Perspective | A Brief Analysis of Legal Issues Related to Interest on Construction Project Payments
Published:
2024-12-17
The construction industry, being a relatively unique sector, often faces situations where the client delays payment due to the long construction periods and large amounts of project costs. However, given that the construction market is characterized by a buyer's market with many contractors competing for limited projects, it is common for clients to postpone settlements. In order to receive the final payment as quickly as possible, contractors often endure this situation and may neglect the interest portion during the settlement.
Abstract:The construction engineering industry is a relatively special industry, characterized by long construction cycles and large project costs, which often leads to situations where the client delays payment. However, given the buyer's market in the construction field, where there are more buyers than available projects, it is common for contractors to endure delays in settlement in order to receive the final payment quickly, often neglecting the interest portion.
Construction project payments are often substantial, and with long overdue periods, the interest on these payments can be considerable, sometimes reaching hundreds of thousands or even millions. So, is the interest on construction payments considered statutory interest or a penalty? Does the settlement of the construction payment and the terms of settlement affect the contractor's claim for interest? Can interest on payments already made before settlement be claimed, and has the statute of limitations expired? This paper discusses and studies related issues regarding interest on construction payments.
1. Is the nature of construction payment interest statutory interest or a penalty, and is the payment of interest contingent upon the client's fault?
There is a dispute in academia and practice regarding the nature of unpaid construction payment interest. One mainstream view holds that unpaid construction payment interest should be classified as statutory interest. Another view suggests that its nature is closer to the economic losses incurred by the contractor due to the client's late payment, serving as compensation for the contractor's capital occupation costs.
The First Civil Division of the Supreme People's Court adopted the view that the nature of construction payment interest is statutory interest in the "Interpretation (I) of Judicial Interpretation on Construction Engineering Contracts". The key points of the Supreme People's Court's ruling in case (2019) Supreme Court Civil Final 895 state: According to Article 26 of the "Interpretation (I) of the Supreme People's Court on the Legal Issues Applicable to the Trial of Construction Engineering Contract Disputes", the nature of the unpaid construction payment interest that the client should pay to the contractor should be recognized as statutory interest, rather than a form of breach of contract compensation; in case (2021) Supreme Court Civil Reconsideration 368, the ruling states: Interest is statutory interest, and a company's claim not to pay capital occupation losses, i.e., unpaid construction payment interest, has no legal basis; in case (2021) Supreme Court Civil Appeal 7696, the ruling addresses whether to support overdue payment interest. Interest is statutory interest, different from penalties. Although the construction contract in question is invalid, the contractor has the right to request payment for the completed and accepted factory building according to the contract terms and is also entitled to claim corresponding interest.
These rulings generally agree that the generation of interest on unpaid construction payments does not require the client's fault as a necessary condition. Regardless of the reasons for the client's failure to pay on time, as long as their default leads to the contractor's capital being occupied and resulting in interest losses, that interest should be paid in full by the client to the contractor as statutory interest. At this point, the fault of the parties is not a prerequisite; even if the construction contract is deemed invalid, as long as the quality of the construction meets the requirements, based on the contract law principle of restoring the parties' interests to their original state after the contract is invalid, the client should pay overdue payment interest to the contractor without the contractor needing to prove the client's fault.
2. If the project has been delivered and settled, can the contractor claim interest on the construction payment?
1. If the parties have explicitly agreed on the calculation standard for unpaid construction payment interest in the contract, it should be handled according to the agreement. In cases with agreements, there are two scenarios:
(1) If the settlement terms only stipulate penalties for unpaid construction payments, can the contractor still request the client to pay interest on the unpaid construction payments in addition to the penalty?
The answer provided in the "Civil Trial Practice Q&A" by the First Civil Division of the Supreme People's Court states: The construction contract is a bilateral compensated contract, and the payment of construction costs is the client's primary obligation. If the client violates the contract by failing to pay the construction costs, it constitutes a breach of contract, and the parties' agreement on interest for the unpaid construction costs is often a basic way to bear the breach of contract liability. Article 26 of the Supreme People's Court's "Interpretation (I) on the Legal Issues Applicable to the Trial of Construction Engineering Contract Disputes" addresses the handling of disputes regarding interest issues between the parties to the construction contract and should apply when the parties have not agreed on the method of bearing breach of contract liability for unpaid construction costs.
