Getting paid:
How to ensure prompt payment from your clients
and what to do when they cannot pay

By Jon Miller
Paper given to the Chartered Institute of Building Services
6 November 2003

Guarantees and Bonds

Guarantees

1. Guarantees and bonds are the most common form of financial security in civil engineering projects. A guarantee is essentially a contract confirming that, if a third party acts in breach of its obligations, the guarantor will step in and pay damages.

2. By way of illustration used in our last example:-

3. The significant point to bear in mind here is that the guarantee is often a secondary liability. In other words, the Contractor’s Parent Company should only be liable to pay damages if the Contractor has breached the contract and failed to pay. If the Contractor can defeat a claim from the Employer on the basis that the Contractor was told to prepare the design in a particular manner by the Employer’s Engineer, the Parent Company should be able to use the same defence.

4. Parent Guarantees are cheaper than bonds, but if a Contractor fails, he will often take his parent company with him. I am sceptical of the quality of security Parent Guarantees actually give.

5. Bonds are similar to parent company guarantees - bonds should be no more than a guarantee from a bank. However, the Bank will only guarantee the Contractor’s or Engineer’s performance up to a set level, normally 10% of the contract sum. To illustrate:

6. With an “on demand” bond an Employer does not even have to prove that the Contractor is in breach, he can make a call on the bond which the Bank (save in exceptional circumstances) has to pay. The Bank will charge a premium for the bond. Also the Bank will ask the Contractor to put a sum on deposit with the bank up to the level of the bond, or reduce the Contractor’s overdraft in order to limit the bank’s exposure.

Enforcement of Bonds and Guarantees

7. Bonds and guarantees disputes under the underlying Contract may also go to arbitration/litigation/adjudication the bond or guarantee may not even be subject to adjudication under the Housing Grants Act. In any event, if you wish to enforce a bond or guarantee, then you may have to sue/adjudicate under the underlying Contract, and then bring a separate set of legal proceedings under the bond/guarantee.

8. I recommend that you include the following in all parent company guarantees and bonds which are issued in your favour:-

Section 108 of the Housing Grants Construction and Regeneration Act 1996 shall apply to all disputes arising out of or in connection with this bond/guarantee. Any Adjudicator appointed to hear a dispute arising out of or in connection with [insert details of the underlying contract], may also hear a dispute arising out of or in connection with this [bond/guarantee].

9. The idea behind this clause is to ensure firstly for a speedy adjudication process. Secondly that an Adjudicator appointed pursuant to the underlying contract may also hear a dispute under the bond/guarantee.

This wording has never been tested before the Courts.

Other types of security

Escrow Accounts

10. Under an escrow arrangement, a bank or solicitor will hold on to a fund and only pay out on presentation of certain documents. For example, a delivery note confirming that the materials have arrived on site, or a certificate confirming that all defects have been rectified, when presented to the bank can lead to the payout of a set sum.

11. All banks and solicitors have different wordings for escrow arrangements. They are often set out in an “Escrow letter” which the banks and both parties sign.

12. The key features of an escrow arrangement are:-

1. simplicity. The bank holding the money will not want to enquire as to whether the materials have actually been delivered to site, or if all defects have actually been remedied. Presentation of a certificate/delivery note, etc. should be the trigger for payment, and no more;
2. there is normally a small fee involved in administrating the escrow account. As a rough guideline, most banks charge less than 2% but figures vary considerably.

Personal guarantees

13. A personal guarantee is in essence the same as a parent company guarantee (although the precise wording can vary from guarantee to guarantee). A director of the Company can guarantee payment but please bear in mind the points which I mentioned earlier in respect of enforcing a guarantee.Novation

14. Novation is an agreement entered into between 3 parties. The original parties to the Contract agree that it shall come to an end and the Supplier agrees to enter into a contract with a new third party, (say) the new owner of the building. The new contract may or may not be the same as the original contract between the Supplier and the customer.

15. The key point to bear-in-mind here is, who is going to pay for the monies which are owed to the supplier at the time of the novation?

16. You should be wary of clauses which allow for novation or “step-in-rights” which do not deal with the issue as to who is to pay for outstanding monies.
Direct payment

17. When Contractors go into liquidation, frequently Suppliers try to extract payment from the Employer. Essentially, those subcontractors who are vital to success of the project get paid, whilst those who have already have finished their works get nothing.

18. M&E subcontractors can sometimes be successful in extracting payment if they have managed to terminate their subcontract correctly, but the Employer needs software/controls expertise/O&M manuals in order to operate the M&E system.

19. There is a problem for Employers with direct payment. As I mentioned before, under the Pari Passu rule, when a company goes into liquidation, all the unsecured creditors should be paid equally. If an Employer decides not to pay the Contractor, but instead by the subcontractor direct, then there is a possibility that the Contractor’s liquidator may still try to recover the monies owed to the Contractor again on the basis that the Contractor should have been paid and the direct payment to the subcontractor circumvent the Pari Passu rule.

