Direct claim one link up in contracting chain: lawmakers know best, right?

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Andreas Hyungrae Noh
Hyundai Engineering & Construction, Seoul


National laws in effect in many countries grant an entitlement for subcontractors that allow direct claims against employers in exceptional cases (normally applicable to any level of the supply chain). However the language of these laws is drawn up, usually unequivocal and decisive, their application in reality seems larger-than-life, if not idealistic. This article illustrates and considers a typical case, followed by a discussion of the rules and practices of the Middle East and South Korea, as well as briefly considering some other jurisdictions. The article aims to answer the following question: are these laws emblematic of lawmakers’ intervention gone wrong?



The following illustration is the bare bones of a real case. Communications are quoted sic erat scriptum to the extent possible, mainly to recreate the subtle nuances, while emphasis is added for the purposes of discussion with the use of italics.

A main contractor (‘M’) entered into a subcontract with a subcontractor (‘S’) for a specified scope of work, which in turn was partially carried out by a sub-subcontractor (‘S2’).

During the course of execution of the works, M and S agreed to an early termination of the subcontract and the final balance was calculated as $1m. At this juncture, the amount in arrears owed by S to S2 was in excess of $1m.

On 1 May 2020, S sent a letter to M instructing, ‘We request you to release our payment of $1m to S2, as we need to pay our S2 for design and materials. We are expecting your kind consideration in this regard and cooperation.’

On 1 June 2020, M replied to S2, ‘As we are aware, remaining payment to S from M is not covering the amount which S2 should receive from S. In case you confirm that S and S2 agreed payment for balance, we will release accordingly.’ The same day S2 answered M, ‘Regarding the remaining amount, we have not yet settled an agreement with S. We are in regular discussions with them. Could you please confirm we can submit our invoice for $1m to your department?’

The following day, M responded, ‘Please note that “regular” discussion is not enough. We can release when you and S finally confirm payment of the remaining amount. This is in order to avoid any dispute between three parties. To avoid any confusion, M can pay $1m to S2 after receiving a letter saying that S2 shall settle the remaining with S, and S2 shall not request any further payment to M.’ S2 immediately sent a ‘discharge letter’ to M stating that ‘S2 is solely responsible for recovering the remaining amount in excess of $1m.’

On 10 June 2020, M responded ‘You will be paid the certified amount $1m.

From 10 June 2020 onward, actual payment was withheld because M and S2 conducted an inventory check of the items that were required to be handed over from S2 to a newly engaged supplier. But on numerous occasions M reaffirmed its intent to pay S2 the amount of $1m as soon as the outstanding issues were cleared.

On 1 October 2020, S notified M, ‘We hereby cancel our previous letter dated 1 May 2020. S and S2 have decided to settle our disputes in court. Sorry for the inconvenience caused.’

From 1 May 2020 to 1 October 2020, S was unreachable for reasons unknown to M. Subsequently, both S and S2 are demanding that the payment be made to them. Now, must M pay S2 at its peril?

Common features

Skirmishes on subcontracts are pushed back by triage. It is nonetheless important that subcontract disputes are considered. Disputes of this kind more often than not end in proverbial ‘global settlements’ after trench warfare, which, contrary to urban myth, usually extracts a heavier toll on M, who in turn pads his losses onto the employer.

There are several ways to frame how an obligation vis-à-vis another contracting party is somehow transferred, or duplicated to a non-contracting party.

The biggest problem is that these never slot themselves neatly into a single legal concept. S2s rarely invoke their statutory entitlements right out of the gate. Initial conversations are riddled with self-conflicting revocations and counter-offers, and even when there is an identifiable offer and acceptance, they are peppered with provisos, conditions and caveats. There are several ways to frame how an obligation vis-à-vis another contracting party is somehow transferred or duplicated to a non-contracting party. Is S’s benefit assigned to S2? Is M merely committing to perform vicariously? Is a tripartite settlement established? The discussions among the three parties will have ventured inadvertently in and around these legal concepts before they derail, although not in precise terms of art.

