Retention Payments Explained

Summary

Retention is the construction industry's standard mechanism for giving clients security that defects will be fixed. The client withholds a small percentage of every interim payment and only releases the held money in two stages — half when the work is substantially complete, the other half once any defects identified during the rectification period have been put right. On paper this is sensible: it incentivises the contractor to finish properly and to respond to defect notices.

In practice, retention is one of the most contentious areas of construction finance, especially for sub-contractors and smaller firms. Money that has been earned is held back, often for 12–24 months, by clients who may go insolvent, dispute defects, or simply refuse to release the funds without a fight. Industry research (BEIS 2017) estimated that £700–900 million of retention money is lost to construction firms each year through delayed release and upstream insolvency. The Construction (Retentions) Bill — first introduced in 2018 and revived in subsequent parliamentary sessions — proposes a statutory retention deposit scheme to ring-fence retention money, but at the time of writing it has not become law.

For a sole trader or small builder, the priority is to know exactly what your contract says about retention, what your statutory rights are under the Construction Act, and to invoice and chase retention with the same discipline as any other payment. Forgetting to invoice retention is the most common reason it never gets paid.

Key Facts

• Typical retention rate — 3% or 5% of each interim payment under JCT contracts. Higher rates (up to 10%) appear in bespoke contracts but are increasingly criticised.
• Two-stage release — Half released at Practical Completion (PC), balance released at the end of the Defects Rectification Period (DRP) once defects are made good and the Certificate of Making Good is issued.
• Defects Rectification Period — Typically 6 or 12 months under JCT, sometimes 24 months for major projects. The period runs from PC.
• JCT Standard Building Contract 2024 — Default retention rate 3%, with provisions for the Employer to deduct retention from each Interim Payment.
• JCT Minor Works Building Contract 2024 — Default retention rate 5% during the works, reducing to 2.5% after PC.
• Construction Act 1996 (HGCRA) — Applies to construction contracts in writing and (since 2011) oral contracts. Requires an adequate payment mechanism and notice regime.
• Local Democracy, Economic Development and Construction Act 2009 — Amended HGCRA. Payment notices, pay-less notices and right to suspend for non-payment.
• Pay-less notice deadline — Must be issued by the prescribed period before the final date for payment (typically 7 days under standard contracts). Miss it and the notified sum becomes due in full.
• Default payment terms — If a contract is silent or non-compliant, the Scheme for Construction Contracts (1998, amended 2011) applies — interim payments every 28 days, with 17-day payment due date and 7-day pay-less window.
• Suspension right — Contractor can suspend performance after 7 days' written notice for non-payment.
• Adjudication — Statutory right under HGCRA Section 108 to refer a dispute to adjudication at any time. Decision within 28 days. Binding until final determination.
• Trust account / retention deposit schemes — Voluntary and contract-specific in UK. Used on some public-sector framework agreements (Crown Commercial Service, Welsh Government Trust Retentions).
• Construction (Retentions) Bill 2024 — Private member's bill seeking statutory ring-fencing of retention. Status: not yet law.
• VAT on retention — VAT becomes due when retention is released, not when the original work was invoiced. Issue a VAT invoice when the retention payment is requested.
• CIS deduction — Construction Industry Scheme deductions apply to retention payments to subcontractors in the same way as to interim payments.
• Domestic clients — HGCRA does NOT apply to contracts with residential occupiers for work to their own home. Retention is governed by whatever is in the contract or, if nothing, common law.
• Bond alternative — Performance bond or retention bond can replace cash retention. Common on larger projects; less common for sub-contractors.

Quick Reference Table

Detailed Guidance

How retention is deducted

Retention is deducted from each Interim Payment (also called Application for Payment, Payment Notice or Stage Payment). Worked example using JCT default 3%:

Interim Application:           £20,000.00
Less retention 3%:                -£600.00
Net interim payment:           £19,400.00

This continues for the duration of the works. By PC, the accumulated retention represents 3% of the contract sum. At PC, half (1.5% of the total) is released. The other half stays with the client through the Defects Rectification Period.

