Introduction

The Construction Industry Payment and Adjudication Act 2012 (“CIPAA 2012”) was passed by the Malaysian Parliament in 2012 and CIPAA 2012 came into force on 15.4.2014. CIPAA 2012 was introduced to facilitate regular and timely payment in respect of construction contracts and to provide for speedy dispute resolution through adjudication.

The primary objective of CIPAA 2012 is to address critical cash flow issues in the construction industry and to facilitate payments for those down the chain of construction contracts for work done or services rendered.

Section 35 of CIPAA 2012 – Prohibition of Conditional Payment
CIPAA 2012 introduced Section 35 which prohibits the practice of conditional payment terms that inhibit cash flow:

“35 Prohibition of conditional payment

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

2. For the purposes 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.”

What constitutes a “conditional payment provision/ clause/ term”?
The High Court in the case of Econpile (M) Sdn Bhd v IRDK Ventures Sdn Bhd and another case [2017] 7 MLJ 732; [2016] 5 CLJ 882 enunciated that Parliament had left it to the Courts to determine on a case by case basis as to whether conditional payment provisions in a construction contract would defeat the intent and purpose of CIPAA 2012.

The High Court in the case of Terminal Perintis Sdn Bhd v. Tan Ngee Hong Construction Sdn Bhd [2017] MLJU 242; [2017] CLJU 177; [2017] 1 LNS 177 ruled that the question of whether a payment term in a construction contract constitutes a conditional payment clause under Section 35 of CIPAA 2012 is a mix finding of fact and law and the Courts would not interfere in the adjudicator’s interpretation.

Overview of Cases/ Authorities
A) “Pay When Paid”/ “Pay If Paid”/ “Back to Back”

CIPAA 2012 expressly prohibits “pay when paid”/ “pay if paid” clauses which makes the obligation of the main contractor to pay a subcontractor conditional upon the main contractor having received payment from the principal. Such contractual clauses are void and unenforceable pursuant to Section 35 of CIPAA 2012.

The High Court in the case of Khairi Consult Sdn Bhd v GJ Runding Sdn Bhd [2021] MLJU 694; [2021] CLJU 571; [2021] 1 LNS 57 held that a contractual provision which provided for the payment to be on “back to back” basis is void under Section 35 of CIPAA 2012.

The Defendant in this case was the main consultant for a construction project. By way of a contract/ letter, the Defendant appointed the Plaintiff as a consultant to provide engineering consultancy services for the project.

Clause 9 of the contract provides that:

“Payment shall be on a back to back basis i.e you [Plaintiff] shall be paid within 7 days upon [the Defendant’s] received [sic] payment from the client.”

The High Court held that:

• Clause 9 is void as it is a “conditional payment provision” within the meaning of Section 35 of CIPAA 2012.
• This is because the Defendant’s payment to the Plaintiff is on a “back to back” basis i.e. the Defendant is only required to pay the Plaintiff when the Defendant has received payment from a third party (the employer/ client).

The High Court in the case of KS Swee Construction Sdn Bhd v BHF Multibina (M) Sdn Bhd [2019] MLJU 1508; [2019] CLJU 1849; [2019] 1 LNS 1849 held that a contractual provision which stipulated that payment to the subcontractor is “back to back” to the payment from the main contractor is a conditional payment under Section 35 of CIPAA 2012.

The Plaintiff in this case was engaged by the Defendant to carry out construction works. Clause 7 of the contract provides that:

“Bayaran kemajuan kerja kepada Sub Kontraktor adalah secara timbal balik (back to back) dengan bayaran kemajuan daripada Kontraktor Utama”

Therefore, the Plaintiff will only be paid on a “back to back” basis i.e. the Plaintiff’s payment becomes due only when the Defendant receives payment from the main contractor.

The High Court held that Clause 7 is a conditional payment within the confines of Section 35 of CIPAA 2012.

