Retention refers to a portion of a contractor’s payment that is withheld by the client until the project reaches completion and satisfies agreed-upon quality standards. This amount typically ranges from 5% to 10% of the total contract value.
Retention acts as a financial safety net for the client, ensuring the contractor rectifies any defects during the Defects Liability Period (DLP)—usually a period of 6 to 12 months following project completion.
How Retention Payments Work
Retention is generally released in two stages:
- Stage 1: Practical Completion
When the project is finished and handed over, half of the retention money is released to the contractor.
- Stage 2: End of Defects Liability Period
The remaining 50% is released after the DLP, provided there are no outstanding defects or repairs.
This two-stage process protects clients while encouraging contractors to maintain high standards throughout the project lifecycle.
Why Retention is Important
Retention money exists for several key reasons:
- Ensures Work Meets Required Standards
Contractors remain motivated to deliver quality workmanship and complete punch-list items promptly. - Provides Financial Security
Clients are safeguarded in case a contractor fails to correct issues or leaves work unfinished. - Promotes Long-Term Accountability
The delayed release encourages ongoing attention to quality even after handover.
Retention can be tricky to manage, especially in multi-year projects or contracts spanning several financial periods. Without careful planning, businesses may encounter cash flow problems or even tax liabilities.
Here’s how to stay on top of it:
Best Practices for Retention Management
- Define Clear Retention Terms in Contracts
Make sure your construction contracts clearly state the retention percentage, release schedule, and any conditions for payment. Transparency prevents future disputes. - Consider Phased Retention Releases
For long-term or high-value projects, negotiate for staged releases to improve contractor cash flow and reduce financial strain.
- Account for Retention Correctly
Since retention income might be earned in one year and received in the next, proper accounting treatment is essential to prevent overstated income or unnecessary tax obligations.
- Stay Compliant with Local Laws
In some Australian states, legislation may require retention money to be held in trust accounts. Always ensure compliance with applicable regulations to avoid legal complications.
Retention money is a fundamental part of project delivery in the building and construction industry. Managed well, it protects clients, motivates contractors, and ensures high-quality outcomes. Managed poorly, it can erode profits and cause major accounting headaches.
Whether you’re a contractor or a project manager, getting retention right isn’t just good practice—it could mean the difference between profit and loss.
For a deeper understanding, check out this resource: Guide to Accounting for Retention Payment in the Building & Construction Industry – LINK Advisors
