'Pay When Paid' Clauses: What Are They?

If you work in construction or supply services to larger projects, you’ve probably seen (or been asked to sign) a contract with a ‘pay when paid’ or ‘pay if paid’ clause.

On the surface, these provisions look like a harmless way to manage cash flow: the head contractor only has to pay a subcontractor after the principal pays them. In practice, though, they can put serious strain on smaller businesses and are tightly regulated in Australia.

In this guide, we’ll unpack what these clauses mean, when they’re unlawful, how the security of payment laws protect you, and practical alternatives you can use to fairly manage payment risk without falling foul of the legislation.

What Is A ‘Pay When Paid’ Clause?

A ‘pay when paid’ clause is a contract term that makes your right to be paid dependent on someone else receiving money first. You’ll see a few variations:

• Pay when paid: the contractor won’t pay the subcontractor until the principal pays the contractor.
• Pay if paid: the subcontractor only gets paid if the contractor is paid (a stronger condition precedent).
• Pay when certified: payment is linked to certification of a progress claim (e.g. by a superintendent or project manager).

These clauses are almost always about shifting project cash flow risk down the chain. If the principal is delayed or disputes an invoice, the delay (or non-payment) flows to the subcontractor or supplier.

Why do they matter? Because your labour, materials and overheads don’t pause while you wait for money to move up the chain. That’s exactly why Australian legislatures have stepped in with security of payment regimes to restrict or void these terms in construction contracts.

Are ‘Pay When Paid’ Clauses Legal In Australia?

Short answer: in the construction industry, no. Each state and territory has a Security of Payment (SOP) law that makes ‘pay when paid’ clauses of no effect for construction contracts. The precise wording varies, but the idea is the same - you can’t make a subcontractor’s right to be paid contingent on whether someone higher up the chain has been paid.

How The Security Of Payment Regime Works

SOP legislation (for example, in NSW, Victoria, Queensland and other jurisdictions) gives contractors and subcontractors a statutory right to make progress claims and be paid within prescribed timeframes. If there’s a dispute, you can apply for rapid adjudication, which results in a binding determination (on an interim basis) so cash keeps flowing during the project.

Importantly, SOP laws typically:

• Void ‘pay when paid’ terms - any clause that makes payment contingent on payment from the principal is of no effect.
• Set maximum payment periods - so you’re not left waiting indefinitely.
• Create a fast-track dispute process - adjudication can deliver a decision in weeks, not months.

If you’re unsure whether a term in your contract falls foul of SOP, it’s worth getting a contract review before you sign. Clauses can be drafted in subtle ways that still try to defer payment unlawfully.

What About Non-Construction Contracts?

Outside construction, parties have more freedom to set payment timing. Even then, if you sell to consumers or small businesses, the Australian Consumer Law (ACL) and unfair contract terms regime still applies. This means overly one-sided payment provisions can be challenged and, from November 2023, unfair terms can attract significant penalties.

If you supply goods or services on standard T&Cs, consider a UCT review and redraft to make sure your payment terms are enforceable and not at risk under the unfair contract terms regime.

Common Risks And Pitfalls For Builders And Subcontractors

Even with SOP protections, payment terms can still create risk. Here are issues we regularly see:

Hidden Dependencies In Payment Clauses

Some contracts don’t use the words “pay when paid” but still tie payment to upstream events - for example, “payment will be made upon certification by the superintendent and receipt of funds from the principal.” This is the kind of drafting SOP laws aim to neutralise, but it can cause confusion and delay if not addressed.

Extended Payment Terms That Strain Cash Flow

Lengthy payment periods (e.g. 45-60 days EOM) aren’t technically ‘pay when paid’, but they can be just as painful. Long terms can also conflict with SOP payment timeframes. When terms clash with the legislation, the statutory timeframes usually prevail.

Set-Offs And Back-Charges

Contractors often reserve broad rights to deduct alleged defect costs or delay damages from amounts otherwise payable. Reasonable set-off rights are common, but they should be scoped carefully to avoid becoming a catch-all reason not to pay. It’s sensible to tighten and clarify any set-off clause so it’s fair, transparent and compliant with SOP.

Missing Security Over Goods Or Unpaid Work

If you supply high-value materials on credit, think about taking security over the goods or receivables. A well-drafted credit application and terms backed by a General Security Agreement that you then register as a PPSR security interest can put you in a stronger position if payment is delayed or disputed.

Weak Or Vague Scope And Variation Processes

Payment disputes often start with unclear scope or undocumented variations. If it’s not clear what’s included, how variations are approved, and how rates apply, it’s harder to press a clean claim under SOP. Ensuring your Supply Agreement or subcontract sets this out plainly can save headaches later.

Better Alternatives To Manage Cash Flow And Risk

If ‘pay when paid’ clauses aren’t allowed in construction, what can you use instead? Plenty of lawful, balanced options are available.

Progress Claims With Clear Milestones

Break the work into stages and agree milestone-based payments or monthly progress claims. State the reference dates, the assessment process, and the payment timeframe in line with the relevant SOP law.

Pay-When-Certified (Properly Framed)

It’s acceptable to link payment to a genuine, objective certification process (for example, a superintendent confirming the percentage of completion) so long as payment is not contingent on someone else being paid and the assessment is done promptly. Certification should be an administrative step - not a tool to delay payment.

Reasonable Retention And Defects Liability

Retention (e.g. 5% with half released at practical completion and the balance at the end of the defects liability period) can manage defects risk without deferring all payment. Make retention caps, release triggers and timing crystal clear.

