Opinion ID: 1060237
Heading Depth: 1
Heading Rank: 2

Heading: the pay when paid defense

Text: This appeal presents our first opportunity to consider the use of pay when paid (sometimes rendered as paid when paid) clauses in construction contracts. The use of such clauses rose significantly in the 1980s because economic conditions made successful completion of private construction projects more difficult and engendered a cautious attitude throughout the construction industry. See generally, Francis J. Mootz, III, The Enforceability of Paid When Paid Clauses in Construction Contracts, 64 Conn.B.J. 257 (1990). The leading case to address the enforceability of pay when paid clauses is Thos. J. Dyer Co. v. Bishop International Engineering Co., 303 F.2d 655 (6th Cir.1962). In Dyer, the contract provided that no part of [the price to be paid to the subcontractor] shall be due until five (5) days after Owner shall have paid Contractor therefor. Id. at 656. Following the insolvency of the owner, a subcontractor sought to enforce its contract with the general contractor. The Sixth Circuit rejected the general contractor's argument that the language of the contract constituted a condition precedent giving it a defense to the breach of contract claim. The court explained its rationale in the following language: In the case before us we see no reason why the usual credit risk of the owner's insolvency assumed by the general contractor should be transferred from the general contractor to the subcontractor. It seems clear to us under the facts of this case that it was the intention of the parties that the subcontractor would be paid by the general contractor for the labor and materials put into the project. We believe that to be the normal construction of the relationship between the parties. If such was not the intention of the parties it could have been so expressed in unequivocal terms dealing with the possible insolvency of the owner. North American Graphite Corp. v. Allan, 87 U.S.App.D.C. 154, 184 F.2d 387, 390. Paragraph 3 of the subcontract does not refer to the possible insolvency of the owner. On the other hand, it deals with the amount, time, and method of payment, which are essential provisions in every construction contract, without regard to possible insolvency. In our opinion, paragraph 3 of the subcontract is a reasonable provision designed to postpone payment for a reasonable period of time after the work was completed, during which the general contractor would be afforded the opportunity of procuring from the owner the funds necessary to pay the subcontractor. Stewart v. Herron, 77 Ohio St. 130, [146,] 82 N.E. 956 [, 959]. To construe it as requiring the subcontractor to wait to be paid for an indefinite period of time until the general contractor has been paid by the owner, which may never occur, is to give to it an unreasonable construction which the parties did not intend at the time the subcontract was entered into. Id. at 661. The contract in Dyer further provided that 90 percent of the payment was due in any case 35 days after completion of the work. Id. at 656. The court construed this provision of the contract together with the term relied on by the general contractor as merely postponing the time of payment to the subcontractor on an unconditional promise to pay until payment by the owner, or for a reasonable period of time if it develops that such event does not take place. Id. at 659. The court premised its result on the fact that it is the general contractor who contracts with the owner. Id. at 660. The court further held that the credit risk inherent in the general contractor's undertaking may be shifted to the subcontractor, but in order to do so, the contract between the general contractor and subcontractor should contain an express condition clearly showing that to be the intention of the parties. Id. at 661. Since the Dyer decision, the majority of jurisdictions which have considered the pay when paid defense have adopted the reasoning of the Sixth Circuit. See Mootz, Enforceability, 64 Conn.B.J. at 263 and cases cited therein at n. 17; see also Gilbane Building Co. v. Brisk Waterproofing Co., Inc., 86 Md. App. 21, 585 A.2d 248, 250 (1991) (holding that use of term condition precedent in pay when paid clause clearly establishes intent of parties to shift credit risk of owner's insolvency to subcontractor). A minority of jurisdictions as a matter of policy do not allow the risk of owner insolvency to be shifted from the general contractor to the subcontractors. See, e.g., N.C.Gen.Stat. § 22C-2 (1994). We find the reasoning of the Dyer decision to be sound and in concert with traditional notions of the freedom to contract. See Worrie v. Boze, 191 Va. 916, 928, 62 S.E.2d 876, 882 (1951). However, that reasoning is applicable only where the language of the contract in question is clear on its face. If, as in Dyer, a contract on its face reasonably contemplates eventual payment by the general contractor to the subcontractor, or, as in Gilbane, the parties clearly intend there to be a condition precedent fulfilled before payment comes due, the contract will be construed as written and will not be reformed by the court through the introduction of parol and other extrinsic evidence of a contrary intent. Accordingly, we must consider whether the contracts sub judice are clear on their face as to the parties' intent.