New York’s Revision of the Retainage Requirement for Private Construction Projects – Will This Keep Construction Projects Moving? by Michael D. Ganz, Esq. and Adam A. Perlin, Esq., published in the Nassau County Bar Association Journal, 9-2024

On November 17, 2023, New York Governor Kathy Hochul signed Senate Bill S3539 (“Retainage Amendment”), which amended Sections 756-a and 756-c of the New York General Business Law, commonly referred to as the Prompt Payment Act.

The Retainage Amendment, also known as the 5% Retainage Law, effectively limits the amount of retainage that can be held from general contractors and subcontractors on private construction contracts of $150,000 or more to no more than five (5) percent. The amendment took effect immediately and applies to contracts entered into on or after the effective date of November 17, 2023. Therefore, the new law does not apply to contracts that were entered into before the effective date of November 17, 2023, meaning that owners or contractors will not have to revise or amend pre-existing contracts to comply with the new retainage and final billing requirements.
Other State’s Retainage Laws

New York joins a growing number of other jurisdictions regulating retainage on private construction projects, including Massachusetts, Connecticut, Minnesota, Montana and Nevada, among others. No doubt, other states have recognized the importance of addressing stilted and vague retainage issues that have hampered construction projects for decades.1

The Purpose of Retainage
Before delving into the nitty-gritty of the new law, it is important to understand the purpose of retainage. Retainage is an amount of money (traditionally and most frequently ten percent (10%) of the amount payable by an owner to a contractor to provide that contractor with an “incentive” to complete its construction work.2 The retainage is thereafter paid to the contractor when it completes its work. The United States Bankruptcy Court presiding over an adversary proceeding in the Chapter 11 bankruptcy of Enron Corp. succinctly summarized the concept as follows:

“The retention of a percentage of a contractor’s monthly progress payments, known as retainage, secures the payment of performance-related damages. The retainage is a means of ensuring the satisfactory completion of a construction project as it functions as an incentive for its timely and acceptable completion. The purpose of retainage is to avoid a situation in which “costs” to the contractor to complete the facility are less than “benefits,” i.e., final payment.”3

To provide a concrete example, a contractor who performs 1 million dollars of construction work and has 10% or $100,000 withheld (or retained) until it completes the work, is deemed more likely to complete its work because it must wait for the $100,000 until the end of the Project. The problem is that while this protects the owner, a contractor who operates on a narrow profit basis may need that $100,000 to continue to pay its own employees, subcontractors, suppliers, etc. By forcing these contractors to wait until the end of the project to receive 10% of their contract sum, many construction contracts drastically slow down because contractors lack the funds to pay their employees or to purchase materials. In severe cases, construction projects may cease altogether due to the financial difficulties encountered by financially struggling contractors.

By enacting the 5% Retainage Law, Governor Hochul and the New York Legislature aimed to ameliorate some of these problems. The new law amends Sections 756-a and 756-c of the General Business Law (part of Article 35E of the GBL, known as the “Prompt Pay Act”), and applies to private construction contracts “where the aggregate cost of the construction project, including all labor, services, materials and equipment to be furnished, equals or exceeds one hundred fifty thousand dollars.”4

Through this new 5% Retainage Law, owners, prime contractors, and subcontractors are prohibited from withholding more than 5% from their lower tier contractors. Importantly, in no case may a contractor or subcontractor withhold more than the percentage the owner retains on the prime contract. In essence, if an owner only holds 3% in retainage from the contractor, the contractor can therefore only hold 3% in retainage from its subcontractors.
Reducing by half the amount of retainage withheld to 5% ostensibly provides contractors with more money to continue performance. Owners may assert that the reduction swings the pendulum too far in the other direction and provides too little incentive for a contractor to complete its work (and correct defective work) if less money is held until the end. However, as set forth in the legislative history of the bill, the legislature believed they struck a proper balance, and that “mandating that substantial completion on private construction projects be specified in the contract and reforming the contract payment process of retainage would greatly reduce disputes and delays between owners and contractors.”5