Short, Enforceable Payment Terms

Align your invoicing cycle with SOP timeframes and keep your commercial terms simple. If you sell outside the construction space, your terms should set out due dates, dispute steps and interest on late payment in a fair way - our guide to setting invoice payment terms covers the key points.

Project Trust Accounts / Project Bank Accounts

On certain projects (depending on jurisdiction and project value), trust account regimes or project bank accounts may be mandated to protect subcontractor entitlements. These frameworks ensure money intended for subcontractors can’t be diverted elsewhere.

Security Interests Over Goods And Progress Payments

If you provide supply-and-install services, consider retention of title and PPSR registration so you have a recognised interest in unpaid goods. Understanding the PPSR and how it interacts with your contract terms is a powerful way to reduce non-payment risk.

Early Dispute Escalation And Adjudication

Build a step-by-step dispute process into your contract. If a payment claim is knocked back without good reason, use the adjudication pathway under SOP promptly. Acting early often prevents a small payment issue becoming a project-stopping dispute.

How Should You Draft And Negotiate Payment Terms?

Whether you’re the head contractor or a subcontractor, well-drafted payment terms set expectations, keep cash moving and reduce the chance of disputes. Here’s a practical approach that aligns with Australian law.

1) Map The Cash Flow

Before drafting, map the likely cash cycle (from claim submission to certification and payment). Then ensure the contract’s dates mirror that cycle and comply with SOP timeframes. Avoid any wording that makes your payment dependent on someone else’s receipt of funds.

2) Use Clear, Consistent Language

Define “Reference Date”, “Progress Claim”, “Payment Schedule” and “Due Date” in plain English. If a superintendent is involved, set objective timeframes for assessment and certification. Keep it consistent across your agreement and any annexures or schedules.

3) Tighten Set-Off And Back-Charge Rights

It’s reasonable to allow set-off for clearly identified, substantiated amounts (e.g. an agreed defect rectification cost). Broad, discretionary rights to deduct “any amount the contractor considers due” can be risky and could clash with SOP. Narrow the clause and require notice and evidence.

4) Lock In Variation Processes

Spell out how variations are requested, approved, priced and documented. If a variation is instructed verbally, require follow-up written confirmation within a short period so it’s captured in the next claim.

5) Add Practical Incentives Instead Of Conditional Payment

Use tools like prompt-payment discounts, retention release milestones and interest on late payments rather than conditioning payment on upstream events. These are lawful and encourage timely payment behaviour.

6) Prepare Standard Forms - But Tailor When Needed

Have a standard subcontract or supply agreement you can rely on, and tailor schedules for the specific project. If you’re refreshing your documents, consider a short piece of clause drafting support to make sure your payment, variation and dispute provisions align with current SOP law.

7) Document Changes Properly

If you agree to tweak payment mechanics mid-project, record it in a formal Deed of Variation. For dispute settlements (for example, agreeing to pay a set amount by set dates), use a Deed of Settlement so the arrangement is binding and enforceable.

8) Get A Legal Sense-Check Before You Sign

A quick independent review often spots risky drafting, unlawful ‘pay when paid’ mechanics hidden in definitions, or payment terms that conflict with SOP timeframes. A short construction lawyer consult or contract review upfront can save months of chasing later.

Frequently Asked Questions

Can A Contract Use The Words ‘Pay When Paid’ If The Parties Agree?

In construction contracts, even if both parties agree, clauses that make payment contingent on upstream payment are generally void under SOP laws. The clause will be of no effect, and statutory payment rights will apply.

What If My Contract Says ‘Payment Once The Principal Approves’?

If “approval” is simply certification that the work is complete (and is done within a reasonable, stated timeframe), that’s usually fine. If “approval” effectively means “after the principal pays us”, that will likely be void under the legislation.

How Fast Do I Need To Act On A Disputed Payment Claim?

Act quickly. SOP regimes set strict deadlines to serve payment schedules and lodge adjudication applications. Diarise the key dates and escalate immediately if a payment is late or a schedule is unsatisfactory.

Are Long Payment Terms (60-90 Days) Allowed?

If SOP applies, maximum payment periods may be set by law, which can override longer contractual terms. Outside construction, long terms might be permitted, but they can be risky from a cash flow and unfair contract terms perspective.

Can I Secure My Position If I’m Supplying Materials?

Yes. Use retention of title and register a PPSR security interest against the customer. This requires the right wording in your terms plus timely registration - a good reason to align your paperwork with the PPSR framework.

Key Takeaways

• ‘Pay when paid’ and ‘pay if paid’ clauses in construction contracts are generally void under Australia’s Security of Payment laws.
• Linking payment to upstream receipt of funds is risky; instead, use clear progress claim mechanics with defined reference dates and due dates.
• Tighten set-off rights, lock in variation processes, and consider lawful tools like retention, interest and prompt-payment incentives.
• Strengthen your position with appropriate credit terms and PPSR registrations where you supply materials on credit.
• If payment is disputed or delayed, escalate early using the SOP adjudication pathway and keep strict track of deadlines.
• A short, proactive contract review and tailored clause drafting can prevent unlawful terms and protect your cash flow from day one.

If you’d like a consultation on drafting compliant payment terms or reviewing a contract with ‘pay when paid’ wording, you can reach us at 1800 730 617 or team@sprintlaw.com.au for a free, no-obligations chat.