California legislation capping retention on private construction contracts took effect on January 1, ushering in a change intended to minimize the risk faced by industry contractors. The legislation, which Governor Gavin Newsom signed into law in July, caps retention withholding at 5 percent and implements one of the most significant changes to the state’s construction payment rules in recent years.
Historically, owners and developers have withheld up to 10% of payments from construction contractors, keeping the remaining portion until the project is finished. This practice can create cashflow problems for a wide range of contractors, from roofers, to welders to pavers as these professionals are forced to shoulder the burden of materials, payroll and other expenses while waiting for their full payment.
The new retention cap flows down through every subcontracting tier and cannot be waived, even if both parties agree. The law reshapes how money moves through projects in an industry where tight margins are the norm.
"The excessive withholding of payments force both contractors and subcontractors—many of them small businesses or firms with limited working capital—to rely on expensive credit lines to bridge payroll, materials, and operational costs,” an advocate for the California Builders Alliance, which championed the legislation, said in a statement after the legislation was signed into law. “By lowering retention to 5%, our businesses can better maintain liquidity, meet payroll, fund materials, and invest in future projects without resorting to costly credit lines."
What the Law Actually Does
Implements a 5% cap on progress payments. Retention withheld from any single progress payment—whether by an owner from a general contractor, by a GC from a subcontractor, or by a sub from another sub—cannot exceed 5% of that payment.
Enforces a 5% cap on total retention. Total retention held over the life of a contract cannot exceed 5% of the total contract price, regardless of how many progress payments are made.
The law includes several exceptions, including an exemption for residential projects, unless the building is mixed-used or more than four storeys. Contracts executed before January 1, 2026 are grandfathered, though O'Melveny attorneys note that "task orders or subsequent agreements made between owners, contractors, or subcontractors made after January 1st will be subject to SB 61's requirements."
Industry Groups Cheer the Change
The law followed years of advocacy from contractor associations who argued that excessive retention forced small businesses to effectively finance projects for owners.
"SB 61 is a long-overdue fix to a harmful practice that has placed enormous financial strain on contractors for decades," Eddie Bernacchi, Legislative Advocate for the National Electrical Contractors Association (NECA), said in July. "By reducing from 10 percent to 5 percent retention, the bill creates a more equitable and stable business environment, particularly for small and emerging contractors."
Senator Dave Cortese, who authored the bill, framed it as leveling the playing field: "What this law will do is enable small business owners, minority contractors and subcontractors working on private projects, to keep the cash flowing for materials used and labor performed just as if the private project was a public works project."
What The Bill Means for AR/AP Operations
The new law doesn't just affect project finances: it forces changes to how business owners and contractors manage their books.
"Owners and contractors must develop strategies for compliance by aligning retention language and procedures across payment tiers,” attorneys at Sheppard Mullin noted while discussing the implications of the legislation. “That means updating contract templates, reconfiguring billing workflows, and ensuring that retention percentages flow down consistently through every subcontractor agreement.”
For accounts receivable teams, the change accelerates when invoiced work converts to collectible cash. The dynamic between AR and AP determines working capital—and when retention drops from 10% to 5%, subcontractors see receivables convert faster without changing their actual collection efforts. On the payables side, general contractors managing multiple subs will need tighter tracking systems to ensure retention withheld at each tier stays within legal limits.
But overall, lawyers and trade groups agree, the legislation will improve the cashflow for businesses with notoriously tight margins.
Need help understanding how AR and AP practices affect your company’s cashflow? Check out Nickel’s guide.
Payment Changes Are Sweeping the Country
The law arrives as construction payment delays remain a persistent industry problem. Reports have found that over 80 percent of contractors wait more than 30 days to get paid, creating serious cashflow problems.
But state legislators are recognizing the problem caused by slow payments and high retention. More than 20 states have now signed laws capping retention at 5 percent for private construction projects.
But the change also reshapes project risk in ways that extend beyond cash flow.
"The key takeaway is that this new law does not eliminate financial risk—it redistributes it,” Allison B. Etki, a partner at Akerman, observed. “With less retention available, owners and developers may look to adjust project controls through enhanced performance monitoring, tightened milestone-based payment schedules, and a reassessment of prequalification and bonding requirements."
