Retainage has become a vital part of the contracting and construction process. If defined precisely, retainage is a practice of withholding a particular percentage of the payment until the project is delivered.

However, the practice can turn to be a challenge for small contractors, as it is laid over a lack of trust in the potential and abilities of a contractor, which might cause financial downtime at the later stages of the project when contractors need to pay bills.

Since 2020 proved to be a tough year for the entire construction industry, project owners, general contractors and construction firms new to the industry must understand what exactly retainage is. It is equally important for small contractors and subcontractors to understand the right way to manage the retainage.

Here is a quick and easy guide that will help contractors understand the term retainage and learn the process to manage it, with bonus facts that can be of great value when dealing with retainage in real-world scenarios.

A Detailed Overview

Retainage refers to withholding of the money slated for a construction project until it is confirmed that contractors have satisfied the terms of the contract or have completed the job as per the requirements. The practice was created to protect the client’s investment in case of the contractor’s inability to work on the project.

The practice came into existence with the increasing demand for railway construction in the United Kingdom during the 1840s to deal with a large number of new and inexperienced contractors who wanted to take advantage of the opportunity while the government was not ready to take financial risks.

This led to a 20% retention of the total payment of the project but had a direct impact on contractor’s profit since they had to disincentivize underbidding and execute projects well to prevent unnecessary loss. And therefore, the practice is adopted by project owners these days, especially with projects that involve huge investment and have a higher risk of progress issues due to complexity.

Understanding Things Better

The term retainage is often associated with retention and they are commonly used in place of each other. However, retention is considered the very act of retainage in construction. Retainage is actually a very straightforward process.

For example, a client hires a contractor to build a 20,000-square-foot office building for $400 per square foot, or $8 million total. The contract includes a 5% retainage agreement. The client pays the contractor $7.6 million for the work and holds $400,000 for retainage. This money is released once the project is finished and the client signs off for a satisfactory delivery.

Effect Of Retainage On Contractors And Subcontractors

Retainage is meant to keep the clients protected against investment loss or delays while ensuring quality and satisfaction. However, the process can lead to so many difficulties for contractors during payment of bills, as they continuously have to run short on money due to retainage.

This is why some contractors tend to include retainage amounts in their bids. This makes clients increase the cost of the project, prompting them to eliminate or reduce the retention amount. Also, there are many legal aspects associated with retention that have made various states pass laws on defining maximum retainage rate.

What is the typical retainage percentage?

Most of the time, retainage and retention fees vary for different sizes and types of projects. Though federal and state projects have a lower retention rate, private jobs usually have a retention rate of around 7.5%.

What are the laws surrounding retainage?

When it comes to federal contracts, contracting officers are allowed to hold up to 10% of total money, while there are restrictions on arbitrary withholding. Besides this, there are no nationwide laws in the United States to limit the retention rate, but some states have implemented their own laws on limiting the retainage amount to 5% to 10% for public and private projects.

Nevertheless, the contractors must read all the documents carefully before signing the deal since clients could hold the money even after project completion if the contract has a clause that allows them to do so. In most cases, the retainage money is released once the project has been substantially completed, still, contractors must understand the parameters for retainage.

What Other Things Do Contractors Need To Know With Retention?

1. Retainage or retention entirely depends on a contractor’s reputation and relationship with the client. If it has worked on projects that have gone against the budget, chances for higher retainage are increased.
2. If the contract allows it, the project owner could hold money even after a project is completed. Therefore, the contract must be reviewed in detail.
3. In case a project owner is withholding money even after the completion of the project against contract terms, contractors can hire an attorney to assist with the case.
4. A contractor can file a lien if retainage is withheld, as it can help contractors to collect on the debt. But this needs contractors to consider state laws on lien-filing and have the advice of an attorney.

All in all, retainage has always been a controversial practice. Since it has turned to be standard practice in construction, contractors need to align with the retention process, and this can be done by simply seeking the help of technology like integrated construction management software.

Using such solutions could help contractors in bidding, contract and document management, daily reports and ensure timely payments for the activities completed during the project lifecycle until the project reaches the substantial completion stage, allowing the release of retention money.