dispute is determined by the dispute resolution mechanism set out in the main contracts/sub-contracts. In terms of the time related costs, while the adjudicator’s decision on the time-related costs forming part of the payment dispute is binding and enforceable on an interim basis, the EOT decided by the adjudicator is not binding.

However, for the avoidance of doubt, the party’s right to adjudicate does not affect the parties’ entitlement to submit the payment claim as well as the EOT related claim to dispute resolution mechanism under the contract. Likewise, the submission of an adjudicated payment dispute does not terminate or affect the adjudication.

In terms of the costs of adjudication, the parties will be jointly and severally liable for Adjudicator’s fees and be responsible for their own legal costs. Unlike typical litigation or arbitration where loser pays the costs, no legal costs will be recoverable from the other parties.

For the avoidance of doubt, since the SOP legislation has not been in force, the mandatory SOP provisions are only contractual arrangements between the parties and with no teeth. As such, the party cannot enforce or challenge the adjudicator’s decisions in court under the SOP Pilot Scheme.

 

Still not getting paid?

So what else can be done if the contractor still refuses to pay the adjudicated amounts? Under the SOP Pilot Scheme, the aggrieved subcontractor is entitled to suspend or reduce rate of progress after all relevant procedural requirements have been complied with and request the Employer to make direct payment for any unpaid adjudicated amounts. Upon receipt of the request from an aggrieved party, the Employer shall send the contractor a letter in the form prescribed in Annex G to the Circular, requesting documentary proof (to be provided within 28 days) that the adjudicated amount has been paid or that the payment dispute has already been settled between the parties or determined by the dispute resolution mechanism under the contracts.

After the expiry of the 28-day period, if no documentary proofs were submitted to the Employer, the Employer shall, after assessing the information provided by the contractor and his sub-contractor, determine the amount of direct payment to be made to the aggrieved party. The Employer shall also deduct the same amount from any payment owed to the contractor.

 

Are you ready?

Indeed a series of administrative requirements have been imposed on the contractor under the SOP Pilot Scheme. The Contractors are required to:-

  1. ensure that the SOP provisions are incorporated into the relevant sub-contracts;
  2. display a site notice in the form of Annex H to the Circular in a prominent place on the construction site to remind and facilitate the relevant sub-contractors to exercise its right to suspend/reduce rate of process and request for direct payment for the Employer; and
  3. make admitted or adjudicated payment to subcontractor on time.

The Project Office is responsible for monitoring and reporting on the contractor’s performance in relation to the above. If, as a result of the contractor’s failures/omissions to carry out the duties above (in particular if the contractor has failed to pay the adjudicated sum), the subcontractor reduces the rate of work and causes to delays in the project, the Project Office should warn the contractor and if necessary record such failure and consider giving “poor” or “very poor” ratings in the contactor’s Performance Report.

In view of the additional administrative requirements and the potential adverse consequences on the contractor’s rating, it is advisable for the contractor to be familiar with the requirements under the SOP Pilot Scheme and deploy additional resources to deal with payment claims launched by the sub-contractors. 

 

Key takeaway

The introduction of SOP Pilot Scheme represents a significant step forward to the full implementation of the long-awaited SOP Legislation in Hong Kong. Whilst the timing of the enactment of SOP Legislation remains unclear, through the implementation of the SOP provisions in public works contracts, the local construction industry will be able to gain a first-hand experience on the spirit of SOP Legislation that will have a profound impact on the landscape of the construction industry. It is therefore important for employers, contractors and subcontractors to get familiar with the new construction regulation system, be prepared for the significant changes in the future and if necessary seek professional legal assistance when payment dispute arises.

 



For enquiries, please feel free to contact us at:

E: construction@onc.hk                                                     T: (852) 2810 1212
W: www.onc.hk                                                                    F: (852) 2804 6311

19th Floor, Three Exchange Square, 8 Connaught Place, Central, Hong Kong

Important: The law and procedure on this subject are very specialised and complicated. This article is just a very general outline for reference and cannot be relied upon as legal advice in any individual case. If any advice or assistance is needed, please contact our solicitors.

Published by ONC Lawyers © 2021


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Justin Lo
Justin Lo
Partner
Justin Lo
Justin Lo
Partner

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