Before the construction contract is finalized and a job begins, every party should be clear on the details and expectations related to retainage. Throughout the job, you’ll want to stay in communication with owners, subcontractors, and vendors to make sure everyone is on the same page in terms of progress, payment status, and any changes in job scope. Things retainage in construction can easily be forgotten, misremembered, or misunderstood, so keeping written documentation of communications, invoices, and receipts is a must. Some jurisdictions might require the release of retainage fees within a defined period of time after a project is finished. Others might require reimbursement to be made in a set number of days after final approval.
Study the contract carefully
This might harm meaningful subcontractor relationships, and it may be challenging to find individuals willing to work with such a high retainage percentage. Let’s look at California – the state with the highest construction output in the US – as an example. For all public projects, retainage rates are capped at 5%, and owners must make their full retainage payment to their contractor within 60 days once the project is completed. While retainage can restrict your cash flow, the entire amount isn’t typically withheld upfront. For example, a $50,000 contract with 5% retainage doesn’t mean you’re out $2,500 from the onset of your project; you’ll deduct the retainage from each milestone payment. So if that same contract gets paid over five payments, $500 would be held in retainage each time.
How Retainage Affects Subcontractors
In this article, we will delve into the the purpose of retainage in construction projects, highlighting benefits, drawbacks and best practices. The amount of retention that is held quite often signifies a portion of the contractors overall profit on the construction project. For example, contractors in Texas can file a Notice of Contractual Retainage to preserve their right to file a mechanic’s lien if they don’t receive the retention payment they’re owed.
Maintain impeccable financial records.
- Typically, contact retention is released, and the general contractor receives their complete payment at the end of the project.
- On a typical project, the retainage percentage is applied to each progress payment.
- You can store all your contracts and other documents in a single, searchable Document Repository.
- As a contractor, your critical task is ensuring that retainage is held back on each progress payment.
When setting a retainage percentage, there are a few factors that are essential to consider, specifically, in construction. Contracts are determined through negotiation, reflecting project complexity, industry standards, and regulations, all of which will be reflected in the percentage. For instance, if the total contract is $100,000 with a retainage rate of 5%, $5,000 would be withheld as retainage.
Why Retainage in Construction Is a Threat to Contractors
When done right, any unreleased retainage should reflect as revenue on your profit and loss statement, and as uncollected funds on your balance sheet. Accounting for retainage payables generally means tracking holdback from contractors, subcontractors, and vendors throughout the entire project. Just like with retainage receivables, retainage payables will also need to be included on your Chart of Accounts to accurately track related transactions and balances. So, each of your ten scheduled payments will be reduced by $3,000 for a combined retainage of $30,000 and a total of $270,000 paid over the course of the job.
How much money can be withheld for retainage?
- It may be a waste of finances for the owners to take advantage of the contractors by failing to pay them what they are owed with the project’s final invoice.
- By guarding against shoddy and incomplete work, retainage can protect clients and their money.
- Before you sign a construction contract, ensure you understand the retainage amount and when you will receive it.
- Otherwise, subcontractors may be forced to wait until the entire project is finished, including work they are not responsible for.
Quite often, you will see the terms of construction retainage and construction retention used interchangeably. While retainage refers directly to the sum of money withheld, retention is more about the process of withholding that money. In this article, we use both terms to refer to the same thing – withheld money. Payment apps, tax considerations, and cash flow management can all become overwhelming. If you’re unsure of what to do next, find a CPA or accounting professional with construction accounting experience that can help point you in the right direction. Simply put, retainage reduces the amount of cash coming in on each payment limiting the amount of working capital you have to purchase materials, schedule full crews, and cover various costs.
How Long Is Retainage Held?
The line items for retainage on an invoice show the amounts the project owner is supposed to withhold when paying the invoice. Different invoice line items may indicate how much money has been withheld for various categories (labor, materials) and how much was paid out in a particular progress payment. Retainage may be fixed or variable, depending on the terms of the contract. With a fixed percentage, typically in the 5% to 10% range, the same percentage of the total amount due is held back from each payment. With variable retainage, the percentage can change based on the stage of project completion. For example, a 10% retainage could drop to 5% after a project is considered halfway done.
- Variable retention is when the retention percentage is different for different project stages.
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- Conduct a project cash-flow forecast to determine if you’ll need to source extra working capital until you receive the retainage.
- At the end of the day, construction businesses have a legal right to collect payment for work or materials they provide.
- For instance, let’s again take a $50,000 contract with 5% retainage.
