Retainage in Government Construction Contracts: Complete Guide 2025

Introduction

Retainage—also known as retention—is a percentage of each progress payment withheld by the owner until project completion. While retainage protects owners against incomplete or defective work, it can significantly impact contractor cash flow and profitability.

Government construction contracts typically include retainage provisions, but the rules vary between federal, state, and local jurisdictions. Understanding these requirements helps contractors manage cash flow and ensure timely release of retained funds.

This guide covers retainage requirements for government construction, including federal FAR provisions, state variations, release procedures, and strategies for managing retention's impact on your business.

Retainage Quick Facts

Typical Rate: 5-10% of each progress payment
Federal Limit: Generally 10% maximum, can reduce to 0%
Release Trigger: Substantial completion or final acceptance
Purpose: Ensure contractor completes all work satisfactorily
Cash Flow Impact: Can represent significant working capital

What is Retainage?

Retainage is a portion of the contract price withheld from progress payments and held by the owner as security for project completion. This practice gives owners leverage to ensure contractors complete punch list items, correct deficiencies, and fulfill all contract obligations.

How Retainage Works

Example Calculation

For a $1,000,000 contract with 10% retainage:

Monthly progress payment earned: $100,000
Retainage withheld (10%): $10,000
Payment received: $90,000
At 50% completion: $50,000 retained
At 100% completion: $100,000 retained (released upon final acceptance)

Purpose of Retainage

Incentivize timely project completion
Ensure correction of deficient work
Provide security for punch list completion
Protect against contractor abandonment
Cover costs if contractor fails to complete

Retainage vs. Other Withholdings

Type	Purpose	Release
Retainage	Completion security	Final acceptance
Liquidated Damages	Schedule delays	May be permanent deduction
Backcharges	Correct deficiencies	Varies by situation

Federal Retainage Rules

Federal Acquisition Regulation (FAR) governs retainage on federal construction contracts. These rules limit retainage amounts and require consideration of early release.

FAR 52.232-5 Payments Under Fixed-Price Construction Contracts

Key provisions include:

Retainage shall not exceed 10% of progress payment
Agency may reduce retainage to less than 10%
Must consider eliminating retainage on contracts with performance bonds
May release retainage on substantially complete portions
Must pay retainage within 30 days of final acceptance

Reducing or Eliminating Retainage

Federal agencies are encouraged to reduce or eliminate retainage when:

Contractor has adequate performance bond
Contractor's performance is satisfactory
Work is proceeding on schedule
No significant quality issues exist

Retainage Release Milestones

Milestone	Retainage Action
50% Completion	May reduce retainage rate going forward
Substantial Completion	May release portion of retainage
Punch List Complete	May release additional retainage
Final Acceptance	Release remaining retainage

State Retainage Requirements

State laws on retainage vary significantly. Many states have enacted prompt payment and retainage statutes that limit retention amounts and require timely release.

Common State Retainage Limits

State	Maximum Retainage	Notable Rules
California	5%	Release within 60 days of completion
Texas	10%	Release within 30 days of completion
Florida	10% to 50%, 5% thereafter	Reduce to 5% at 50% completion
New York	5%	Interest on retainage may apply
Colorado	5%	Release within 45 days

Research Your State's Rules

Before bidding on state or local contracts, research the applicable retainage laws. Many states have reduced maximum rates in recent years and imposed prompt release requirements.

Retainage Release Process

Obtaining release of retainage requires meeting specific conditions and following proper procedures. Planning for release from project start helps avoid delays.

Conditions for Release

Substantial completion certified
Punch list items completed
Final inspection passed
All documentation submitted
Warranties and manuals delivered
Lien waivers obtained from subcontractors
Final payment application submitted

Documentation Required

Certificate of substantial completion
Final inspection report
As-built drawings
Operation and maintenance manuals
Warranty documents
Final lien waivers and releases
Consent of surety (if required)
Certified payroll (for prevailing wage projects)

Partial Retainage Release

Request early release of retainage for completed portions of work:

Identify separable building or work areas
Obtain substantial completion for that portion
Submit partial lien waivers
Request proportional retainage release

Subcontractor Retainage

Retainage flows down to subcontractors, but many states have specific rules protecting subcontractor retainage rights.

