New law in Illinois Regarding the Limitation on the Amount of Retainage that can be Withheld from a Contractor in a Construction Contract

Everyone in the construction business needs to know about a new law in Illinois that limits the amount of retainage that can be withheld from a contractor who has entered into a private contract for the construction of a private commercial structure or single family housing of more than twelve units.  The law does not apply to public contracts.

This law is intended by the Illinois General Assembly to favor contractors and subcontractors as the latest salvo in the unending evolutionary war of survival between owners and contractors.  The Illinois Mechanics’ Lien Act, whose definitions are incorporated in the Contractors Prompt Payment Act, moved the pendulum to the advantage of contractors and particularly subcontractors when it gave subcontractors the ability to lien a job even if they did not have a contract with the owner.  After the passage of the Mechanics’ Lien Act, it was no longer a defense to a subcontractor’s payment claim for an owner to say that he had no knowledge of the subcontractor and that the owner had no enforceable contract with the subcontractor.

However, as many subcontractors know, the ability to file a lien claim can sometimes have limited success as a tactic to obtaining payment, because it can take years to litigate a mechanics’ lien claim, and the owner can starve out a small subcontractor by withholding payments for work performed.  Owners also had an advantage in a “take it or leave it” negotiating position in awarding contracts.  The recent law passed in Illinois, part of a relatively recent statute known as the “Contractors Prompt Payment Act,” is intended to shift the balance back towards contractors and subcontractors and away from the owner, the party who controls the purse strings.  The Contractors Prompt Payment Act provides some relief to contractors from their inherent disadvantage under the Golden Rule:  “He who has the gold, makes the rules”.

In 2017, 815 ILCS 603/10 was added to the the Contractors Prompt Payment Act.  As of August 18, 2017, this new section required that all construction contracts in Illinois include a provision, whether written into the contract or not, that all contractors whose work is approved by the owner, and that all subcontractors whose work is approved by the owner or contractor, shall be paid within 15 days.  This section strengthened section 603/15, passed by the Illinois General Assembly in 2007, which required payment of 10% interest on payments not made in a “timely manner”.  The 2017 law answered the obvious question:  What does “in a timely manner” mean?  As of 2017, it means “within 15 days”.

Section 603/20 of the Illinois Contractors Prompt Payment Act, which is effective as of August 20, 2019, is intended to help contractors and subcontractors by limiting the amount of retainage that can be withheld to no more than 10%, and requiring that once a job has been 50% completed based solely on the cost of the contract, the retainage must be reduced to 5%.  This requirement of reducing a contract’s retainage to 5% means that at the 50% cost point of the contract, the owner must be prepared at the next pay request to pay out additional funds to reduce the retainage going back from the beginning of the job to 5%.  Thus, on a two million dollar job with 10% retainage, at the 50% completion of the job – when the contractor has completed one million dollars’ worth of work – the 10% retainage withheld so far would equal $100,000 (10% of one million).  At the next pay period after 50% completion of the contract, the owner will have to pay the contractor an additional $50,000 to bring the retainage on the first half of the job down from 10% to 5%, in this example, from $100,000 to $50,000.

While this new law lowering the allowable retainage on construction contracts is certainly helpful to subcontractors, there is a potentially unintended negative consequence for contractors on large projects, because Section 603/20 requires the retainage to be reduced to 5% at the 50% level of completion of each separate subcontract.  That means that the contractor may be at less than 50% completion under its contract with the owner, but some of his subcontractors are beyond 50% completion under their contracts with the contractor, and those subcontractors must be paid for 95% of their work at a point in the project when the contractor is only being paid for 90% of the contractor’s work.  Thus, a contractor must be careful in negotiating his contract with the owner to make sure that the owner pays enough funds to the contractor to cover the decrease in retainage of the earliest subcontractors such as the excavator who are the first ones to complete the work in their subcontracts; otherwise, the contractor will face possible liability for payments to subcontractors out of his own pocket instead of from funds paid by the owner.  For example, if the contractor hired an excavating subcontractor whose subcontract was worth $2 million like the example in the previous paragraph, the contractor would be required to pay the excavator an extra $50,000 to lower the retainage from 10% to 5% after the excavator had performed 50% of the subcontract, but the owner would be still holding back 10% retainage from the contractor if the contractor’s overall contract for the entire project has not been 50% completed.  In that case, if the contractor does not have the correct wording in his contract with the owner to cover the decrease in retainage for early-finishing subcontractors, then the contractor would have the burden of paying the extra $50,000 to the excavating subcontractor when the excavator’s work becomes 50% completed.

Section 603/20 of the Illinois Contractors Prompt Payment Act reads as follows:

This new section of the Contractors Prompt Payment Act 815 ILCS 603/20 limiting retainage in construction contracts to 10% and reducing retainage to 5% when the contract is 50% completed is now the law in Illinois.  Whether this provision is written in a construction contract or not, this law says that the retainage limitations are in the contract whether you see them or not.  It would be wise for contractors to inform their estimators of this new law, and for owners to be aware of this law when budgeting their projects.

By: Matt Caruso
Roberts & Caruso
411 W. Wesley
Wheaton, IL 60187
(630) 510-1800