Retainage – Pay Attention, Mistakes Can be Very Costly

Construction and Procurement Law News, Q4 2021

Authored Article, Firm Alert

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Legislation about retainage has become common place as many states have adopted different limitations, requirements, and schemes.  A recent case in Tennessee is a good reminder that you must pay attention to all of the relevant state’s requirements. Failure to do so can be costly. 

In Snake Steel, Inc. v. Holladay Construction Group, LLC, the Tennessee Supreme Court recently addressed Tennessee's retainage requirements.  While the case discusses a number of finer legal points on when and how to assert claims under Tennessee’s Prompt Pay Act,  the biggest take away is that the Tennessee Supreme Court has now enforced a $300 per day penalty against a general contractor who failed to handle a subcontractor’s retainage properly. In short, the Tennessee Prompt Pay Act requires that retainage for the improvement of real property be deposited into a separate interest-bearing escrow account at the time it is withheld.  “As of the time of the deposit of the retained funds, the funds shall become the sole and separate property of the prime contractor or remote contractor to whom they are owed.”  Compliance may not be waived by contract.  The failure to create and fund the retainage escrow account properly subjects the holder to a $300 per day liability and constitutes a misdemeanor, subject to a fine of $3,000 a day. 

The retainage at issue in Snake Steel was $18,270.58.  Upon the filing of the subcontractor’s complaint, the general contractor paid the $18,270.58 in full to the subcontractor.  Thus, the court did not focus on the retainage that was still due under the subcontract, because it was paid. Instead, the court focused on the general contractor’s liability/penalty for its failure to create and deposit the subcontract’s retainage at the time it was withheld.  The result, after remand, will ultimately be a $100,000+ payment from the general contractor to the subcontractor.  The Tennessee Supreme Court’s opinion is instructive and a good reminder to all those dealing with retainage that the failure to know the law is not an excuse: “[The general contractor] notes that, in this case, neither party knew the law required retainage to be placed in an escrow account. It characterizes the $300 per day penalty as ‘draconian.’ [The general contractor] argues the holding of the Court of Appeals on this issue, allowing [the subcontractor] to recover at least $109,500 in penalties no matter how long it waits to file suit, would represent a ‘huge windfall’ to Snake Steel since the entire retainage was only $18,270.58. Perhaps. Those policy decisions, however, are within the purview of the legislature. Our job is to apply the statutes as they are written.”

Before withholding retainage, carefully check the state’s requirements. The Snake Steel case provides a good example of just how costly it can be if a withholding party fails to comply with the requirements in Tennessee (and, potentially, in other states).