Construction projects are rarely wrapped up most of the time without the general contractor running into some problem with a subcontractor or vendor. When problems start to arise at any point in the construction lifespan, the team in charge of managing construction payments must have a process in charging a subcontractor or vendor for any direct and unanticipated expenses incurred from the sub and vendor’s work. This is where construction back charges come into play.
What are Construction “Back Charges?”
A construction back charge, also known as chargeback, is an offset for unexpected costs in a previous pay cycle. To put it simpler, let’s take a look at general contract law in construction:
Contracts provide the chance to recover damages when one party fails to perform as expected. Damages are considered in order to “place the injured party in the place they would have been had the contract been performed properly by all parties.” This same standard to back charges.
Back charges are generally billings for costs incurred in a previous pay cycle. While back charges are usually made when expenses are incurred on the same construction project, some states allow a chargeback known as a setoff. This setoff is incurred when a general contractor charges a subcontractor on a particular project for costs incurred under a separate contract.
Back charges can arise due to different reasons, including:
- defective materials or work
– cost to complete, replace, or rectify properly
- job site damage
– cost of repair and possible rehabilitation
- delay to the works or activities
– cost of liquidated damages according to the contract
- job-site cleanup
– costs to maintain worker safety in compliance with OSHA
- use of equipment or temporary facilities
– rental or usage costs
If, as the general contractor, you have to pay more to replace, repair, or clean up the work of a subcontractor or vendor, that cost can be shouldered by the party that should have completed it in the first place in accordance with the agreement.
If a contract doesn’t provide a clause for back charges (commonly known as “a right to set off “), then withholding them might not be a good idea.
How Does the Law Say About Construction Back Charge?
There are no written laws that allow construction back charges or govern how these back charges work. A construction back charge is created in the contract you signed with the general contractor. Back charge terms vary significantly from contract to contract; however, they generally cover the following such as the following:
a. What specific events will result in a back charge;
b. How the back charge costs will be calculated;
c. When is the payment of the back charge due;
d. Whether non-payment of a back charge is considered a breach of contract or an event of default (that can trigger remedies in addition to the existing back charge); and
e. Whether and how you may call dispute over a back charge.
What are the Common Reasons Why Construction Back Charge Takes Place?
Back charging are a common practice in the construction world, so you need to understand how they work to protect your company in the long run. However, if you have any doubts or questions on the subject, it is always best to consult with a Law Expert in project management for construction.
1. Possibility for Abuse with Construction Back Charges
This is the ultimate problem for subcontractors: the possibility for abuse of back charges in construction projects. Since back charges are solely governed according to the contract terms, there is a fairground for the potential for abuse. It’s indeed a little familiar to the concept of lien waivers— most states in the US don’t regulate them, either, which creates a risk of dangerous lien waiver clauses in construction contracts.
Even worse, the back charges could be incurred throughout the entire construction project operation, all the while without notifying the subcontractor until the completion. This scenario is harrowing and should be prevented. At the end of the project, the subcontractor has lost most of its leverage since they have likely already paid their laborers and suppliers.
2. Limit on Right to Setoff
While the restrictions of construction back charges are generally left up to the contract, there are some guidelines about how setoffs can be applied (i.e., charging for expenses that were incurred on another construction project).
Federal projects allow for setoffs. Several states have trust fund statutes specifically for the construction industry that governs how funds can and cannot be used on a project. As a result, these often limit a general contractor’s right to set off.
3. Difficulty in Negotiating Payment
Back charges work off of construction parties’ disputes, so general contractors need to react appropriately to subcontractors when they arise.
First, general contractors can avoid non-performing subcontractors by employing a pre-qualification phase early in their hiring process. General contractors can also create a collaborative activity that identifies problems early through daily on-site reports, performance assessments and conversing person-to-person on the job site. Before there is ever a need to rely on a back charge, general contractors and subcontractors should communicate effectively to reach an understanding. A construction scheduling software, such as Pro Crew Schedule, can easily help schedule the reporting, assessments, and meetings, which all the project stakeholders can access.
If none of these practices work, it’s time to either terminate or supplement a non-performing subcontractor. If a subcontractor or supplier disagrees with the concept of a back charge, they have a few options in hand. If you agree on the back charge but not the cost, the initial step would be to negotiate directly with the general contractor.
If the back charge was not provided in the contract or deemed fraudulent, you might legally file a mechanics lien claim for the unpaid amount.
4. Potential Disruption Claims
Disruption happens when the general contractor or subcontractor has to perform differently or less productively than initially planned. These claims are frequently based on additional costs due to increased equipment and labor and not extra time spent at the construction job site. What led to a subcontractor’s back charges could, in turn, cause a disruption claim down the road.
For example, suppose a subcontractor damages equipment or requires the general contractor to bring in more equipment or machinery. In that case, these could become expenses that go well beyond what was initially planned. In this case, a general contractor could use a disruption claim to recover these damages for the loss of productivity.
Two Steps to Success with Construction Back Charges
Back charges can be a hassle if you’re not careful. The two primary steps to keep in mind are proper communication and organized documentation.
1. Build a Good Communication System
The best practice is to provide any back charge notice or requirements explicitly stated and communicated. Make sure that your subcontract gives you reasonable notice provisions before the contract is finalized. Meaning, if and when your party incurs back charges, be sure you are immediately notified of the charges with an ample amount of time to correct, clean up, or fix any issues caused by your team’s work.
The American Subcontractors Association (ASA), Associated General Contractors (AGC), and Associated Schools of Construction (ASC) subcontract standard form provides an excellent approach to the issue of construction back charges.
The form states that a general contractor or subcontractor must provide a formal notice before any back charges are incurred. Additionally, the subcontract requires another notice to be sent seven days after the provided materials or services. Finally, the contractors must provide a written consolidated list of the charges by the 15th day of the following calendar month.
However, many general contractors use their contract forms, which can change any or all of the back charges notice requirements. So even if not required by contract per se, it is best practice good communication and construction crew management in order to allow for a reasonable solution.
2. Establish an Organized and Simple Documentation Process
Whether you are the general contractor or the subcontractor, proper and organized documentation is vital! For general contractors: include as much information as possible when sending notice of defective material or work. If the subcontractor decides to take immediate action, take progress photos for your records daily. If the subcontractor does not rectify the defects, it’s essential to keep the timesheets and invoices regarding the back charges separately to give to the subcontractor/vendor upon completion of work,
If the back charges are becoming an issue for any reason, it’s crucial to have sufficient evidence that it was incurred and caused directly by that specific subcontractor.
Similarly, the subcontractor should also properly document all phases of the work performed as well. A subcontractor scheduling software can help make this possible by keeping all the photos and documents in one place.
As a general rule in construction, when courts analyze back charges, they look if the incurred fees fall “within the scope of the signed contract.”
Keeping a detailed record of documents and photos will help to contest any back charges you may deem unwarranted that might arise anytime during construction operations.