August 1, 2023
Assessing the enforceability of a pay-when-paid clause in Canada
BY ROB KENNALEY
In construction, a pay-when-paid clause generally provides that the payer will not have to pay until it gets paid by the person above it in the construction ladder. A ‘pay-if-paid’ clause, on the other hand, more particularly says the payer will only have to pay if it is paid by the person above. In other words, a “pay-when-paid” clause on its own can often be interpreted to govern the timing of payments, with the payee still entitled to payment if the payer is never paid by the person above them. In this article we will use the example of a contractor’s use of such a clause in its subcontract, although the law will apply consistently at every rung of the ladder.
Landscape subcontractors need to understand that a “pay when paid” or “pay if paid” clause can be applied so they won’t be paid for their work. Accordingly, avoiding such clauses where ever possible and understanding when and how they might be enforced is important.
The distinction between ‘pay-when-paid’ and ‘pay-if-paid’ raises a number of questions: are such clauses enforceable? If so, does the contractor have to try to recover from the owner to deny payment? What if the owner’s non-payment to the contractor has nothing to do with the subcontractor, or is attributable to the contractor’s alleged defaults under the prime contract? When will such clauses be interpreted as ‘pay-if-paid’, and what about the subcontractor’s lien rights: can it still lien if it is not entitled to be paid by the contractor because of such a clause?
Some 35 years ago, the enforceability of a pay-when-paid clause came before the Ontario Court of Appeal in Timbro Developments Ltd. v. Grimsby Diesel Motors Inc. (1988), 32 C.L.R. 32. There, the clause provided that the subcontractor would be paid within ten days of certification, or when the contractor was paid by the owner, whichever was later. The majority, in a 2-1 decision, held that “the clause clearly specifies the condition governing the contractor’s legal entitlement to payment and not merely the time of payment. Under the clause, the subcontractor clearly assumes the risk of non-payment by the owner to the contractor.” Finlayson J.A., in dissent, held that “the clause relates to the timing of payments due under the contract and in no sense puts the subcontractors at risk that they will not be paid if the contractor is not paid.” Leave to appeal to the Supreme Court of Canada was denied.
Several years later, the Nova Scotia Court of Appeal took a different view in Arnoldin Construction & Forms Ltd. v. Alta Surety Co. (1995), 19 C.L.R. (2d) 1. It held that a clause which provided for payment “on or about one day after receipt by the Contractor of payment from the owners” did not relieve the contractor from the obligation to pay if it was never paid by the owners. In doing so, it held that a very clear intention would have to be set out in the clause, for this to be the case:
“Appropriate words would have been that the balance claimed by the subcontractor … would only be paid “if” the owner paid the contractor. … Any provision intended to diminish or remove the subcontractor’s right to be paid should clearly state that and set out the circumstances in which the subcontractor will not be paid following the completion of his work.”
The Court in Arnoldin also based its decision on the fact that the clause was buried in ‘fine print’ on the back side of the two-page contract, holding that “an intention so important cannot be buried in obscure language that would not alert the subcontractor that payment for the subcontract work was conditional on the owner paying the contractor.” It further applied contra proferentum, which interprets ambiguous language against the party that drafted it. Curiously, the Supreme Court of Canada also denied leave to appeal in Arnoldin.
Although contractual clauses must be interpreted based on their own language and circumstances, Timbro remains binding in Ontario and continues to be followed and applied in the province. Elsewhere in Canada, however, the analysis in Arnoldin appears to be “pay when paid” or “pay if paid” preferred.
Three further principles have evolved in Canadian case law since Timbro and Arnoldin. First, it is generally established that such a clause will not be enforced unless the payer makes good faith efforts to try to collect the money from above. Second, the payer will not be able to rely on the clause if the reason for the non-payment from above is attributable to its own conduct. Third, it appears to be well-established that a subcontractor will still be able to enforce a claim for lien, under applicable construction lien legislation, even if such clause is in place. (In other words, the lien would not be invalid simply because, due to such a clause, the lien claimant was not actually owed any money).
Lessons to be learned generally include the following: for a “pay when paid” or “pay if paid” clause to be enforceable, the intention of the clause must be clear. Subcontractors who want to avoid the impact of such clauses should, of course, not agree to them (especially in Ontario where a “pay when paid” can be read as a “pay if paid” clause. Whether or not the clause is somewhat buried in ‘fine print’ might be a factor the Court will consider. In addition, the payer will not be able to rely on such a clause unless it has made good faith efforts to recover the money from above. Further, something more than a clear “pay when paid” intention will generally be required outside of Ontario if no payment is to be made if the payer is never paid from above. Finally, the fact that there is a “pay when paid” or “pay if paid” clause will not impact the lien claimant’s right to enforce a claim for lien.
There is this to be added: the CCA-1 standard form subcontract is heavily used in Canada. It calls for payment on the later of “30 calendar days of the subtrade’s invoice or 10 calendar days after the date of a Consultant’s certificate.” The 2021 CCA-1 was amended to also make payment subject to prompt payment legislation. The clause can be problematic for subcontractors, particularly in Ontario where payment might be denied where certification is never obtained (and a notice of non-payment is given). Clarity might accordingly be brought to bear through an amendment to the CCA-1 clause. In addition, a contractor who wants to deny payment because a certification was not obtained will have to, as the cases suggest, make good faith efforts to pursue the certification.
Rob Kennaley is with Kennaley Construction Law, a construction law firm with offices in Simcoe, Toronto and Barrie, Ont.