Lastly, my scope of interest, unlike most literature on this topic, leans more towards preserving M’s options than safeguarding cash flow for S2. Not one of the cases that sparked my enthusiasm to pen this article involved an insolvent or mala fide main contractor, but rather a confused one.


The Qatari S2s that I have come across all invoked Article 702 of Law No 22/2004 (the Civil Code), the relevant part of which translates as follows:

‘The subcontractor and the workers working for the original contractor for carrying out the work shall have the right to claim directly from the employer the payment of not more than the amount for which he is indebted to the original contractor from the time of initiating the action.’

Understandably, M is considered an ‘employer’ within the meaning of Article 702, in relation to S and S2. Having said that, a few points stood out from the local counsel’s opinion.

Firstly, the timing when M’s direct liability is established. M’s outside counsel suggested that the date a lawsuit is filed is when M’s obligation to S2 is made due and payable. In effect, upon the complaint being filed M’s position would closely resemble that of an insurer or an issuer of an on-demand guarantee.

Secondly, there were no additional requirements for this liability. No pre-conditions, time-bars, thresholds or other eligibility standards existed.

However, these are not the crux of this article nor do I wish to delve into the academic limbo of searching for legal basis of these laws. I am willing to concede that this direct liability scheme is not supposed to be reconciled with the principles of contract law as we know it (brace yourself for the South Korean law below). The real question Article 702 leaves unanswered is, ‘So, what happens next?’

The Qatari law firm with whom I consulted examined that M should ‘cease’ or ‘refrain from’ making payments to S, but only out of precaution, not by the operation of law. It mentioned that the court may order M to deposit the ‘ceased money’ into the court’s escrow account until judgment is made on the merits, as a way for S2 to enforce money judgment under Article 445 of Law No 13/1990 (Civil and Commercial Procedures). In a vacuum of clear authority, the law firm’s suggestion was to hold off any payment to either S or S2. Alternatively, it proposed that M pay S against an independent on-demand guarantee stating M as the beneficiary to cover any loss resulting from potential double payment. The primary approach of ‘wait-and-see’ did not seem to serve Article 702’s intended purpose, while seeking to obtain a new bond or extending an existing one seemed out of touch with the reality.

As of September 2015, I was told that there were no cases decided by the Qatari Court of Cassation, to be referred to on this matter, nor at Egyptian Court of cassation.


Under similar facts, a Kuwaiti S2 invoked paragraph 1 of Article 682 of Law No 67/1980 (Kuwaiti Civil Code), the unofficial English version of which reads:

‘The subcontractor and workmen working for the principal contractor in the execution of a contract have a direct right of action against the master, but only to an extent of such sums in portion to the amount of sums due by the master to the principal contractor on the date of filing such action.’

Another unofficial translation reads:

‘The subcontractor and labourers working for the original contractor in the execution of work, may directly request their dues vis-à-vis the original contractor from the employer within the amount due to the original contractor from the employer at the time of bringing the action.’

The Kuwaiti law firm’s interpretation as to when the direct liability becomes due and payable under Article 682 was in contrast to that of its Qatari counterpart. The entitlement under Article 682 is a right to initiate legal action, not a money debt per se. It opined that M would not be obliged to pay S2 unless and until an action is filed by them relying on Article 682 and a final/enforceable judgment is issued directing M to pay S2.

Both Qatari and Kuwaiti law firms were on the same wavelength, stating that M should ‘refrain from’ or ‘cease’ paying S, or ‘retain the amount demanded by S2 pending resolution of the matter irrespective of whether the [S2]’s claim is substantiatedeven before a legal action has yet been filed and only a notice of intent has been communicated. Let me rephrase this proposition: ‘Stop performing your contractual obligation, when a non-contracting third party demands otherwise.’ In fact our Kuwaiti lawyers were fully aware that Article 682 was a gateway to nowhere. They suspected that multiple S2s would launch lawsuits against M like sharks in the water, which turned out to be only half-true. Things compound exponentially at level two. M did not have just ‘multiple’ S2s, it had spreadsheets of second tier specialists subbed out by that particular S. They also rightfully examined that M will have difficulty substantiating any defence that was contractually available to S, obviously because M does not have specific details at its disposal. They drove a nail in the coffin by prognosticating an average of two to four years of proceeding at first instances.

