August 2008

Appeared in the Baltimore Business Journal
If you have questions about the new retainage bill, please contact Mark Keener at 410 347 1366 or mkeener@gejlaw.com


Maryland's new retainage bill protects both property owners, contractors
For years Maryland subcontractors and material suppliers have been lobbying the state legislature for a statutory limit on the amount of retainage withheld in construction contracts. In 2008, the Maryland General Assembly responded to their demands and in doing so joined a national trend of regulating retainage. Senate Bill 313, passed during the spring session, limits the amount of retainage that can be withheld to five percent of the contract price.

Retainage refers to the amount of money withheld by an owner or a contractor from the total payment due to a contractor or subcontractor under a construction contract. It is typical for an owner or contractor to retain approximately ten percent of the contract sum. The practice of withholding retainage helps owners ensure that they will have enough money to complete construction its contractor or subcontractor fails to do so. Retainage is also used to encourage timely completion of the project, since full payment is usually not made until after substantial completion.

Since 2003, Maryland has imposed a five percent limit on retainage in construction contracts with the State. Beginning in October 2008, this limit will apply to any construction contract, public or private, in which a contractor or subcontractor furnishes one hundred percent payment and performance security. The bill also provides that the amount of retainage held back in a contract between a contractor and subcontractor may not exceed the amount retained in the contract between the owner and contractor.

Subcontractors and material suppliers have long advocated the need to abolish the practice of withholding retainage. They argue that retainage unfairly burdens subcontractors whose work takes place early in the construction process and must wait many months, if not years, before receiving full payment. Moreover, in the event that completion of the project is unexpectedly delayed, as is often the case, the retainage can create a cash flow problem for subcontractors. Subcontractors and suppliers contend that they are not the appropriate parties to bear this burden.

Owners, on the other hand, maintain that withholding retainage is a necessary practice and should not be regulated. They argue that no suitable alternative exists for ensuring completion of their projects in a timely manner. Without sufficient retainage, there is an increase in the risk that a subcontractor will cut its losses on a difficult project and commence a new job without completing its work on the current one. Owners believe that they should have the right to negotiate retainage provisions in private contracts without government interference.

There has been a recent national trend of enacting legislation related to retainage. Today, nearly every state has enacted legislation to regulate retainage in public construction contracts, and many have done so with respect to private contracts. For example, many states impose a cap on the amount of retainage and also require it to be released when a project is fifty percent complete, instead of upon substantial completion. Other states actually mandate that owners withhold a higher amount of retainage until the project has achieved fifty percent completion, with a lesser percentage withheld through substantial completion. Moreover, some states require retainage to be held in interest bearing accounts, with the interest accruing to the benefit of subcontractors. In 2007, New Mexico enacted the most aggressive retainage legislation to date, which essentially prohibits the withholding of any retainage in construction contracts. Despite the growing trend among states to address retainage in some fashion, there is little consensus about the best way to do so.

Given the variety of retainage legislation, Senate Bill 313 is in the middle of the road between what subcontractors desire and what owners require. The bill represents a win for subcontractors because retainage in private contracts will now be regulated. Nevertheless, the bill is sensitive to contractors because a five percent limit does not eliminate the subcontractors’ perceived burden; it merely decreases the potential financial impact of retainage. It is likely that the battle over retainage will continue to be played out in Maryland for years to come.