20. If an Employer wishes to pay a subcontractor direct, then his Contract with the Employer shall expressly allow him to do so – the JCT 1980 includes a provision to allow the Employer to pay nominated subcontractors direct.

21. However, this is a problem for the Employer rather than the Supplier.

Dishonoured cheques

22. Dishonoured cheques deserve a special mention. If you are in receipt of a cheque which has bounced, you may sue on a dishonoured cheque, without the Customer raising the defence of set-off.

We have repeatedly said in this Court that a [cheque] is to be treated as cash. It is to be honoured unless there is some good reasons to the contrary.⁽¹⁾

23. If a cheque has bounced on you, it is probably best to sue immediately. Also, you recall that I advised that one of the responses to the excuse “the cheque is in the post” is to get the cheque details (ideally by fax). Whilst this may not be sufficient to sue per se, it will be highly persuasive to the Court.

The Courts

Winding-up

Statutory Demand

24. Where it can be shown that a debt is due and it cannot be disputed in good faith, the Court may be prepared to place the company in liquidation. Similarly, where partners can be made bankrupt as can individuals.

The debt must be for at least £750.

25. This, as you will appreciate, can have a sphere effect on a company. Winding-up proceedings can affect a company’s credit ratings whilst making all the partners in a partnership bankrupt can lead to dissolution of the partnership. For some professionals such as solicitors and accountants, bankruptcy means an end to their career.

It is for this reason that you need to be sure that the debt cannot be disputed.

26. The first step in the winding-up of a company or individual is normally to issue a Statutory Demand for a sum in excess of £750.

27. There follows an example of a typical Statutory Demand.

Form 4.1

Contd.

PART A

The individual or individuals to whom any communication regarding this demand may be addressed

is/are:-

PART B

For completion if the creditor is entitled to the debt by way of assignment

How to comply with a statutory demand

If the company wishes to avoid a winding-up Petition being presented it must pay the debt shown on page 1, particulars of which are set out on page 2 of this notice, within the period of 21 days after its service upon the company. Alternatively, the company can attempt to come to a settlement with the creditor. To do this the company should

• Inform the individual (or one of the individuals) named in Part A above immediately that it is willing and able to offer security for the debt to the creditor’s satisfaction; or
• Inform the individual (or one of the individuals) named in Part A immediately that it is willing and able to compound for the debt to the creditor’s satisfaction.

If the company disputes the demand in whole or in part it should:

• contact the individual (or one of the individuals) named in Part A immediately.

REMEMBER! The company has only 21 days after the date of service on it of this document before the creditor may present a winding-up Petition

28. The key points to bear-in-mind with a Statutory Demand are:-

1. it does not have to be issued by a solicitor. Anyone can issue a Statutory Demand provided the right form is used;
2. there are no Court fees involved in issuing a Statutory Demand, nor does the document have to be sent to the Court unless you proceed to issue a Petition to wind up the company;
3. Statutory Demands have to be served personally. They cannot be served by post. The person serving a demand may have to give an affidavit/witness statement to confirm the time and place and to whom he gave the demand;
4. the customer has 21 days in which to pay.

Costs

29. A Statutory Demand is not a formal legal document so there is no need to register it with the Court you can simply produce one and serve it. The costs should therefore be minimal.

Winding-up Petition

30. The next step is to issue a winding-up Petition which is an application to the Court for a hearing to be held in order to place the company into liquidation.

31. There follows a sample winding-up Petition.

IN THE HIGH COURT OF JUSTICE No.   of   2003

CHANCERY DIVISION

COMPANIES COURT

IN THE MATTER OF CONTRACTOR LIMITED

AND

IN THE MATTER OF THE INSOLVENCY ACT 1986

To Her Majesty’s High Court of Justice

The Petition of subcontractOR of Main Road, London, EC1:

1. CONTRACTOR (hereinafter called “the Company”) was incorporated on 27 November 1989 under the Companies Act 1985.
2. The registered office of the Company is at Station Road, London, WC7.
3. The nominal capital of the Company is £1,296.66 divided into 129,666 ordinary shares of £0.01p each. The amount of the capital paid up or credited as paid up is £1,297.
4. The principal objects for which the Company was established are as follows:-

   (i) To carry on within and without the United Kingdom the businesses of exporters, importers, manufacturers, agents, brokers, general merchants and dealers, both wholesale and retail in commodities of every description and all commercial goods, manufactured goods and all goods for personal and household use and consumption, ornament, recreation and amusement, and generally in all raw materials, manufactured goods, materials provisions and general produce, and also the business of storage contractors, wharfingers, carriers, shipping and forwarding agent, warehousemen and storekeepers; and to carry on any other business which is calculated directly or indirectly to enhance the value of any of the Company’s business, property, rights or assets; and to carry on the aforesaid business, either together as a single business or as separate and distinct businesses in any part of the world.

   and other objects stated in the Memorandum of Association of the Company.