None of the law firms framed these statutory regimes as effecting an assignment that transfers benefits from S to S2 by operation of law. Interestingly enough, one lawyer did mention that Article 682 of the Kuwaiti Civil Code ‘does not create any personal liability’. This description sounded very similar to ‘vicarious performance’, but whether or not such language was used as a term of art remains unclear.1

A brief interlude, going back to the original question before hopping a continent. Should M pay S2? In both of these countries, supposedly the answer is ‘No. Wait until the lawsuits are over.’ By this point I was baffled, because in South Korea the position is comparatively clear.

South Korea

The 1999 amendment to the Fair Transaction in Subcontracting Act also resolved to pump cash directly to the subcontractors under duress. The provisions currently in effect reads at Article 14:

(1) Where a ground falling under any of the following subparagraphs occurs, the person placing an order [‘employer’ or ‘owner’] shall pay the subcontract consideration corresponding to the completed portion of manufacturing, repair, construction, or service performance directly to the subcontractor:

1. When the subcontractor has requested direct payment […] because the prime contractor’s payment has been suspended, the prime contractor is bankrupt, or other similar reasons exist;

2. When agreement has been made among the person placing an order, prime contractor, and subcontractor that the person placing an order shall pay the subcontract consideration directly to the subcontractor;

3. When the subcontractor has requested direct payment […] where the prime contractor has failed to pay […] two or more instalments […];

(2) Where a ground prescribed in paragraph (1) occurs, the obligation of the person placing an order to pay consideration to the prime contractor and the obligation of the prime contractor to pay the subcontract consideration to the subcontract shall be deemed to have extinguished within such limit.’2

Here, a readily noticeable distinction is sub-article (2). Whether the lawmakers’ intention was to streamline the interlocked rights and obligations, or to throw a nugatory remedy out the window is unclear (the parliamentary minutes and records are silent on this issue), the courts have been consistent over the years: the existing chain of liabilities are discharged and substituted by a new one when any one of the listed events occur. The law was not designed to grant cumulative remedies for S2s. In effect, S2 is compelled to weigh the risks and elect quickly.

the courts have been consistent over the years: the existing chain of liabilities are discharged and substituted by a new one when any one of the listed events occur

Another recognisable difference is that under South Korean law this protection is a self-help remedy. A simple notice of intent suffices as opposed to bringing actions in a court of law.

Does the South Korean regime provide a more expedient and accessible remedy for the subcontractors? Conversely, it would be surprising to see any level-headed M make payment to S2 even when Article 14 is clearly applicable. I certainly would advise against it, except for exceptionally prima facie cases. Let’s step one layer down to reality.

As a matter of practicality, for the purpose of this discussion Article 14 of the Fair Transaction in Subcontracting Act has to be read in conjunction with Article 487 of the Civil Act. Article 487 reads:

‘If the obligee refuses to accept performance or is unable to accept it, the person effecting performance may relieve himself of his obligation by depositing the subject matter of performance for the obligee. The same shall apply where the obligee cannot be ascertained without any negligence on the part of the person effecting performance.’3

Under South Korean law, the debtor can easily be discharged of his obligation by depositing in court the money or goods due. To some degree rooted in the Roman law concept of mora creditoris, and transposed also to Article 7:111 of the Principles of European Contract Law, this allows a debtor to deposit money as a general substitute of the original performance.4

Having regard to the above, why would M say that the payee ‘cannot be ascertained’ when a mandatory provision in unequivocal terms has designated S2 as the lawful payee? There are two main reasons.

Firstly, the notion of channelling payments is rarely that easy. One distinguished commentator opined that the interests of M and S2 ‘in the making and receiving of direct payment most often coincide’,5 but with all due respect this statement is more complicated. In essence, there can never be an exact flow-down of monetary payments within a supply chain, even if the scopes of work are a gradual subset of one another. When toying with this idea, we are inclined to visualise this contractual structure as pneumatic cash tubes linked to one another. It seems straightforward and sensible to simplify the payment process and deduct the same amount accordingly from a corresponding account. But it is not long before contract managers realise that this involves more than dollar-to-dollar comparisons. The amounts due to S from M may arise out of a single progress payment, while those due to S2 from S may be composed of differing causes: a progress payment that overlaps with the same activity, a progress payment that does not overlap but is long overdue, an uncontested indemnity claim for a different cause, an inflated overhead expense earmarked for a specific period of time, and so on.

