When setting-off isn’t letting off

Adjudication is a means of resolving disputes which is available to parties to qualifying construction contracts at any time. This is something that cannot be contracted out of, it is a statutory right. However, the fact that the parties can refer matters to be decided by an Adjudicator during the course of a continuing project can throw up issues in relation to payments under the contract going forward.

The general position is that where money is payable pursuant to an adjudicator’s decision a party has to pay up and cannot set-off the amount against any outstanding sum due to them from the other party to the adjudication. The prospects of avoiding payment of any sum due are extremely limited as the court’s default position is to enforce decisions which fall under the adjudicator’s jurisdiction provided that there has been no procedural unfairness in reaching a decision (notwithstanding that the adjudicator may have made an error of fact).

However, there are limited circumstances where the paying party may be able to avoid settling an amount awarded by an adjudicator using set-off. The circumstances where this may be possible are as follows:

1. Where set-off follows logically from the adjudicator’s decision

Let’s take the example of a contractor seeking a full extension of time through adjudication. The adjudicator awards an extension of time but not for the full period of delay. Following the decision the employer issues a payment notice which reflects the extension of time and associated sums awarded by the adjudicator, but sets-off the liquidated damages commensurate with the culpable period of delay. This was the situation in the 2001 case of David McLean Housing Contractors Ltd vs Swansea Housing Association Ltd. The contractor sought to enforce the decision ignoring the deduction but this was successfully resisted by Swansea, the employer. The court found that as the liquidated damages flowed logically from the period of delay which didn’t qualify for the extension of time the set-off was merely reflective of the Decision. As such, the period of delay which attracted liquidated damages could therefore be set-off against the amount due under the adjudicator’s decision.

In the later case of Ledwood Mechanical Engineering Ltd vs Whessoe Oil & Gas Ltd (2007) Mr Justice Ramsay confirmed that such a set-off against an adjudicator’s decision would be possible if the set-off followed “logically from the decision of the Adjudicator” or was “a natural corollary of the Adjudicator’s decision”

2. If the relevant contract contains provisions which allow for such a set-off

More often than not, the court will reject arguments by parties that the underlying contract allows for set-off against an Adjudicator’s decision. However, there are exceptions:

In the case of Shimizu Europe Ltd vs LBJ Fabrications Ltd (2003) in the TCC the court found that the employer could withhold monies against an adjudicator’s decision because the amount awarded was not due by operation of the provisions of the contract, and therefore the ability to serve a valid withholding notice (as it was then) was still up for grabs.

Under the terms of the letter of intent, a payment only became due upon LBJ delivering a VAT invoice to Shimizu for the amount valued by Shimizu in respect of the application, rather than on the valuation of any payment application itself. This is common wording included in payment provisions in many construction contracts.

The adjudicator decided that £46,718.39 was payable to LBJ under its application but he also concluded that payment of this sum was not yet due as LBJ had not delivered a VAT invoice in this amount to Shimizu. Although Shimizu had written to LBJ previously regarding contra-charges, the adjudicator found that this was not a valid withholding notice for the purposes of the contract.

Following the adjudicator’s decision, and pursuant to the terms of the letter of intent, LBJ delivered a VAT invoice to Shimizu for the amount decided in favour of LBJ by the adjudicator. Shimizu declined to pay the invoice and served a withholding notice in respect of the invoice, setting-off the charges outlined in the summary of charges enclosed with the letter previously issued summarising the contra-charges.

The court held that the adjudicator’s decision did not override Shimizu’s contractual right to serve a Withholding Notice in respect of a sum which fell due for payment in the future, following the issue of the VAT invoice by LBJ.

In the more recent case of R and C Electrical Engineers Ltd v Shaylor Construction Ltd (2012), in similar circumstances, the adjudicator calculated that the final payment under the subcontract was £196,963 plus VAT but also directed that:

“Any Sum to which R&C are entitled to be paid by Shaylor shall not be paid forthwith (but only following issue of the Final Certificate under the Main contract and then in accordance with Clause 21.8 (b).”

Therefore his decision was declaratory and the sum which he decided was due as the final payment could be subject to set-off as provided for under the subcontract. The adjudicator left it open for Shaylor to exercise in the future its contractual right to set-off general damages against his calculation of the final payment. Such final payment becomes due under the sub-contract following the issue of the final certificate under the main contract.

Therefore it is possible for parties to withhold against an Adjudicator’s decision, and a paying party should not just assume that once an award is made they can’t take steps in the future to chip away the award.

This obviously turns on the facts, and the terms of the contract, but it is certainly something which parties should bear in mind, especially when future payments are to be made under the contract following the decision.

Steven Carey is head of construction and engineering at Speechly Bircham