If the parties have already agreed on the method of breach of contract liability for overdue payment of construction costs in the construction contract, that agreement should take precedence. Therefore, if the parties have explicitly agreed in the construction contract that the client should compensate for losses or bear other breach of contract liabilities in addition to paying interest, the contractor can request the client to bear the agreed breach of contract liability while also requesting the payment of the corresponding agreed interest, which should be based on their agreement. Article 577 of the Civil Code states: "If one party fails to perform its contractual obligations or performs them in a manner that does not conform to the agreement, it shall bear the liability for breach of contract, including continuing to perform, taking remedial measures, or compensating for losses." Compensation for losses is one of the ways to bear breach of contract liability.
If the parties only agreed to pay penalties for unpaid construction payments without additionally agreeing to pay interest on the unpaid construction payments, then the client's payment of the penalty constitutes the breach of contract liability for compensating for losses, and the contractor has no right to request the client to pay additional interest on the unpaid construction payments.
(2) If the construction contract stipulates both interest for overdue payments and penalties, both can be claimed simultaneously, but there may be situations where the client claims that the agreed amount is too high or that there is a double claim, requesting the court to reduce it.
2. In cases where the settlement agreement does not stipulate interest on construction payments or the payment time is unclear, there are two opinions:
(1) If no interest for overdue progress payments is stipulated, it is considered a waiver;
(2) Not stipulating interest for overdue construction payments does not imply consent to waive it, and interest can still be claimed.
The author tends to support the latter opinion, mainly considering the following aspects:
The waiver of civil rights must be expressed clearly to have legal effect; implied expressions only have legal effect when there are clear legal provisions or special agreements between the parties. In the absence of a clear agreement in the settlement agreement regarding whether interest is waived, the contractor can still claim interest on the construction payment.
Article 26 of the "Interpretation (I) of the Supreme People's Court on the Legal Issues Applicable to the Trial of Construction Engineering Contract Disputes" states that if the parties have an agreement on the calculation standard for unpaid construction payment interest, it should be handled according to the agreement. If there is no agreement, interest should be calculated based on the interest rate of similar loans during the same period or the market quotation interest rate for loans during the same period. This provision clearly states that if there is an agreement, it follows the agreement; if there is no agreement, interest is paid according to this provision. There is also no legal provision stating that the settlement amount can be inferred to include interest, and such an understanding completely contradicts the legislative intent.
Article 27 of the "Interpretation (1) of the Supreme People's Court on the Applicable Legal Issues in the Trial of Construction Engineering Contract Dispute Cases" stipulates the starting point for calculating interest on project funds: (1) If the construction project has been actually delivered, the starting point is the date of delivery; (2) If the construction project has not been delivered, the starting point is the date of submission of the completion settlement documents; (3) If the construction project has not been delivered and the project price has not been settled, the starting point is the date of the party's lawsuit. There is a logical sequence in the application, where the latter condition is only applicable if the former condition is not met. It can be seen that Articles 26 and 27 of the "Interpretation (1)" fully reflect the protective bias towards the contractor's interests, mainly in two aspects: first, to support the contractor's claim for interest as much as possible, and second, to advance the starting point for calculating interest as much as possible. Therefore, in the absence of a clear agreement in the settlement agreement regarding the waiver of interest, supporting the contractor's claim for interest is more in line with the normative purpose of Articles 26 and 27 of the "Interpretation (1)".
3. Can interest on project funds that has been paid before the settlement agreement takes effect after the project has been delivered be claimed, and is it past the statute of limitations?
According to Article 26, 27 and other relevant provisions of the "Interpretation (1) of the Supreme People's Court on the Applicable Legal Issues in the Trial of Construction Engineering Contract Dispute Cases", interest on project funds is based on the agreement if there is one; if there is no agreement, interest is paid according to the provisions of Article 26. The starting point for interest payment is also clearly stipulated in Article 27, where interest on project funds can be claimed from the date of delivery and use of the project.
There has been a situation of overdue project funds since the project was delivered and used. As the statutory interest on overdue project funds, the uncertainty in calculating the principal amount of project funds can lead to a corresponding extension of the claim for interest. The author believes that as long as the contracting party has not settled the project funds, the contractor's claim for the remaining project funds has not exceeded the statute of limitations, and the claim for interest on the paid project funds will not exceed the statute of limitations.
In summary, although the issue of interest on project funds is just a minor point of contention in each construction settlement dispute case, it is commonly found in every construction settlement dispute case. Sometimes, there can be a significant time gap between the project delivery date and the lawsuit date, especially when the amount of overdue project funds is large, and the interest amount is not insignificant. Therefore, clarifying the approach to claiming interest and organizing evidence can help both the contracting party and the contractor assert their legal rights.
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