5. The Company is unable to pay its debts as they fall due in that it has failed to pay a debt due to the Petitioner. The particulars of the debt are described below.
6. The debt arose pursuant to a building contract entered into between the Petitioner and the Company relating to Works to be carried out by the Petitioner at London Tower.
7. Further to the Petitioner carrying out these Works and the issue by the Architect of an Interim certificate D466538 dated 17 February 2003 in the sum of £84,864.46, the Petitioner invoiced the Company by Invoice no. 981500 dated 17 February 2003 for the sum of £84,864.46 including VAT being the further value of the Works certified by the Architect.
8. As provided by the contract under clause 4.3 no later than 5 days before the final date for payment of the amount due, pursuant to clauses 4.2.1 and 4.2.2, the Company may give a written notice to the Petitioner which shall specify any amount proposed to be withheld and/or deducted from any amount due to the Petitioner, the ground or grounds for such withholding and/or deduction and the amount of withholding and/or deduction attributable to each ground. The Company failed to give any such notice nor any other good reason payment should not be made against the certificate. The final date for payment of the certificate defined by the contract therefore came and passed on 3 March 2003. Interest at 5% above the base rate of the Bank of England applies to all late payments under clause 4.2 of the contract.
9. To date the Company has made no attempt to satisfy or bona fide dispute the Invoice or the monies due to the Petitioner thereunder.
10. As at 14 March 2003, the sum outstanding is £84,864.46 including VAT plus contractual interest accruing daily at 5% above the base rate of the Bank of England. Interest has therefore accrued on the aforesaid debt at £20.93 per day from 4 March 2003 to 13 March 2003 such interest amounting to £209.26.
11. The total balance remaining payable from the Company is £85,073.72, a total of the sums detailed in paragraph 10 above.
12. The Company is unable to pay its debts as they fall due in accordance with Section 122(1)(f) of the Insolvency Act 1986.
13. The Company is not an insurance undertaking; a credit institution; an investment undertaking providing services involving the holding of funds or securities for third parties; or a collective investment undertaking as referred to in Article 1.2 of the EC Regulation.
14. For the reasons stated in the witness statement of Jon Miller filed in support here of it it is considered that the EC Regulation on insolvency proceedings will apply and that these proceedings will be Main proceedings as defined in Article 3 of the EC Regulation.
15. In the circumstances it is just and equitable that the Company should be wound up.
    
    Your Petitioner therefore prays as follows:-

    (a)That CONTRACTOR LIMITED be wound up by the Court under the provisions of the Insolvency Act 1986 or

    (b) That such other Order may be made as the Court thinks fit.

32. A winding-up Petition is a technical document and I would be wary of drafting one without legal input.

33. One significant point to bear in mind is that, if the Customer has admitted that the sum is due over the phone, and you have confirmed it in writing to the Customer, the admission would be referred to in both the Statutory Demand and the winding-up Petition in order to make it far more difficult for the Customer to defend the Petition.

34. The Petition is then served on the Customer, and advertised in the London Gazette. The London Gazette is produced weekly and contains a long list of legal notices, including petitions. Credit reference agencies scan the London Gazette thoroughly to see for pending petitions.

35. A customer who bone fide wishes to dispute the debt, will try his utmost to prevent a Petition from being advertised as this could affect his credit rating. Occasionally a winding-up Petition does not even get to be heard as the Customer will apply to the Court for an injunction to restrain the Petition from being advertised, and that hearing will decide whether or not a Petition should be presented.

Cost of issuing a Petition

36. The Court fee for issuing a Petition is £500. Legal fees for drafting a Petition will probably be a few hundred pounds.

The hearing

37. There then follows a hearing. The hearing is very brief and the Judge will decide whether or not the company should be wound up. If he does so decide, the company may be placed in liquidation. But it should be borne in mind that if it can be shown that there is a bone fide and substantial dispute, the Court will dismiss the Petition and the Supplier as the Applicant can be ordered to pay the Customer’s costs.

38. In Re: A Company⁽²⁾ , a Petition was based on an unpaid application under the JCT Design and Build Form of Contract which is normally payable in 14 days. The Employer claimed that an oral agreement existed varying the dates for submitting applications meaning that it terminated the Contractor’s employment. Both of these issues were contested by the Contractor but there was some evidence to suggest that what the Employer was saying may be true. It was also evidenced that the Employer had assets exceeding £100m, and the Contractor had cash flow problems.

The Petition was dismissed.

