The reshaping of retentions: what’s next for retentions in construction contracts?

Introduction

The abuse and delays in repayment of retention monies have been an industry wide issue in construction for many years. Over the previous ten years numerous efforts to reform retentions have been unsuccessful including a Pye Tait report, 2018 consultation, private member bills and lobbying within the industry. However, after decades, the relentless lobbying by parts of the construction sector has finally resulted in the Labour government committing itself to tackling late payments and culminated in last year’s consultation which we wrote about in a previous article here. The government published its response to the consultation in March 2026[1], leading to the Commercial Payments Bill (the Bill) being published in May 2026.

The value of retentions is significant. In 2017 an estimated £3.2 billion to £5.9 billion was withheld in retentions in the construction sector in England annually[2], with an estimated £223 million of retention payments lost due to insolvency each year[3]. In March 2026, administrations in the construction industry reached the highest levels since 2023[4]. The increasing levels of insolvency, along with nearly a quarter of a billion pounds at stake, are clear indicators that ignoring the problem with retentions is unsustainable. Insolvency is a significant issue in the construction industry and disproportionately affects small and medium enterprises (SMEs) who reside at the delivery end of the supply chain.

In this article we will focus solely on the government’s proposed reforms to address retention payments and will consider some of the potential consequences.

What is retention?

Retention clauses allow the paying party under a construction contract (typically the employer or main contractor) to withhold a percentage of the overall contract sum (usually around 3% to 5%) from payments made to contractors and sub-contractors, known as the retention sum. Half the retention sum is typically released at practical completion, with the final half released once the certificate of making good defects has been issued. In reality, some or all of it is never returned at all and that is fuelling the drive for reform in this area.

Retention is widely used as a form of security in construction contracts. The purpose of a retention is largely to:

• ensure the contractor or sub-contractor’s performance of its obligations under the contract (ie facilitating the rectification of defects before the end of any rectification or defects liability period) and

• provide the employer or contractor with a sum of money to complete the works if the contractor or sub-contractor fails to do so as required.

The lack of governance around the deducting and withholding of retention means the practice is open to abuse. The standard form JCT D&B 2024 envisages the employer will hold the retention money in a separate bank account on trust for the contractor. This provision is routinely deleted. Employers and contractors often work to very small profit margins. Deducting and holding retention money provides employers and contractors with a third party’s money which is often used to assist their own cash flow. If the retention money is not ringfenced and kept separate from an employer or contractor’s own money, in situations of upstream insolvencies, contractors and sub-contractors lower down the supply chain may find themselves deprived of the return of retention monies (ie between 1.5% to 5% of the value of their works). In other situations, the retention may only be paid back in part or there may be significant delays in the retention being released. Taking legal action to recover retention can be disproportionate in terms of costs.

The proposals

The two proposals put forward in the government consultation were:

1. an outright ban on the use of retention clauses or

2. mandatory protection of retention sums.

The government’s preference is an outright ban, and this is reflected in the new Bill which was formally introduced to Parliament on Tuesday 19 May 2026. While we recognise the Bill is still in the early stages of becoming legislation, the Bill addresses the abolition of retentions in construction contracts and makes other changes to commercial payment practices.

Amendments to the Construction Act and standard form contracts

The Bill introduces the new measures through proposed amendments to the existing Housing Grants, Construction and Regeneration Act 1996 (the Construction Act). These will have prospective effect ie will apply to contracts made after the amendments come into force. In relation to retention, the Bill would achieve this by inserting new sections 113A to 113F into the Construction Act[5]. The Bill amends the Construction Act in the following ways:

• introducing a definition for retention as “the practice by which one party to a construction contract (“A”) deducts or retains sums of money equating to a percentage of— (a) the amount payable to another party to the construction contract (“B”) for any goods, services or works supplied by B, in accordance with the terms of the construction contract between A and B, (b) an interim payment payable to B in accordance with the terms of the construction contract between A and B, or (c) the contract total of the construction contract, until any condition for release or partial release of the sums to B (whether included in the construction contract or in an agreement relating to sums payable under that contract) is met.’ (Section 113A (1))

• introducing a two-year transition period from the date section 113B comes into force before a full ban. During this period retention clauses will be permitted in contracts

• at the end of a three-year period, (“the last retention day”), such retention clauses will be ineffective and the “transitional retained sum” will be repayable. (Section 113B)

• at the end of the transition period, retention clauses included in construction contracts would be void. (Section 113C)

• once the ban is in force (ie after transition period), variations to pre-existing retention clauses would be void unless the provision makes the retention clause more favourable for the payee. (Section 113D)

• after the transition period, if there is a breach of these provisions and the deduction of an unauthorised sum, then an implied term will impose a penalty of the higher of £40 or 50% of the retention debt (in addition to any interest payable and compensation for late payment). (Section 113E).

