Contractors should be certified

Dispute with regard to certificates to make payment are rife.
Chris Binnington walks the contractor through a legal minefield.

With the world in serious recession and construction contracts worldwide being cut back or cancelled Contractors are inevitably and increasingly concerned about cash flow and prompt payment in accordance with the terms of their contract. The method of effecting payment to Contractors is one which has been firmly entrenched in the international construction industry since the 1800’s namely, the issue of a certificate by the Employer or an Agent of the Employer certifying interim amounts and ultimately a final amount to be due to the Contractor based upon work assessed in accordance with the measurement provisions of the contract, bills of quantities, percentages of lumps sums and the like.

Interestingly the use of a certificate to make payment for interim amounts is considered by our law as payment on account and in recognition of the fact that usually, although not always, it is not the role of the Contractor to finance the overall cost of projects and interim certificates assist the Contractor’s cash flow in this regard. The common law of course does not recognize interim certificates and in the absence of express clauses providing for such interim payments the Contractor would only be entitled to a single balloon payment on completion of the work entirely free from defects.

Disputes on certificates
    Notwithstanding the general practice which has evolved and the recognition by our Courts that a certificate constitutes a liquid document and in this regard is equivalent to a check payable upon presentation or at least within the number of days specified in the contract for payment after the issue of the certificate, it is not uncommon for Employers to delay payment; to compromise the amount certified; or to refuse to make payment at all against a certificate duly issued.

Whilst construction contracts usually provide for methods of dispute resolution other than Court, disputes on certificates may be referred to Court under the rules governing summary judgement on liquid documents thus giving the certificate the additional authority of a Court Order enabling the sheriff of the Court to attach assets in satisfaction of the unpaid or short paid certificate.

Inevitably however defences may be raised as to why the Employer should not be liable to make payment against a certificate. Standard form contracts, particularly those drafted internationally, do not always address the issue of VAT invoices. Since few Employers, who are VAT registered, will be prepared to pay in the absence of a VAT invoice, it is necessary to ensure that contracts are suitably amended to provide that the automatic payment against a certificate is going to be subject to the preparation and presentation by the Contractor of a VAT invoice compliant with the VAT Act.

Authority for the proposition that interim and final payment certificates shall be considered to be liquid documents flows from the fact that the Employer’s Agent, acting on behalf of the Employer and duly authorized to issue a certificate creates, by way of the certificate an acknowledgement of debt in favour of the Contractor placing the Employer in the same position as if it had signed the acknowledgement of debt in favour of the Contractor. This position was confirmed in the Randcon (Natal) (Pty) Ltd case versus Florida Twin Estates (Pty) Ltd, 1973 (4) SA 181. The consequence of this judgement is to embody within a certificate a binding obligation on the part of the Employer to pay the amount stated and to the extent a dispute in regard to non payment arises the certificate itself opens the door to a new cause of action subject to the terms of the contract. A certificate is therefore to be regarded as the equivalent of cash.

The straight and narrow
    The grounds upon which such certificate may be challenged are extremely narrow and are based on the general principles of the law of agency. Patently the Employer will not be bound if there has been fraud or collusion between the Agent and the Contractor to the detriment of the Employer. Neither will the Employer be bound if the certificate reflects a situation where the Agent has exceeded his mandate or the certificate was not drawn up in accordance with the terms of the written agreement. For this last proposition we can look to case of Smith versus Mouton more than 30 years ago, 1977 (3) SA 9 (W).

Some contracts provide that interim payment certificates are to be issued every month on or before a date stipulated and that the payment certificate may be for a nil or negative amount. Most contracts will then link the date of payment to the date of issue of the certificate.

A number of challenges have been made in regard to the liquidity of certificates on the basis that a suspensive condition requiring the Contractor to issue a tax invoice before payment falls due has not been complied with alternatively the tax invoice issued by the Contractor was inconsistent with the certificate. Typical excuses offered by Employers in this regard are that the date of valuation referred to on the tax invoice perhaps differs from that referred to in the payment certificate or that the tax invoice is dated prior to the date of the payment certificate. These technical defences are unlikely to succeed providing that the amount of the invoice equates with the amount of the certificate and one would expect a Court to ignore such discrepancies.

A defence of note
    Stocks Mavundla Zek JV versus Joob Joob Investments (Pty) Ltd an unreported judgement handed down on 25 September 2007. In this case it was alleged that interim payment certificates were not payable since they contained amounts due to the Contractor by way of damages thus rendering the payment certificates illiquid and further that VAT had been calculated based upon the damages thereby rendering the certificates inaccurate and illiquid. The contract was based on JBCC which requires the issue of a recovery statement monthly to the Employer and Contractor simultaneously together with the payment certificate, which recovery statement is required to show the amounts due to the Contractor in respect of damages. There was no dispute that such a recovery statement had been issued. The Court found that there was no reason why an Agent could not include amounts due to the Contractor by way of damages; further having complied with the requirements of the contract in so far as the issue of, a recovery statement is concerned, the Agent was perfectly entitled to include damages in the subsequent interim payment certificate and this would thereafter not adversely affect the liquidity of such certificates.

Argument was thereafter advanced that the inclusion of VAT on damages was in conflict with the VAT Act since damages did not fall within the definition of goods or services under the Act and accordingly no VAT provision should have been included in the certificates in question.

The Court found there was no direct authority on this point but noted that in the case of Mutual & Federal Insurance Company Limited versus Chemalum (Pty) Ltd a Supreme Court of Appeal judgement 2007 (2) SA 479 (SCA), the Court of Appeal had implicitly recognized that VAT may be claimed on damages for loss profits and drew the analogy that there should be no reason, since the VAT Act did not expressly exclude the application of VAT on damages, why VAT should not be levied on damages. The Court in the Stocks matter went on to state that this gave implicit recognition that VAT may be claimed on damages in interim certificates.

Prompt payment, please
    Contractors wishing to ensure prompt payment are accordingly encouraged to satisfy themselves that the terms of the contract are clear and unequivocal in regard to the administrative requirements and in particular those associated with VAT invoices. The law in South Africa in regard to the enforcement of liquid documents and the numerous cases that have considered the question of interim and final certificates flowing from construction contracts makes it increasingly certain that, subject to the aforementioned procedural compliances, an Employer will have few defences which could be raised successfully to defeat a certificate legitimately issued under the contract.

Disputes in regard to certificates could involve the dispute resolution mechanism although if the dispute itself is simply a dispute in regard to the debt due, arbitration is inappropriate and the mechanism provided in standard form contracts for adjudication does not give rise to final and binding decisions thus adjudication would also be inappropriate in these types of disputes. The appropriate place for resolving these disputes is the High Court of South Africa by way of summary judgement application.

Chris Binnington