Practical Completion and the first release

Practical Completion is the point at which the works are substantially complete and ready for use, despite minor outstanding defects (snagging). The contract administrator issues the Certificate of Practical Completion. Under JCT, this triggers:

• First half of retention becomes payable in the next interim valuation
• The Defects Rectification Period begins
• Liability for insurance typically transfers to the client
• Liquidated damages cease to accrue

The contractor should issue an invoice for the first half of retention immediately after PC. Do not assume the client will pay automatically — many small contractors lose retention simply because they forgot to ask.

Defects Rectification Period

During the DRP (commonly 12 months), the contractor remains liable for defects in their work. The contract administrator typically issues a schedule of defects within 14 days of the end of the DRP. Contractor has a reasonable period to make good. Once made good, the contract administrator issues a Certificate of Making Good Defects.

This certificate triggers release of the balance of retention.

Invoicing retention — practical steps

Retention does not invoice itself. Process:

1. Track retention from day one. On every interim valuation, record the retention deducted. Maintain a running total.
2. Diary PC and DRP end dates. When the Certificate of Practical Completion is issued, calendar the date and the DRP end date.
3. First retention invoice — at PC. Issue an invoice for 1.5% of contract sum (or whatever the contract specifies) immediately after the Certificate of Practical Completion. Reference the certificate.
4. Snagging — fix promptly. Address defect notices quickly to avoid disputes at DRP end.
5. Second retention invoice — at DRP end. When the Certificate of Making Good is issued, invoice for the balance. Reference the certificate.
6. Chase via payment notices. If payment is not made by the final date, issue an unpaid notice and consider adjudication or suspension.

Payment notice and pay-less notice regime

The Construction Act 2011 requires every payment to follow a notice timetable:

• Payment application / notice — Contractor (or paying party under some contracts) submits the application for payment.
• Due date — Date the payment becomes due. Set by the contract; under the Scheme, 17 days after application.
• Payer's notice — The paying party may issue a notice specifying the sum it considers due. Must be issued within 5 days of the due date.
• Pay-less notice — If the paying party intends to pay less than the notified sum, they must issue a pay-less notice no later than the prescribed period before the final date for payment (typically 7 days).
• Final date for payment — The last date payment can be made without default.

If the payer does not issue a payer's notice or pay-less notice, the contractor's notified sum becomes the "notified sum" and is payable in full. This is the strongest statutory tool the contractor has — clients who try to withhold retention without a pay-less notice are in breach of the Act.

When the client refuses to release retention

Common scenarios and responses:

• "There are still defects." Request a specific defects list in writing. If defects are minor, fix them and re-invoice. If defects are disputed, refer to adjudication.
• "You haven't signed off the snag list." Sign off what is genuinely complete; dispute what is not. Do not let blanket non-cooperation hold up retention.
• "The end of the defects period hasn't passed yet." Confirm the DRP start date (PC date) and end date. If it has passed and a Certificate of Making Good has not been issued, request one.
• "We never agreed retention release dates." Refer to the contract clauses. If the contract is silent, refer to the Scheme for Construction Contracts.
• Silence / non-response. Issue a formal payment application. If no pay-less notice is issued, the full notified sum becomes due and adjudication is available.

Adjudication — the contractor's tool

Adjudication is a statutory right under HGCRA Section 108. Either party can refer a dispute to an adjudicator at any time. Key features:

• Decision within 28 days of referral (extendable to 42 with consent)
• Binding until finally determined by litigation or arbitration
• Costs typically borne by each party (subject to scheme rules)
• Used routinely for retention disputes — fast and effective

Cost of adjudication is normally £5,000–£15,000 in adjudicator's fees plus legal costs. Suitable when retention amount justifies the spend.

Suspension for non-payment

Under HGCRA Section 112, the contractor can suspend performance after 7 days' written notice of non-payment. The contractor is entitled to:

• Time extension for the period of suspension
• Costs and expenses reasonably incurred as a result

Suspension is a powerful tool but rarely used by small contractors due to relationship damage. Adjudication is generally preferred.