Flow-Down Requirements

Common state protections for subcontractors include:

Prime cannot retain more than owner retains from prime
Must release sub retainage within specified time after owner releases
Cannot condition release on matters unrelated to sub's work
Interest may apply on late release

Subcontractor Release Timeline

Typical requirements for releasing subcontractor retainage:

Within 7-30 days of receiving retainage from owner
Upon substantial completion of subcontractor's scope
Not conditioned on project completion if sub's work is complete

Subcontractor Protections

Payment Bond Claims

Subcontractors can file Miller Act claims against the payment bond for unpaid retainage. The claim period runs from when retainage becomes due, not from when work was performed.

Managing Retainage Impact

Retainage significantly impacts cash flow. Proactive management strategies help minimize the financial burden.

Cash Flow Planning

Factor retainage into project cash flow projections
Maintain adequate working capital or credit lines
Negotiate favorable retainage terms when possible
Request reduction after satisfactory progress
Plan for seasonal retainage accumulation across projects

Retainage Reduction Strategies

Negotiate lower initial retainage rate
Request reduction after 50% completion
Provide securities in lieu of cash retention
Seek early release for completed building sections
Maintain excellent performance to justify reduction

Alternatives to Cash Retainage

Alternative	Description	Benefit
Retainage Bond	Surety bond in lieu of retention	Preserves cash flow
Letter of Credit	Bank guarantee for retainage	Lower cost than cash
Escrow Account	Retainage held in interest-bearing account	Earns interest for contractor

Retainage Disputes

Disputes over retainage release are common. Understanding your rights and proper procedures helps resolve issues efficiently.

Common Dispute Issues

Delayed release after completion
Excessive deductions from retainage
Dispute over completion status
Withholding for unrelated issues
Flow-down disputes between prime and subs

Resolution Steps

Document completion and submit proper release request
Follow contract dispute procedures
Submit claim to contracting officer (federal)
Consider payment bond claim (subcontractors)
Pursue prompt payment remedies (interest, attorney fees)
Mediation or arbitration if available
Litigation as last resort

Prompt Payment Remedies

Many jurisdictions provide remedies for late retainage release:

Interest on late payments (often 1-2% per month)
Attorney fees in some jurisdictions
Statutory penalties
Ability to suspend work (some states)

Frequently Asked Questions

Can retainage be used to cover liquidated damages?

Generally yes. If liquidated damages apply for schedule delays, the owner can offset them against retainage. However, this should be properly documented and justified per contract terms.

Is retainage taxable income?

For accrual basis taxpayers, retainage is typically recognized as income when earned, not when received. For cash basis taxpayers, it's recognized when received. Consult your tax advisor for specific guidance based on your accounting method.

Can I charge interest on retainage to my subcontractors?

This depends on your subcontract terms and applicable state law. Some states prohibit practices that are more burdensome than the prime contract terms. Generally, you should pass through similar retainage terms you receive from the owner.

What if the owner never releases retainage?

You have legal remedies including contract claims, prompt payment act violations, and potentially bond claims. Document all completion requirements met and pursue through proper channels. The statute of limitations for claims typically starts from when payment was due.

Conclusion

Retainage is a standard practice in government construction that requires careful management. Understanding the applicable rules, planning for cash flow impacts, and following proper release procedures helps ensure you receive retained funds promptly.

Focus on maintaining excellent project performance to justify early reduction or release, document completion thoroughly, and understand your rights under applicable prompt payment laws. Proactive retainage management protects your cash flow and profitability.

Find Government Construction Opportunities

ConstructionBids.ai aggregates government construction opportunities across federal, state, and local agencies. Get alerts for projects matching your capabilities and understand contract terms before bidding.

Start Finding Opportunities →