The Law’s Final Billing Requirements
Besides the 5% Retainage cap, the statute provides contractors an important tool by allowing them to “submit a final invoice to the owner for payment in full upon reaching substantial completion.” The term “Substantial Completion” is “defined in the contract or as is contemplated by the terms of the contract.”6 Thus, the 5% Retainage Law defines Substantial Completion as however the parties define it in their contract. Typically however, a project reaches substantial completion when an owner may use the project for its intended purpose although some items of work may remain, i.e. punchlist items. For example, if a contractor is building a school, substantial completion might be achieved when the school is open and children are attending classes, even though some painting or carpentry issues remain. As a result, substantial completion represents a time period that precedes final completion of the entire contract. However, owners may seek to redefine “substantial completion” as a stage of completion closer to the final completion requirement, to postpone a contractor’s ability to submit a final invoice. Whether such attempts to redefine “substantial completion” will ultimately succeed will likely depend on litigation and how the courts interpret the relevant statutory language.
Moreover, the statutory language does not mean that an owner must release all retainage upon Substantial Completion. The law, as it did before this amendment, still requires that the owner release all retainage to the contractor no later than 30 days after final approval of the work under the contract. The change to the law merely accelerates the time in which a contractor may submit its final invoice.
As in the prior version of the law, contractors and subcontractors are required to release a “proportionate amount of retainage,” to the “relevant parties” (i.e., their lower tiers), after receiving payment of retainage from the tier above. Again, if an owner reduces retainage from 3% to 1% to the contractor, the contractor must also proportionally reduce its withheld retainage due to the subcontractor.
The penalty for failing to comply with the law remains the payment of interest at 1% per month from the date the retention becomes due.7

Can the Law be Contracted Around?
An open question after passage of the 5% Retainage Law is whether owners and contractors can enter into contracts that sidestep the new statutory language with higher retainage amounts. As set forth below, under the terms of the Prompt Pay Act (GBL Article 35-E), of which this law is a part, such a tactic could be possible, but as of yet, there is no case law providing judicial interpretation on the issue.
Specifically, in an earlier part of the Article, (GBL Section 756-a), the law provides that the terms of a construction contract “shall supersede the provisions of this article… except as otherwise provided in this article.” Section 757 also identifies a limited and specific list of contract terms that are void and unenforceable, including such provisions as: subjecting construction contracts to the laws of other states; requiring disputes to be venued other than in New York; prohibiting rights of suspension for non-payment; prohibiting arbitration of disputes under the Prompt Pay Act; establishing payment provisions that differ from those in 756-a(3); and obviating the penalty provisions of 756-b of the Act. However, the alteration of the retainage provisions contained in Section 756-c, is not included among this list of prohibited/voidable terms.
Based on the above, one plain-meaning reading of the statute appears to permit the parties to enter contract terms that differ from the statute’s 5% retainage requirements and the other requirements of Section 756-c. However, it seems doubtful that the New York State legislature would undergo the painstaking process of amending the retainage law only to leave a gaping loophole through which the parties could disregard the amendments entirely by simply agreeing to contrary terms in their contracts. The authors of this article foresee the enforceability of the new 5% Retainage Law and its restrictions as a likely source of future litigation that will require the courts to clarify the law’s enforceability and the scope of modification by private actors.

The 5% Retainage Law Applies to the Total Contract Sum and Not Individual Payments
There is a common misconception of the 5% Retainage Law held by many owners and contractors. These parties believe that no more than 5% in retainage can be withheld from each payment requisition/invoice. This is incorrect. In fact, the new law caps retainage at 5% of the total contract sum, and not 5% of each payment requisition/invoice. For example, the statute appears to permit an owner to hold 10% in retainage from a contractor for the first 50% of the contractor’s work, as long as the owner thereafter reduces the retainage to 0% for the remaining work. The owner would be compliant with the law because the owner would in effect be withholding 5% in retainage from the contractor on the total cost of the contractor’s work. Consequently, the customary practice of holding 10% until 50% completion, remains permissible under the new law.

Conclusion:
The 5% Retainage Law has been in effect for less than one (1) year and there is no caselaw law yet to determine its scope, to understand whether parties may modify it in private contracts, or to assess the law’s full impact. However, the reduction from the previously typical retainage amount of 10% to the current 5%, along with the impact of releasing retainage upon submission of an invoice for substantial completion, should both contribute to an overall improvement in the ability of both contractors and their subcontractors to remain financially sound for the duration of construction projects, which should in turn also expedite those projects. Another benefit of the new law may be that at a minimum, it compels all parties to give their form contracts a second look and an updated review. Regardless, the authors of this article predict that the 5% Retainage Law will result in new litigation over the requirements of owners and contractors, as well as over the definition of “Substantial Completion”, and owners and contractors will : require further clarification and guidance from the courts on these issues.

1 M.G.L. c. 149, § 29F; CT Gen Stat § 42-158k. (2023); Minn. Stat. 337.10; Montana Title 28-2-2110; NV Rev Stat § 338.515 (2022)
2 A contractor may also withhold retainage from a subcontractor to provide the same incentive.
3 In re Enron Corp., 370 B.R. 583, 594 (2007).
4 N.Y. Gen. Bus. L. § 756 (Definitions) (defining “Construction contract”).
5 N.Y. Spons. Memorandum, 2024 S.B. 3539.
6 N.Y. Gen. Bus. L. § 756-a.
7 N.Y. Gen. Bus L. § 756-b(1)(b)

AUTHORS: Michael D. Ganz, Esq. and Adam A. Perlin, Esq. 

Reprinted with permission by the Nassau County Bar Association