Receivership of a Company prevents a notice of intention to withhold from biting

Article by Michael P. Gerard MSc, PGDipLaw, PGDipBar, FCIOB, MCIArb, MAE
Barrister, Chartered Builder, Registered Adjudicator & Accredited Expert

Case: Melville Dundas Ltd and Others v George Wimpey UK Ltd and Others [2007] UKHL 18Before Lord Hoffmann, Lord Hope of Craighead, Lord Walker of Gestingthorpe, Lord Mance and Lord Neuberger of Abbotsbury

After nearly 10 years of statutory adjudication, at least we know that in the absence of a timeous Section 111 withholding notice, there is nothing an Employer can do but to pay up, after all, we have authorities such as SL Timber Systems Ltd v Carrillion Construction Ltd [2001] and Rupert Morgan Building Services (LLC) Ltd v David Jervis and Harriet Jervis [2003] to rely on. But then came the decision in Melville Dundas Ltd and Others v George Wimpey UK Ltd and Others, which is the first House of Lords decision under the Construction Act, which allowed an Employer to retain the amount previously stated as due.

The Facts

Melville Dundas was employed by Wimpey under a JCT Standard Form of Building Contract with Contractors Design (1998 edition) which provided for monthly applications for interim payments. Under clause 30.3.6, the final date for payment of the amount due in an interim payment was 14 days after receipt by the employer of the application.

Melville applied for an interim payment of approximately 400,000 on 2 May 2003 making the final date for payment 16 May 2003.

Clause 30.3 of the Contract provided for the following:

30.3.3 Payment notice was to be issued within five days of the receipt of an application specifying the amount which the employer proposed to pay, together with the basis upon which that amount was assessed (a Section 110 notice).
30.3.4 Not later than five days before the final date for payment, the Employer could give notice of any amount proposed to be withheld and to be deducted from the sum otherwise payable under Clause 30.3.3 together with the ground/s for such withholding or deduction (a Section 111 notice).
30.3.5 In the absence of an Employers [withholding] notice under Clauses 30.3.3 and/or 30.3.4 the amount sought in the application for interim payment should be paid in effect within 14 days.

Wimpey did not make payment by the final date or issue a payment or withholding notice (under Sections 110 & 111 of the HGCRA). The absence of a withholding notice should therefore have entitled the Contractor to payment of its claim.

On 22 May 2003 administrative receivers of Melville Dundas were appointed by its bank (Mr Colin Peter Dempster and Mr Thomas Merchant Burton), and on 30 May 2003 Wimpey exercised its right under Clause 27.3.4 to determine the employment of Melville Dundas, thus Clause 27.6.5.1 came into play:

Subject to Clauses 27.5.3 and 27.6.5.2 the provisions of this Contract which require any further payment or any release or further release of retention to the Contractor shall not apply; provided that Clause 27.6.5.1 shall not be construed so as to prevent the enforcement by the Contractor of any rights under this Contract in respect of amounts properly due to be paid by the employer to the Contractor which the employer has unreasonably not paid and which, where Clause 27.3.4 applies, have accrued 28 days or more before the [22 May 2003] date when under Clause 27.3.4 the employer could first give notice to determine the employment of the Contractor . Emphasis added.

It was common ground between the parties that the final date for payment (16 May 2003), was less (not more) than 28 days before the appointment of a receiver (22 May 2003), so the proviso did not apply.

Proceedings

Melville Dundas instigated proceedings for recovery of the amount it had applied for and at first instance, Lord Clarkes judgement found in favour of Wimpey where he held that it could not have been intended that the HGCRA would operate to prevent Wimpey from withholding payment in these circumstances.

Melville Dundas successfully appealed the decision in the Inner House of the Scottish Court of Session. The Court said that Clause 27.6 of the JCT Contract could not be construed in the light of the HGCRA as altering retrospectively the final date for payment established by Clause 30.3. The Inner House emphasised the importance of the Acts intention of cash flow being the life blood of the construction industry.

The House of Lords decided however, by a majority of three to two, to allow the appeal and thus gave effect to Lord Clarkes judgement in favour of George Wimpey.

Contract v Statute

Melville Dundas had unsuccessfully argued that the phrase the provisions of this Contract which require any further payment or any release or further release of retention to the Contractor shall not apply meant further liability and did not apply to a liability that had already arisen (on 16 May 2003) prior to the determination (on 30 May 2003). It was held that the Contract meant that Melville Dundas was to be paid nothing more on an interim basis.

