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What is retainage in construction? #

Retainage is an amount of money earned but held back from payment by a General Contractor or Owner until the end of the job (or some other time specified in the contract). Retainage is meant to serve as an insurance policy in case some of the work performed is not of sufficient quality, or if the scope of work performed does not match the scope provided in the contractor’s bid.

A standard value for retainage is 10%. If you’re a subcontractor, please make sure you negotiate retainage carefully! It can be very hard to get prompt release of your retainage (which is rightfully your money) after a job ends; it’s often better to negotiate a partial release of retainage at 85% or 90% completion.

Also known as: Retention, Hold back

How contractors use retainage? #

A subcontractor signs a $10,000 contract specifying a retainage percentage of 10% on each invoice. At the 50% completion milestone specified in the contract, they bill $4,500 ($5,000 for work completed minus $500 for retainage payment). Upon completion of the project, they submit an invoice asking for their retainage to be paid out.

Retainage vs. Retention #

While retainage and retention mean virtually the same thing, there is a subtle difference between the two. Retainage is the amount of money held back until a project is completed, whereas retention can be viewed as the actual act of withholding the money. In construction, retainage is typically a fixed percentage of the subcontractor’s bill that is withheld, as collateral, until the job is completed to the owner’s satisfaction.

Construction retainage laws #

At a basic level, retainage laws govern the amount of money that can be withheld. Generally, a state will place a cap on the amount of retainage that can be withheld, along with guidelines on when exactly that retainage must be released. Similar to lean laws, legal requirements will differ by state. However, maximum retainage amounts will usually range between 5% – 10% in private or commercial jobs. 

It’s also important to note that prime contractors under the Federal Acquisition Regulation (FAR) act can also withhold payments from subcontractors. Federal projects or municipal jobs are a bit more structured compared to public projects and will follow a similar structure; retention at the federal level is typically capped at 10%. 

Retention length is typically determined by a specified amount of time after substantial completion. Again, the exact details depend on the state. In New Mexico, for example, retainage is prohibited, unlike Texas, where withholding is required at 10% by law. Other states dictate that the amount of retainage will be equal to a “reasonable amount”; a reasonable amount is open for interpretation, but ethically, it should still fall within the 5% – 10% range. 

The U.S Department of Labor and the Fair Labor Standards Act makes it clear; contractors and project owners must comply with the retainage laws of the state in which they conduct business. Laws, however, can differ between the public and private sectors, even within the same state; for this reason, you need to have intimate knowledge of your state’s laws. Stay current on your state’s laws by checking your local department of labor or reaching out to your local contractor association.

Retainage accounting #

Details such as payment schedule and withholding percentage will be dictated in the contract. In construction, retainage is commonly taken out of each progress payment. 

For example, let’s take a fixed-price contract with a total value of $20,000 with a negotiated retention rate of 7%. Let’s assume your first progress payment, likely in an AIA-style billing format, is for 10% of the job; this would equal $2,000. When recognizing this payment, it would reflect the full $2,000 less the 7% retainage, meaning $140 is being withheld from this payment. If there are nine more payments under the same conditions, there will be a total of $1,400 withheld for the job; this will be released back to the subcontractor upon project completion or depending on the terms of the contract. 

Since each progress payment needs to be accounted for, this process can quickly become convoluted and impact the overall contract value. Failing to properly account for retainage can significantly impact cash flow management; for this reason, Knowify simplifies retainage accounting by automating the tracking of retainage and progress payments in one solution. This helps ensure that retainage is released on time and all payments are accurately accounted for.

When it comes to reporting retainage using AIA style formatting, you should reference the AIA G702 document.  This form provides a complete breakdown of how to account for retainage on each progress payment.

Advantages and disadvantages of using retainage #

For nearly two hundred years, retainage has been a deeply ingrained function of the construction industry. In those years has come the addition of federal laws and regulations that set timelines and limit the amount of money that can be withheld. This has created a system that aims to create an environment in which contractors are protected from potential losses, and project owners have additional means to ensure quality work is performed. 

Unfortunately, retainage has the potential for abuse; excessive payment delays can put contractors in tough financial situations in which they are strapped for cash; leading to inferior work, sub-par materials, and project delays. Additionally, retainage can create a lack of competition or higher contract prices for project owners since subcontractors may be less inclined to work for a construction project where final payment is at risk. 

Thankfully for contractors, there are several measures they can take to protect themselves. For starters, it’s crucial to address the retainage issue upfront. Have these discussions early, before you sign any construction contracts, and ensure it is in line with state laws. If any part of the contract dictates retainage that is not in compliance with state laws, don’t sign it. Outside of that, iron out details as much as possible, such as how the retainage will be held or if earning interest will be applied. Try to negotiate a lower percentage and shortened timeframes if you can. 

Finally, don’t be afraid to speak up. If you notice timeframes are not being followed or specific details are not matching up, stay diligent by asking for any money owed. In a worst-case scenario, utilize your mechanic’s lien rights through a lien claim; if you understand the regulations, you will have the law on your side. 

Retainage in Knowify #

Knowify is a powerful tool for construction management that supports retainage, particularly with its AIA-style invoicing (also known as payment applications) feature set. In fact, Knowify will let you change your retainage amount part way through a job, and will correctly adjust your next pay app! This feature is particularly handy if you negotiate a reduction in retained funds toward the end of the project (which is a good idea!).

See how it works:

Creating a retainage invoice in the AIA format