The High Court in the case of Sinwira Bina Sdn Bhd v Puteri Nusantara Sdn Bhd [2017] MLJU 1836; [2017] CLJU 1819; [2017] 1 LNS 1819 held that a “back to back” clause is a “conditional payment provision” provided under Section 35 of CIPAA 2012.

The subcontract entered between the Plaintiff and Defendant in this case contained the following clause:

“The Sub-Contract Sum shall be paid to the Sub-Contractor on the basis of back-to-back payment, as and when received by the Contractor from the Client. Unless a special arrangement is made, the Employer shall not be liable to pay the Sub-Contractor in the event that no corresponding payment is paid by the Client.”

The High Court found the said clause to be a “conditional payment provision” as provided in Section 35 of CIPAA 2012 and is therefore void.

(B) Termination and Final Accounts

In the case of Maju Holdings Sdn Bhd v Spring Energy Sdn Bhd and other cases [2021] MLJU 541; [2021] CLJU 367; [2021] 1 LNS 367 the High Court held that the contractual clause in the subcontract which provided that, payment to the subcontractor shall be withheld upon the termination of the subcontract until the final accounts have been determined, is a conditional payment provision which runs afoul of Section 35 of CIPAA 2012.

The High Court in the case of Econpile (M) Sdn Bhd v IRDK Ventures Sdn Bhd and another case [2017] 7 MLJ 732; [2016] 5 CLJ 882 held that Clause 25.4(d) of the industry-based standard form PAM Contract 2006 is a conditional payment provision which is prohibited under Section 35 of CIPAA 2012.

Clause 25.4(d) of the PAM Contract 2006 provides as follows:

“25.4(d) the Contractor shall allow or pay to the Employer all cost incurred to complete the Works including all loss and/or expense suffered by the Employer. 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. Upon completion of the Works, an account taking into consideration the value of works carried out by the Contractor and all cost incurred by the Employer to complete the Works including loss and/or expense suffered by the Employer shall be incorporated in a final account prepared in accordance with Clause 25.6.”

The High Court held that Clause 25.4(d) has the effect, upon the termination of the contract, of postponing payment due until the final accounts are concluded and the works completed. This clause defeats the purpose of the CIPAA 2012 and is thus void and unenforceable.

(C) “Pay If Certified”

The Court of Appeal in the case of Lion Pacific Sdn Bhd v Pestech Technology Sdn Bhd and another appeal [2022] 6 MLJ 967; [2022] 9 CLJ 488 clarified and ruled that “pay-if-certified” provisions cannot be construed as a conditional payment clause under Section 35 of CIPAA.

In 2013, the Government of Malaysia accepted a tender submitted by a consortium for a construction project. The appellant was appointed as a subcontractor for the system works package parcel for the project.

The appellant then appointed the respondent as a subcontractor by way of a subcontract. The subcontract in this case contained a clause whereby certification by the Ministry of Transportation (“MOT”) is required prior to any payment to the respondent. Particularly, Clause 4.1 of the subcontract provides that:

“Verification and approval by ICC-MOT 15th – 24th every month. Payment to Sub-Contractor 40 days after certification by MOT”

The Court of Appeal held that:

• The “pay-if-certified” provision in Clause 4.1 of the subcontract cannot be construed as a conditional payment clause under Section 35 of CIPAA 2012, as the mutual agreement of the parties was that the appellant’s obligation to make payment would only arise upon certification of the works done by the MOT, failing which the works cannot be considered as having been carried out.
• Notwithstanding the objective of CIPAA 2012 to facilitate prompt payment, the contractual obligations of the parties expressly agreed upon cannot be disregarded.
• Whilst CIPAA 2012 was intended to alleviate cash flow problems of contractors and prohibited conditional payments, it was clearly not intended to replace the certification or valuation to assess the progress of works carried out by the relevant authority for payment to be affected.

About the authors

Rohan Arasoo Jeyabalah
Partner
Corporate Disputes, Employment & Industrial Relations
Harold & Lam Partnership
rohan@hlplawyers.com

Chew Jin Heng
Associate
Dispute Resolution
Halim Hong & Quek
jhchew@hhq.com.my