Although no set timeframe has been given for when the Bill will become legislation, it is clear from the first reading in May and a second reading scheduled for early June 2026, that Parliament are working towards progressing the Bill. Progress to date has been swift, but with the transitional period it will be at least two to three years until the full effects of the ban on retentions are seen in practice.

To avoid falling foul of the new legislation, any changes in the law will need to be addressed in standard form contracts and bespoke contracts which expressly refer to retention clauses. This is because the legislation cannot be contracted out of and will take precedence over contractual provisions.

Following the release of the JCT 2024 suite of contracts (which followed the 2016 editions), we wait to see how JCT intend to deal with the necessary amendments to the standard form ie will they update the form or issue amendment sheets. If the latter, this comes with the risk that amendment sheets might be missed or forgotten by the parties and the new legislation not followed or followed incorrectly.

Considering the options

Notwithstanding that the government’s preference is an outright ban, we have explored both options as this informs the debate about retentions.

Option 1: Outright ban

This is what is envisaged by the new Bill. An outright ban would make it unlawful for the paying party to deduct and withhold retention money under a construction contract. Although the simplest option in theory, this approach raises several practical concerns.

• Risk of circumvention

  Employers and contractors may start to undervalue or take a more conservative approach to valuing executed works, giving the employer or contractor an alternative way of retaining a portion of the payment creating a ‘backdoor retention’.
   

• More disputes

  There might be more tension on sites where contractors and sub-contractors suspect their works are being undervalued, and this could lead to a rise in adjudications where contractors or sub-contractors turn to an adjudicator to determine the true value of the works completed. Errors in the issuing of payment notices unlawfully deducting a retention may also lead to more adjudications. It is not currently clear how adjudicators will address these issues and whether such unlawful deductions will result in payment/pay less notices being invalidated in their entirety (potentially resulting in more ‘smash and grab’ adjudications). There would need to be clear rules on the recovery of unlawfully deducted sums to avoid complex and costly disputes.
   

• Failure to address the root cause

  A ban removes the legal entitlement to withhold retention but does not address the reason why employers and contractors feel the need for one. As a result, employers and contractors may try to find ways to legitimately withhold a portion of money from the payments they make as a form of alternative security. Alternatively, there may be an increased need for performance bonds (perhaps even on demand bonds which are currently unusual in the UK construction market) or bespoke bonds – to the extent that the insurance market will cover the supply chain. The positive of bonds would be that the employer/contractor will be forced to pay the price of the security, but the negative for them will be they don’t have access to the cash as part of their working capital.
   

• Changes to approach to practical completion

  Employers and contractors may be more stringent in their requirements to achieve practical completion and reluctant to agree to snagging schedules for minor items.
   

• Expenditure of time and money

  Contractors and sub-contractors may still spend significant amounts of time and money chasing unlawful retention payments or payments made to circumvent the retention ban. If this is the case, and an alternative is pursuing an adjudication (which can be expensive) then to what extent does this achieve the desired outcome of reducing the time and money spent chasing retention money?
   

• Alternative payments

  Employers and contractors may try to find alternative and creative solutions to replace retentions. We expect an increase in the use of stage or milestone payments, which legitimately allows the paying party to determine in what tranches money is released. Paying parties may also give more weighting to payments at the end of projects or offer completion bonuses to incentivise contractors and sub-contractors to fulfil their obligations under the contract.

Option 2: Mandatory protection of retention sums

While this is not the option currently being pursued, under this option, retentions would continue as lawful, but would require any retention sums that are deducted to be held in a separate bank account for the benefit of the payee. Payers would have a choice to either keep the retention sum in a separate bank account or replace it through the use of an instrument of guarantee such as insurance or surety bond. For completeness we have included the following points we think are worth noting.

