Contract Provisions Suspending Payment Obligations After Termination Are Void Under CIPAA

by Rajendra Navaratnam & Chu Ai Li, Partners of Azman Davidson & Co.

Almost all employers stop making payment to their contractors after the termination of their construction contracts.  It is not uncommon to find contract provisions allowing employers to suspend or withhold payment upon termination of the contract. 

The most popular standard form contract for building projects in Malaysia, the Pertubuhan Arkitek Malaysia (PAM) Agreement and Conditions of PAM 2006, contains the following provision which suspends the employer’s obligation to pay the contractor from the termination of the contract until the completion of the works:

“25.4(d) … Until after the completion of the Works under Clause 25.4(a), the Employer shall not be bound by any provision in the Contract to make any further payment to the Contractor, including payments which have been certified but not yet paid when the employment of the Contractor was determined. …”

Section 35 of Construction Industry Payment and Adjudication Act 2012 (“CIPAA”) reads as follows:

“(1) Any conditional payment provision in a construction contract in relation to payment under the construction contract is void.

(2) For the purpose of this section, it is a conditional payment provision when:

(a) The obligation of one party to make payment is conditional upon that party having received payment from a third party; or

(b) The obligation of one party to make payment is conditional upon the availability of funds or drawdown of financing facilities of that party.”

The High Court judge in Econpile (M) Sdn Bhd v IRDK Ventures Sdn Bhd & Anor [2017] 7 MLJ 732 considered whether Clause 25.4(d) of the PAM contract is a conditional payment provision for purposes of Section 35(1) of CIPAA.  Applying an expansive interpretation to Section 35(1) CIPAA, the High Court judge said that the phrase “conditional payment” in Section 35(1) is not limited to the two definitions found in Section 235(2), and that Parliament has left it to the courts to determine on a case by case basis as to whether a conditional payment term would defeat the purpose of CIPAA.  The High Court judge was of the view that Clause 25.4(d) of the PAM contract, which has the effect of postponing payment due until the final accounts are concluded and the works are completed, defeats the purpose of CIPAA.  The High Court judge said Clause 25.4(d) is void and unenforceable and that an adjudicator in an adjudication commenced under CIPAA may disregard it altogether.  The High Court judge held that the application of CIPAA to the construction contract is not excluded after the construction contract has been terminated.

Upon appeal, the Court of Appeal considered the question whether CIPAA applied after a construction contract has been terminated.  The Court of Appeal in its grounds of decision at IRDK Venture Sdn Bhd v Econpile (M) Sdn Bhd [2020] MLJU 939 appears to have accepted the High Court judge’s reasoning in relation to Clause 25(4) of the PAM contract and Section 35 of CIPAA.  In substance, the Court of Appeal’s decision is that CIPAA applies even after the construction contract has been terminated.  The Court of Appeal held that a condition like Clause 25.4(d), which has the effect of postponing payment until the final accounts are concluded and the works completed, defeats the purpose of CIPAA.   

The Court of Appeal’s affirmation of the High Court judge’s view that Clause 25.4(d) of the PAM contract is void by virtue of Section 35(1) of CIPAA as it is a conditional payment provision that defeats CIPAA is a welcome respite for the contractors whose contracts have been terminated and whose payments have been withheld by their employers based on contract provisions that allowed their employers to suspend or withhold payments after termination. 

However, the contractors must bring their employers to adjudication under CIPAA in order to enjoy the benefit of Section 35 of CIPAA.  This is because the same High Court judge who decided the Econpile v IRDK case held in a separate case that Section 35 of CIPAA rendered a conditional payment provision void only for the purposes of adjudication under CIPAA (refer to Bond M&E (KL) Sdn Bhd v Isyoda (M) Sdn Bhd [2017] MLRHU 1, page 15).