Analysis: The ‘hybrid’ approach to pay less notices – a Lidl bit risky

Analysis: The 'hybrid' approach to pay less notices – a Lidl bit risky

Grainne Kirk and Emily McGleenon

Grainne Kirk and Emily McGleenon of Northern Ireland firm Tughans consider the risks associated with a common construction industry practice.

A common practice adopted by employers in the construction industry is to skip the process of serving a payment notice on a payee, and instead wrap the valuation of the work conducted into its pay less notice. This effectively means that the pay less notice is a ‘hybrid’ document, containing both the payer’s valuation of the work, as well any deductions that the payer is seeking to apply to that payment.

The TCC’s judgment in Lidl Great Britain Limited v Closed Circuit Cooling Limited t/a 3CL [2023] EWHC 2243 (TCC) provides some commentary on the potential risks associated with this practice.

As many in the industry will be aware, the Housing Grants, Construction and Regeneration Act 1996 for England and Wales and the Construction Contracts (NI) Order 1997 for Northern Ireland act as legal baselines which, among other things, provide a payment mechanism with which construction contracts must comply, otherwise the payment mechanism set out within the Scheme for Construction Contracts will automatically kick in.

The original Act/Order included a provision that the paying party was entitled to serve a notice that operated as both a payment notice and a withholding notice but has since been amended to remove that wording. Therefore, on a strict reading of the Act/Order in light of that removal, the payer must serve both a payment notice and a pay less notice within the requisite time periods in order to comply with the Act/Order. Bearing the above in mind, the ‘hybrid’ approach is, strictly speaking, not on all fours with the requirements under section 111 of the Act (or the equivalent Article 9A of the Order).

In 2015, the TCC considered this issue to an extent in the case of Henia Investments Inc v Beck Interiors Ltd [2015] EWHC 2433 (TCC). The court was asked to determine whether a pay less notice could be used by an employer to advance a different valuation of the construction works or whether it was merely confined to raising setoffs and cross claims.

The judge noted in Henia that the contract in that particular case allowed the contractor to put forward its valuation of the works in an interim application, the contract administrator could then put forward his independent valuation of the works in an ‘interim certificate’. The court therefore considered it a matter of commercial common sense that the employer itself should have the chance to assert its own valuation of the works — the opportunity to do so arising in the pay less notice. The judge did not therefore consider this contractual position to be contrary to the Act/Order. Whilst the court in Henia did decide that this was an acceptable approach, it is important to note that the case turned specifically on its facts and the contractual terms agreed between the parties.

The practice of issuing ‘hybrid’ pay less notices has recently been the subject of some further (arguably limited) judicial commentary in the case of Closed Circuit Cooling Limited t/a 3CL (3CL) v Lidl Great Britain Limited (Lidl) [2023] EWHC 2243. The Lidl case raised the question as to whether a ‘hybrid’ pay less notice could be considered a valid payment notice. In this case, the pay less notice served was not considered by the court to be a valid payment notice.

What is not clear from the Lidl case is whether the ‘hybrid’ notice served would also be considered as an invalid pay less notice as well as an invalid payment notice. In its judgment, the court referred expressly to the fact that section 111 of the Construction Act has been amended such that “the payer must serve both the payer’s notice and a payless notice in accordance with the new s111 in the periods identified”.

The TCC in the Lidl case stopped short of confirming what the consequences of seeking to rely on such a ‘hybrid’ notice will be — whether it is just the valuation within the notice which will be considered invalid or whether the entire pay less notice will be considered invalid remains to be tested in the courts. Evidently however, there is a risk that any such ‘hybrid’ notice could be considered to be invalid both as a payment notice and a pay less notice.

Until such times as there is further judicial clarity on this point, in light of the Henia and (in particular) Lidl decisions, best practice would be to always serve both a payment notice (containing a valuation of the works done to date) and then, if necessary, a pay less notice (setting out any deductions the employer is seeking to apply to that valuation).

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