Pay-If-Paid vs. Pay-When-Paid – Know the Local Law!
“Pay-if-paid” and “pay-when-paid” clauses are commonly found in construction contracts. Their potential benefit – at least to the upstream contractor – is obvious: if the clause is interpreted literally, risk of non-payment from an owner or general contractor is pushed downstream. In other words, the contractor is under no obligation to pay his subcontractors unless – and until – the general is paid by the owner.
However, in practice, these clauses actually function far differently than how they may initially appear. State legislatures and courts often dictate how these clauses will be interpreted, and that interpretation can vary greatly from state to state.
For example, in South Carolina, “pay-IF-paid” clauses are viewed as void and unenforceable. (S.C. Code Ann. § 29-6-230.) South Carolina courts will instead treat this language as a “pay-WHEN-paid” clause. In South Carolina, pay-when-paid clauses are generally enforceable. This means that the contractor can postpone payment to his subcontractors — but only for a reasonable time — to afford the contractor an opportunity to receive payment from the owner.
Contrast this with North Carolina, where the state legislature has expressly provided that neither pay-if-paid nor pay-when paid are enforceable. (N.C.G.S. §22C-2.) Yet other states, including Alabama, Georgia, Kentucky, Louisiana and Virginia (among others), allow and enforce both pay-if-paid and pay-when-paid clauses in construction contracts.
In theory, these clauses appear to provide a great risk-shifting mechanism for upstream contractors. However, it’s best to make sure you are up to speed on the laws of the state where your project is located before either asserting a claim for payment or withholding payment based these clauses.