Retention bonds as an alternative

Instead of cash retention, the contract can provide for a retention bond — a guarantee from a bank or surety company for the equivalent amount. The contractor pays an annual premium (typically 1–2% of the bonded amount). Cash flow benefit: full payment is received now, with the bond providing the security.

Retention bonds are common on projects above £1m. For smaller works, the bond cost often exceeds the cash flow benefit.

Domestic clients — HGCRA exemption

HGCRA Section 106 excludes contracts with residential occupiers (a person who occupies the dwelling as a residence). For these contracts:

• The statutory payment notice regime does NOT apply
• There is no statutory right to adjudication
• Retention is purely contractual — whatever the contract says, or nothing if silent

For homeowner work, agree retention terms in writing before starting. Many builders avoid retention altogether on domestic work and instead offer a 12-month workmanship guarantee.

Frequently Asked Questions

Can I refuse to accept retention in my contract?

Yes, retention is a contractual matter — there is no legal requirement to accept it. In a tendering situation, you can quote on a no-retention basis, perhaps with a workmanship guarantee, retention bond or higher price to reflect the risk. Whether the client accepts is up to them.

Do I need to invoice retention separately?

Yes. Retention is a discrete payment with its own due date and triggers. Issue separate invoices for first and second retention releases, each referencing the relevant certificate (PC certificate, Certificate of Making Good). VAT becomes due at the point of retention release, not the original work.

What if the client goes insolvent before retention is released?

This is the single biggest risk with cash retention. Retention money is part of the client's general assets and ranks as an unsecured debt in insolvency. Practical mitigations: prefer retention bonds, require retention to be held in a trust account (some public-sector contracts do this), or negotiate no retention with appropriate pricing.

Can the client deduct more than the agreed retention?

Only by issuing a valid pay-less notice within the prescribed period before the final date for payment. Without a pay-less notice, the notified sum is payable in full. If the client issues a pay-less notice, the contractor can dispute it via adjudication.

How long can retention be held?

Until the Defects Rectification Period ends and defects are made good. JCT default DRP is 6 or 12 months depending on the form. If the contract specifies 24 months, the client can hold for that period. Retention held beyond the contractual period without justification is a breach and can be claimed back via adjudication.

Is retention taxable income before it is paid?

For most contractors using accrual accounting, retention is recognised as income when the work is done, even though cash is not yet received. This means tax may be payable on retention before the cash arrives. Cash-accounting basis (available to small businesses under thresholds) defers the tax until cash is received. Consult an accountant.

Regulations & Standards

• Housing Grants, Construction and Regeneration Act 1996 (HGCRA) — Construction Act. Parts II covers construction contracts, payment, adjudication.

• Local Democracy, Economic Development and Construction Act 2009 — Amended HGCRA to strengthen payment notices and remove the "in writing" requirement.

• Scheme for Construction Contracts (England and Wales) Regulations 1998 (as amended) — Default terms where a contract is silent or non-compliant.

• JCT Standard Building Contract 2024 — Industry-standard main contract form.

• JCT Minor Works Building Contract 2024 — Form for smaller projects (typically under £500k).

• JCT Design and Build Contract 2024 — Where the contractor designs as well as builds.

• NEC4 Engineering and Construction Contract — Public-sector and major-project form. Option X16 covers retention.

• Construction (Retentions) Bill — Proposed but not yet enacted legislation to ring-fence retention.

• Insolvency Act 1986 — Governs how retention is treated on client insolvency.

• JCT Contracts — Joint Contracts Tribunal, publishers of JCT forms

• Construction Act guidance — gov.uk — UK government guidance on the Construction Act

• BEIS Retention Payments Consultation Response — 2017–2018 government consultation

• NEC Contracts — New Engineering Contract suite

• Construction Industry Council guidance — Industry body publications on payment and retention

• Adjudication Society — Resources on the adjudication process

• contract termination — When and how to end a contract

• complaint handling procedure — Resolving disputes before adjudication

• general — General contracting and payment topics