• Greater protection in insolvency but additional administrative costs

  Keeping retention sums segregated in a separate bank account or protected would ensure that in the event of insolvency, any retention money held would be ringfenced and protected. The result of this additional administration would lead to associated costs for the inception and administration of a separate bank account or instrument of guarantee – but these would lower overtime as the system normalised and would be off-set against the reduce risk of insolvency to project delivery. Any additional costs would have to be considered as additional costs to be borne by the paying party or both the payee and payer.
   

• Balances the interests of the parties

  This offers the best compromise when considering the interests of parties to a construction contract, along with the interests of any funders and has been tried and tested since 2023 in New Zealand. Third party funding is vital to the construction industry and investment is key for many projects. Funders usually have a lower appetite for risk but will want to be confident that projects can be delivered to a high standard. Alternative forms of security are available, however these may not always be appropriate and come at a cost that the borrower/developer will usually end up paying for.
   

• Tried and tested method

  As noted above, New Zealand has successfully implemented measures to protect retention money. Under the New Zealand legislation, any retention money deducted must be held on trust by the payer. In addition to this, accounting records are required to be kept and the contractor or sub-contractor are given a right to inspect retention money records. New Zealand offers a working example that could act as a blueprint for the government, and an opportunity for the government to cherry pick any successful elements and reconsider those deemed unsuccessful.
   

• Affordability and availability of guarantee instruments

  Administration costs for guarantee instruments, particularly on large projects where the amount of a retention held can be significant, are likely to be extremely high. The availability of bonds and insurance is also impacted by wider global issues and so political and economic instability will impact on the affordability of these instruments. The extremely tight profit margins that employers and contractors work in, might in some cases prevent this from being an affordable option in the same way it can be unaffordable for the supply chain.

Alternatives to retention

In the absence of retentions what are the alternatives?

Many of the risks that retention is meant to address can be mitigated through:

• better contractor due diligence and the selection of good contractors – improved procurement practices

• proactive management of the works, defects management and administration of the project

• clearer standards, definition of practical completion and the utilisation of practical completion checklists and

• alternative security such as performance bond or parent company guarantees (or the use of a project bank account).

Alternative forms of security will not always be suitable alternatives to a retention. The cost of a performance bond will typically be offset by the contractor required to procure one, as they will price the cost of obtaining a bond into the contract sum. In addition to this, most firms have a limited capacity to take out bonds and smaller companies or ones without strong financial positions might have to pay more to obtain a bond or might be unable to secure one at all. The client/funder may wish to fund this. A parent company guarantee, as an alternative, can only be obtained where a parent or ultimate holding company exists. However, if the contractor is unable to fulfil its obligations under the contract due to insolvency, then the wider group or parent may also be at risk, and if the parent or holding company becomes insolvent the parent company guarantee would be worthless.

Conclusion

The government is moving quickly. The Bill has been published with the second reading due to take place in June. The Bill sets out in detail how it will operate and while we understand there will be some consultation around the drafting, we think the principle is unlikely to be challenged.

The Bill envisages a period of transition, however it is useful to consider how this will work in practice and what approach will be taken to implementing it. It will also be interesting to see how the market reacts and the position of funders and developers particularly as there will be a period of time before the Bill is implemented to allow the market to transition to the new commercial landscape.

An outright ban risks creating ambiguity and may encourage paying parties to find creative ways to withhold money or circumvent the prohibition. In an ideal world removing retentions would lead to better managed projects and a reduction in defects as contractors and sub-contractors work to higher standards resulting in fewer defects at practical completion. For the reforms to be effective, the industry will need a cultural shift and change in practices and behaviours, setting higher standards and levels of professionalism from the outset. With the government also consulting on licencing this may herald the dawn of a new reality.

Rob Driscoll, Director of Legal & Policy for ECA, CLC Business Models contributor and former Chair of Cabinet Office Payment Advisory Group comments:

We will be following the legislation with interest as it goes through Parliament as this will significantly impact on upcoming projects and contracts. If you’d like to discuss how this proposed legislation may affect your business, learn more about our Construction and Engineering expertise, or contact us to discuss how we can help.