Retentions in construction – time for reform?

In construction projects, retentions are a payment mechanism used as an incentive for contractors to fulfil their contractual obligations. A retention is usually a small percentage (3-5%) of each interim payment, which is retained by the employer until the end of the defects liability period. Often, contracts are amended so that there is no fiduciary duty on the employer as to retention monies and no requirement to keep the retention monies in a separate account.

In recent years, the use and implementation of retentions is coming under increased scrutiny. Criticism lies with issues such as the restriction of cashflow, especially amongst small and medium-sized enterprises (SMEs), and the exposure of sub-contractors to cashflow issues as a result of an upstream insolvency event. Due to a renewed focus on retention issues, the UK Government recently held its latest consultation between July and October 2025  on whether retentions should be retained, regulated, or abolished altogether.

The rationale behind retentions

The purpose of retentions has always been to provide the employer with funds to rectify any discovered defects  and to incentivise the proper performance of the contractor.

The problem in practice

In practice, this system has become a catalyst for disputes and financial strain. Common issues include:

• Contractors experiencing cashflow issues due to delays in payment of  the retention after completion of projects, which extends far beyond the defects liability period.
• Contractors often experience cashflow issues due to the retention frequently being equivalent to or exceeding their project’s profit margin.
• Employers becoming insolvent, leaving contractors unable to recover the retention monies as an unsecured creditor.
• Supply chain retention issues, as main contractors with similar mechanisms in sub-contracts, withhold retentions from sub-contractors (due to cashflow issues).

The collapse of Carillion in 2018, leaving approximately £800 million in unpaid retentions, highlighted the fragility of the current system and intensified calls for reform.

Attempts at reform

The Government and industry bodies have debated the future of retentions for many years. For example, the Banwell Report (1964) called for its abolition, and the Latham Report (1994) questioned whether the practice remained fit for purpose. Efforts since then in the UK have not really yielded any significant changes to the retentions scheme.

Following this, the Housing Grants, Construction and Regeneration Act 1996 prohibited ‘pay when paid’ clauses, preventing payments to subcontractors from being contingent on payment higher up in the chain. Later amendments also prohibited ‘pay when certified’ provisions. However, late payment practices have persisted despite these reforms.

Various private members’ bills have since been introduced. The Construction Industry (Protection of Cash Retentions) Bill sought to ring-fence retentions into a government-approved trust scheme, while the Construction (Retention Deposit Scheme) Bill sought to require that retentions be put into a deposit government approved trust scheme. These both failed to progress through Parliament. More recently, the Construction (Retentions Abolition) Bill reignited debate by proposing to abolish retentions entirely. Again, this did not make any progress.

As well as legislative attempts, other industry bodies have made attempts to push forward the idea of abolishing retentions in construction projects. In 2018, Build UK and the Civil Engineering Contractors Association set out a Roadmap to Zero Retentions, aiming for the abolition of retentions by 2025 and published “minimum standards” to improve transparency and consistency where retentions remain. However, although some UK Government contracts do not apply retentions as a matter of best practice, there still remains no legal requirement enforcing industry-wide zero retentions.

International perspectives

Other jurisdictions have made far greater progress than the UK.  The New Zealand government introduced the Construction Contracts (Retention Money) Amendment Act 2023 which  brought in additional security measures including holding retention fund on trust in a separate bank account, quarterly reporting and penalties for non-compliance.

In Australia, certain states require retention money on projects over $20m to be deposited in trust accounts. Similarly, in Canada and parts of the United States, retention money must be held in a separate account.

These models illustrate how regulation can protect supply chain cashflow without eliminating the underlying principle of performance security. They also offer potential blueprints for retention reform in the UK.

Alternative options

To avoid the issues that arise from retentions, they could possibly be replaced with one or a combination of the following:

• Performance bonds: where a bondsman takes on the liability for the performance of the contractor’s obligations up to a percentage of the Contract Sum (not usually exceeding 10%).
• Parent company guarantees (PCGs): where a parent company to the contractor takes on the obligations and liability of the contractor, should it default.
• Retentions held in a trust fund: where retentions would be held in a trust fund rather than by the employer, thus, not forming part of the employer’s assets upon insolvency.
• Retention bonds: where in lieu of retention, a bond is obtained for the equivalent amount as the retention percentage, against non-performance or defects.

These alternatives are being increasingly viewed as viable replacements.  However, each presents its unique cost and administrative considerations and may not be as satisfactory, from an employers’ standpoint, as withholding retentions.

Recent developments

In July 2025, the Department for Business and Trade published a consultation aimed at tackling poor payment practices, including an eight-point list of proposals. In relation to retentions, the Department was considering two options:

• Regulation: permitting retentions but requiring withheld sums to be segregated or guaranteed, with obligations to report, account for, and automatically release funds at the end of the defects liability period. Regulation would increase administrative obligations but would provide protection and transparency for SMEs.
• Complete abolition: prohibiting retentions in contracts, subsequently amending the Housing Grants, Regeneration and Construction Act 1996.

The consultation closed on 23 October 2025, and we are expecting the outcome to be published in January 2026.

Comment

The case for reform is strong but reaching a consensus remains challenging. However, despite repeated legislative failures, tighter reporting obligations, growing pressure for industry bodies and reform seen in other jurisdictions, suggests that the landscape is shifting.