Hence, the key issue of the parties is the wording between the Contract (at Clause 27.6.5.1, which allowed the Employer not to pay the interim application that was otherwise due), and the HGCRA 1996 (at Section 111(1), where A party to a construction contract may not withhold payment after the final date for payment of the sum due under the contract unless he has given an effective notice of intention to withhold payment.). The House of Lords held that in these circumstances it was the Contract that prevailed over the statute.

Lord Hoffmans view was that Wimpey could not have served a Section 111 notice by 11 May 2003 (i.e. 5 days before the final date for payment), simply due to the fact that it was not aware that Melville Dundas had entered administration until 22 May 2003. At paragraph 22 of the judgement, Lord Hoffman stated that he very much doubted whether Parliament ever had in mind a ground for withholding payment which might arise after the final date for payment:

I would prefer simply to say lex non cogit ad impossibilia and that on this ground Section 111(1) should be construed as not applying to a lawful ground for withholding payment of which it was in the nature of things not possible for notice to have been given within the statutory timeframe

The views of Lords Walker, Hoffman and Hope relied on insolvency legislation as a basis of their reasoning which allows a creditor to set-off a debt owed to an insolvent company against any sum it is owed, thus just leaving the balance as a debt to the creditor, as justification for keeping the debtor out of the money.

Should Wimpey, as the Employer, be required to pay over the money, it would not have been possible for it to recover the same and thus Wimpey would have simply become an unsecured debtor and having to prove its cross-claim in the liquidation process. Conversely, with Wimpey retaining the money, it could under Clause 27.6.5.1 of the Contract, set it off against its cross-claim for non-completion. Upon insolvency, liability to make an interim payment therefore became a matter which related not to cash flow but to the substantive rights of the Employer on the one hand and the contractors secured or unsecured creditors on the other.

The Employer had a [limited] right to retain money under Clause 27.6.5.1 of the Contract, which was intended as security for its cross-claims and this seemed a reasonable compromise between the Employer retaining the money as against a potential insolvent Contractor, which would otherwise allow the insolvent Contractors creditors to use the Employers money to improve its position.

Lord Walker agreed with Lord Hoffman. Lord Hope, at paragraph 41 of the judgement, gave a purposive construction to Section 111(1) although it did not contain any obvious ambiguity. He said that the mischief that Section 111(1) addresses:

is that of the withholding payment without notice of stage payments or other periodic payments (see Section 109(1)), not the withholding of payment of sums already due in the event of the determination of the contractors employment pending the making up of an account to identify the balance, if any, due to either party once the loss and damaged caused to the employer as a result of the determination has been taken into account. The parties freedom of contract as to the circumstances in which the contractors employment may be terminated and, if so, with what consequences, has not been affected.

The two dissenting Lord Mance and Lord Neuberger, stated that once the sum had become finally due and there were no requisite cross or withholding notices, it was payable. The parties could not legislate by the determination provision (as in the present Contract) to make what was a finally payable sum into something which was not then payable.

Lord Neuberger at paragraph 64 said:

It is also an approach that commends itself to me, at least as a matter of simple statutory interpretation. On the face of it at any rate, if a statute provides that a person may not withhold payment after a specified date has passed, it appears to me that a contractual provision that he may do so must be ineffective. That conclusion is supported, in my view, by the fact that sections 110 and 111appear to have the aims of (a) providing a clear and simple system to ensure that parties to construction contracts know where they are with regard to payments, and (b) ensuring that contractors and sub-contractors can be confident about their cash-flow.

The current position according to Melville Dundas therefore, is that it allows the Employer to retain a sum that would otherwise be due where a subsequent event occurs, despite the failure to serve a withholding notice, providing that it was not possible to issue the withholding notice within the statutory time frame, thus enabling the statute to be inoperable in such circumstances.

It remains to see whether this principle that circumvents the Act will be applied in similar circumstances of insolvency or whether advocates in the future will present more persuasive arguments over other lawful intervening grounds, although Melville Dundas is law and has already been followed by HHJ Peter Coulson QC in the TCC in Pierce Design International Limited v Mark Johnston [2007].

Certainly it can now be seen that Section 111 can be undermined and perhaps Contracts in the future can be drafted which makes an interim payment which has become due to be legally avoided, by means of an event not known or considered at the material time: The parties are free to agree the amounts of the payments and thecircumstances in which, they become due. This House of Lords decision allows [limited] circumstances to operate retrospectively and thus to circumvent the previously considered mandatory issuing of a timeous (and valid) withholding notice, in circumstances where it was not possible to comply.

© Michael Gerard Consulting Limited
August 2007