Retention money is meant to protect the party paying for construction work. What almost nobody explains properly is how little protection it offers the party the money actually belongs to you, if the main contractor holding it becomes insolvent.
Every subcontractor with an unpaid retention balance sitting on their books should understand exactly where that money legally sits, because the honest answer often isn’t reassuring.
What Retention Money Actually Is
Retention is a percentage, typically between 2.5% and 5%, withheld from amounts otherwise due to you under a construction contract, as security against defects or incomplete work. It’s usually released in two stages, part at practical completion, and the remainder once the defects liability period ends, often six to twelve months later.
The idea is sound. The problem is what happens to that money in the meantime.
Where Your Retention Money Actually Sits
Here’s the part most contracts never make clear. Unless your specific contract sets up a formal trust arrangement, and most standard forms allow for one without requiring it, retention money is not held separately on your behalf. It simply becomes part of the paying party’s general cash. There’s no ring fence, no separate account, nothing stopping it being used to pay wages, suppliers, or anything else the business needs cash for.
Legally, what you actually hold is a contractual right to be paid at a future date. That’s a very different thing from having money genuinely set aside for you.
What Happens When a Main Contractor Becomes Insolvent
If the party holding your retention goes into administration or liquidation, your retention becomes an unsecured debt in that insolvency. You’d need to submit a claim to the administrator or liquidator, and then wait.
Unsecured creditors sit near the bottom of the payment order, behind secured lenders, behind the costs of the insolvency process itself, and behind certain preferential debts. In practice, this often means recovering a small fraction of what you’re owed, sometimes nothing at all.
This isn’t a rare, theoretical risk. Large main contractor collapses over the years have left subcontractors across the industry holding unpaid retentions with little realistic prospect of full recovery, and it remains one of the most frequently raised concerns by industry bodies representing specialist contractors.
Is There Any Real Protection Available?
A few genuine options exist, though none are universal or automatic.
Retention bonds Instead of actual cash being withheld, some contracts allow for a bond, a guarantee from a bank or insurer, to stand in its place. If the paying party becomes insolvent, a bond claim doesn’t depend on their solvency at all, it’s a direct claim against the bond provider.
Project bank accounts Increasingly used on larger and public sector contracts, a project bank account ring fences payments, including retention, in a trust account that subcontractors can access directly. This genuinely removes the insolvency risk, but it depends entirely on the contract being structured this way from the outset.
Proposed legislative reform There has been ongoing discussion and lobbying for a mandatory retention deposit scheme that would ring fence all retention money by law, rather than leaving it to individual contract terms. This has been debated in Parliament in various forms over recent years. As of now, it has not become law, retention protection still depends on what your specific contract says, not a general legal safeguard. It’s worth checking the current status of this reform periodically, since the position has been actively moving.
The Tax and Accounting Side Most Businesses Miss
This is where a construction specific accountant genuinely earns their fee, because the tax tconstruction-specific creates real, avoidable problems if it’s handled generically.
VAT and the retention tax point Many businesses issue one VAT invoice covering the full contract value, retention included, which means VAT becomes due on the whole amount immediately, even though the retention portion won’t be received for months. A separate retention invoice, raised only when the retention is actually paid or becomes due, defers the VAT point for that portion specifically. Getting this wrong creates an unnecessary cash flow cost, paying VAT to HMRC on money you haven’t collected yet.
Corporation Tax and revenue recognition Under normal accounting practice, retention income is typically recognised as revenue once the related work is certified, not when the cash actually arrives. This means you can end up paying Corporation Tax on retention income before you’ve received it, and if the paying party then becomes insolvent, you’re left having paid tax on money you’ll likely never see.
Reclaiming what you can If this happens, two things are worth pursuing properly rather than simply writing the loss off quietly. VAT already accounted for on an unpaid retention can generally be reclaimed as bad debt relief once the debt is old enough and genuinely irrecoverable. Separately, the unpaid retention itself can usually be written off against Corporation Tax as a bad debt, reducing your taxable profit to reflect the real loss. Missing either of these means paying tax twice, once on income you never received, and again by failing to claim the relief that offsets it.
CIS still applies When retention is eventually paid to a subcontractor, it remains subject to the same CIS deduction treatment as any other payment under the contract, this doesn’t change just because the payment is delayed.
Protecting Yourself Going Forward
- Push for a retention bond or project bank account wherever the contract size and leverage allow it
- Check the financial health of main contractors before signing, and keep monitoring it through the life of the contract, not just at the start
- Track retention debtors separately and clearly, not lumped into general debtors, so your actual exposure is always visible
- Make sure your VAT tax point on retention is genuinely deferred through proper invoicing, not accidentally triggered early
- Act quickly to claim VAT bad debt relief and write off irrecoverable retention for Corporation Tax the moment a loss becomes genuinely unrecoverable, rather than leaving it unresolved on the books
How Construction Tax Accountants Help
Retention risk isn’t just a commercial problem, it’s a tax and cash flow problem too, and most businesses only discover that once money has already been lost. Here’s how we help construction businesses manage it properly.
- We review your retention invoicing to make sure your VAT tax point is genuinely deferred, not accidentally triggered on the full contract value upfront
- We track retention debtors clearly within your accounts, so your real exposure to any single contractor is always visible, not buried in general debtors
- We identify when a retention has become genuinely irrecoverable and act promptly to claim VAT bad debt relief and the corresponding Corporation Tax deduction, so you’re not left paying tax on income you never received
- We review main contractor payment terms and retention arrangements before you sign, flagging where a bond or project bank account is worth pushing for
- We help you plan cash flow around retention timing properly, so a delayed release doesn’t become a surprise when it happens
Get in touch with Construction Tax Accountants to review your retention exposure properly, before a contractor’s insolvency turns a commercial risk into an unnecessary tax loss too.
FAQs
Is retention money legally protected in the UK?
Not automatically. Unless your specific contract sets up a trust arrangement or project bank account, retention money simply forms part of the paying party’s general funds, with no legal ring fence protecting it if they become insolvent.
What can I do if a main contractor holding my retention goes into administration?
You’ll generally need to submit a claim as an unsecured creditor to the administrator or liquidator. Recovery is often partial, sometimes minimal, so this should be pursued alongside reviewing your VAT and Corporation Tax position for the same loss.
Can I reclaim VAT on a retention I never received?
Yes, generally, once the debt is old enough and genuinely irrecoverable, you can claim VAT bad debt relief on the amount already accounted for.
Does CIS still apply to retention payments?
Yes. Retention paid to a subcontractor is subject to the same CIS deduction rules as any other payment under the contract, regardless of the delay in receiving it.
Should I always ask for a retention bond instead of cash retention?
It’s worth requesting on larger contracts where you have the leverage to negotiate it, since a bond removes the insolvency risk entirely. It isn’t always available or accepted, but it’s a genuinely stronger protection than standard cash retention.