39. In Re: Clemence⁽³⁾, a Petition was based on unpaid certified sums. The Employer raised a Counterclaim for defects but the Counterclaim was not properly quantified and in any event it was for less than the Contractor was seeking in his Petition.

The Petition was granted.

Costs of the hearing

40. If an applicant is to succeed with a Petition to wind up a company, the hearing will be short and I anticipate that legal fees would be in the region of £1000-£2000.00.

It should, however, be borne in mind that the real aim is to get the Customer to pay rather than wind up the Company and wait for an unsecured creditors dividend.

Supporting a Petition

41. When a Petition is advertised in the London Gazette, other creditors can support the Petition. They apply to the Court with their own debts and confirm that they wish for the Customer to be wound up as well.

42. The advantage of doing this is that if the Customer comes to an agreement with the original supplier, the winding-up Petition will not be automatically dismissed as the Customer needs to deal with the Supporter. If, however, the Supporters continue with the Petition but it is dismissed by the Court, the Supporters can be responsible for the costs

43. It is the fear of a Petition being advertised in the London Gazette and being supported by a large number of creditors that can lead to the Customer seeking an injunction restraining the Petition from being advertised

44. As well as what I previously said about omissions, please also bear in mind what I have said about dishonoured cheques – they are the equivalent of cash. Dishonoured cheques can form a basis of a Petition as well.

Summary (immediate judgment)

Grounds for summary judgment

45. The Civil Procedure Rules (“CPR”) govern both the High Court and County Court in England and Wales. According to CPR 242:-

• the Court may give summary [i.e. immediate] judgment against the Claimant or Defendant on the whole of a claim or issue if:-

  (a) it considers:-

  i) that the Claimant has no real prospect of succeeding on the claim or issue; or

  ii) that the Defendant has no real prospect of successfully defending the claim or issue; and

  (b) there is no other compelling reason why the case or issue should be disclosed of at trial

46. There must be “no real prospects of success” of the Defendant defending the claim. Essentially there must be some chance of success and it must be “real” the Court will disregard prospects which are forced or imaginary. The Defendant has to establish that he has a case that is beyond being merely arguable.

Procedure

47. A claim form (i.e. what used to be called a Writ) has to be issued and the Defendant acknowledges service. This can then be followed by an application for a short Court appointment by the Claimant to show that the Defendant has no real prospects of success. The Claimant needs to give 14 days notice of the hearing and will submit a Witness Statement to show why he is bound to win.

48. There will then probably be a hearing in which solicitors and possibly even barristers will attend, and the Judge will decide whether the Defendant has any real prospects of defending the claim.

Costs

49.For Summary Judgment, proceedings have to be commenced and court fees are payable on the following scale:-

There will also be a Court fee of £100 for issuing a Summary Judgment Application. Summary Judgment tends to be more expensive than issuing a winding-up Petition. Save for the simplest matters, it is unlikely that you will be able to obtain Summary Judgment without the help of a solicitor. Costs vary widely but for a substantial application I would expect the legal costs involved in a Summary Judgment Application to be £5,000 or more.

Small Claims Court

Claims under £5,000.00

50. These are automatically referred to the Small Claims Court at the local County Court. The Small Claims Court is a relatively informal process whereby a Registrar rather than a County Court Judge will deal with the matter and decide whether monies are owing. A Registrar can enter judgment in your favour which can be enforced

51. Key points to bear in mind in the Small Claims Court are:-

1. Court fees are far less;
   
   

   Amount of claim	Fees
   Under £300.00	£30.00
   £300.00-£500.00	£50.00
   £500.00-£1000.00	£80.00
   £1000.00-£5000.00	£120.00

2. even if you win, you are unlikely to get your costs in the Small Claims Court;
3. the forms which the Court will supply are relatively simple to fill-in. In theory, a layman can pursue a claim in the Small Claims Court.

52. I suggest that your credit control personnel may learn a considerable amount if they take a small claim through the local Small Claims Court and treat it as a “learning curve”.

Legal expenses insurance
Before the event

53. Some insurers now offer insurance covering legal fees up to a certain sum over the 12 month period. Premiums vary wildly but as a rough guide I would expect to pay around 10-15% of the amount insured as an annual premium. Many policies not only cover formal Court proceedings but issuing winding-up Petitions and Adjudications. They can offer good value for money but, if you have a track record of instructing solicitors, then this may lead to a significant increase in premiums.

After the event insurance

54. If you become involved in a major dispute, you can seek to get insurance for legal fees at this late stage. The insurance company will normally send an assessor in, and possibly even a solicitor, who will give a view as to whether he/she thinks the claim is worth pursuing. The insurance company will then set a premium.

55. Again, as a very rough guide, the premium would be 20-25% of the sums insured.

56. I am not in the business of recommending insurers but an Internet search for “legal expenses insurers” will reveal companies who provide this service.

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