In essence, there can never be an exact flow-down of monetary payments within a supply chain, even if the scopes of work are a gradual subset of one another

To which of these sub-components is the direct payment appropriated to? Even if the basis of the claims are completely identical, the terms and conditions relating to those payments differ with each contract and those debts are thereby attached with different defences. S2 may have failed to maintain an agreed number of certified welders on site, a term not specified in a contract between M and S. A joint walk around the site may reveal a considerable discrepancy between the actual progress and the previous invoices. What if S2 is not releasing the goods at its prefabrication shop? Is any party willing to forego
its defences? Was this interlocking ‘settlement and release’ ever communicated in any way? Soon enough companies realise that they are dealing with fluctuating numbers and incompatible sets of rights and obligations, but by then, in all likelihood, someone is bound to have made a legally binding promise that does not synchronise with Article 14. Therefore, on paper and in principle their interests should coincide – and if the stars align they would – but if there is one industry where we can ‘wish upon the stars’, it is not construction.

Secondly, as previously mentioned, these parties are not alone in a petri dish. By this time, a deluge of injunctions or preliminary injunctions may have been issued restraining S from liquidating, assigning or otherwise disposing of its assets, inter alia, the receivables against M (although the particular illustration above did not involve S’s insolvency). The same receivable that Article 14 ever so ambitiously thrown out the window. The movants may include other second-tier subcontractors, lenders, or governments and local authorities enjoying priority over secured creditors.

Therefore what happens in reality is that M faces catch 22 where it either becomes reluctant to pay or cannot pay S2 directly, even in the face of the unambiguous language of Article 14. This is even so although Article 25.3 of the Act fines up to double the amount directly claimed if M breaches Article 14.

In South Korea, eventually M usually ends up depositing what is owed to S in court, designating the beneficiary as ‘S2 or others’. I prefaced this section partly in jest by saying that this matter is an open-and-shut case in South Korea. This was because depositing may not necessarily be the correct answer, but in most situations it is the least worst option. S2 will eventually have to go through a series of actions and motions, hampered by rounds of injunctive reliefs, around and over attempts lodged from a long queue of creditors piggybacking on proceedings commenced by S2 to set aside or vary distribution orders, before it can actually collect money from the fund deposited.

Remember how the Qatari and Kuwaiti lawyers advised me just to withhold payment until the dust settles in the courts? Same mess in the end, albeit different twist and turns in the middle.

Other countries

As for payer-oriented mechanisms, the rule of depositing money as a mode of discharging obligations never fused into the common law. Nonetheless, the need for a payer to have a proactive measure to avoid project disruptions is not unusual, as most recently discussed by the Commercial Court in England.6 Direct payment provisions in standard forms that allow employers to pay nominated subcontractors directly under certain circumstances7 are sometimes described as a protection for the subcontractors. But in reality this offers more protection for the employers than subcontractors, because by relying on these provisions the employers can keep the project afloat when the subcontractors threaten to suspend the works and withdraw from the site.

Lawyers from Maryland, New Jersey and the District of Columbia all suggested the creation of an escrow, without detailing how the fund could effectively be ring-fenced in relation to the rules against preference under insolvency laws.

As for payee-friendly mechanisms, France’s prototypical Law on Subcontracting, which embodies both ‘direct payment’ for public contracts and ‘direct action’ for private contracts, and is widely considered the benchmark.8 Payment guarantee is another way of securing cash flow for subcontractors and suppliers, and is compulsory in some sectors.9 In the UK, where the rule of privity stands firm, project bank accounts (PBAs) have been introduced and a Construction Supply Chain Payment Charter is being promoted as a commercial alternative. Builder’s lien or mechanic’s lien in the US or Canada appear to be more effective than the South Korean law analogues. Queensland has also recently enacted sweeping legislation that captures both PBAs and subcontractors’ charges, aka direct claims.10 Looking back at the Middle East, it is dangerous to lump Gulf countries altogether. It is reported that Bahrain, Kuwait and Qatar share a similar position, while UAE and Oman do not.11

Comparative analysis of these major regimes invoke intellectual fascination, but I will ultimately have to defer to other practitioners in these jurisdictions for in-depth observations on their actual applications.

Key takeaways

Countries are struggling to find a not-so-delicate balance between ‘robbing Peter to pay Paul’ on one hand, and ‘Mexican standoffs’ on the other. If a narrow interpretation of the national laws is maintained as a hyper-aggressive version of ‘pay now, argue later’, the payer will ultimately have to recover the overpaid amount from the payee or someone else.12 If not, these laws are limp solutions at best. At any rate, most of these systems are shoehorned somewhat awkwardly between the existing areas of substantive and procedural laws – contract laws, insolvency laws and freezing injunctions.

To revisit the illustration above, what is a practical guideline for contract managers in M’s situation?

Firstly, be careful not to make any commitment. Note how many times in the illustration above M inadvertently made misleading signals throughout the course of correspondence (vice versa, indeed). Paying directly seems innocuous because channelling monies makes commercial sense, but resist the natural impulse and your force of habit to cooperate with other parties. Remember that any request or attempt to change the identity of the payee is in principle a variation, and unless the contract specifically confers a party with a unilateral power of variation, you are not obliged to follow it. Barry J was brutally forthright in commenting:

‘[t]he debtor is not bound to accept the transferor’s instructions, nor is he bound to make any promise of payment to the transferee. If he does promise, he has only himself to blame […] if he misapprehend his legal position, I am afraid he has again only himself to blame.’13

Secondly, do not engage in a tripartite discussion unless you are confident you have a firm grasp of the whole picture. This may be arguable and also counter-intuitive in a sense that we love to carbon copy any party remotely involved in the dispute, especially when the mood is amicable. However, you have more chance of interpreting your way out of making binding commitments if conversations are sliced and diced. Plaster the usual tricks in the bag until the very end: ‘subject to formal contract’, ‘conditional upon’, ‘if and only if’, etc.

While one cannot override the mandatory provisions of governing laws, complying with these simple pointers will save you from another layer of complication being mapped onto already confusing national frameworks.



1 The law firms referenced are internationally recognised at least in the business circles active in the Middle East and North Africa, and their legal opinions were professionally drawn up under proper engagements.

2 The official English version. For the full translation, see https://elaw.klri.re.kr/kor_service/lawView.do?hseq=50849&lang=ENG accessed 27 January 2021.

3 The official English version. For the full translation, see https://elaw.klri.re.kr/kor_service/lawView.do?hseq=45912&lang=ENG accessed 27 January 2021.

4 Antoni Vaquer, ‘Tender of Performance, Mora Creditoris and the (Common?) Principles of European Contract Law’ (2002) 17 Tulane European & Civil Law Forum 83, 89.

5 Michael Grose, Construction Law in the United Arab Emirates and the Gulf (1st edn, Wiley Blackwell 2016), p 197.

Nobiskrug GmbH v Valla Yachts Ltd[2019] EWHC 1219 (Comm).

7 Clause 35.13.5 of JCT Standard Form of Building Contract (1998 Edition); Sub-clause 4.5.3 of FIDIC Conditions of Contracts for EPC/Turnkey Projects (Silver) 2017.

8 Law No 75-1334, 31 December 1975 (Code du Travail).

9 For example, 40 U S C subsections 3131–4 (the ‘Miller Act’).

10 Building Industry Fairness (Security of Payment) Act 2017.

11 Michael Grose, Construction Law in the United Arab Emirates and the Gulf (1st edn, Wiley Blackwell 2016), p 198.

12 As observed in Nobiskrug GmbH v Valla Yachts Ltd.

13 Shamia v Joory[1958] 1 All ER 111, 115.


Andreas Hyungrae Noh is a legal counsel of Hyundai Engineering and Construction in Seoul, South Korea and can be contacted at andreasnoh@hdec.co.kr.


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