How to Prepare for 5% Retention in California Construction Contracts

With Governor Newsom’s signature to Senate Bill No. 61 on July 14, 2025, California joined a growing number of states that have passed legislation to cap the amount of retention that owners, contractors, and subcontractors can withhold on private construction projects. Although retention for public projects has long been limited to 5% in California, there is currently no statutory limit on retention for private projects (though parties commonly agree on 10%).

Starting January 1, 2026, California Civil Code Section 8811 (the new section of the California Civil Code introduced by Senate Bill No. 61) will require the following for all private construction projects:

5% Cap on Retention

• The maximum amount of retention that owners, contractors, and subcontractors can withhold from progress payments will be 5%.
• This 5% cap will apply to retention withheld by:
  • an owner from a direct contractor (i.e., the general contractor)
  • a direct contractor from a subcontractor
  • a subcontractor from a lower-tiered subcontractor

So, essentially, this 5% retention cap flows all the way down from the owner to the lower-tiered subcontractors.

• Any negotiated retention below the 5% cap between an owner and direct contractor must also flow down to the direct contractor and subcontractors, and from first-tier subcontractors to lower-tiered subcontractors.
• The total amount of retention withheld cannot exceed 5% of the project's contract price.

Prevailing Party Attorneys’ Fees for Enforcement

• Any violations of California Civil Code Section 8811 will include a mandatory award of reasonable attorneys’ fees for the prevailing party.

The new law is not waivable: Section 8811 is part of Article 2, Chapter 8 of the California Civil Code (California’s prompt payment requirements), which means that, pursuant to California Civil Code Section 8820, it will be “against public policy to waive the provisions [of Section 8811] by contract.”

Although owners, contractors, and subcontractors will not able to contract around this 5% cap, there are two exceptions:

Exception No. 1 – Payment and Performance Bonds (Cal. Civil Code § 8811(b)(2))

• The 5% cap on retention does not apply if a direct contractor or subcontractor provides written notice to a subcontractor (before or at the time a bid is requested) that performance and payment bonds are required for the project, and the subcontractor fails to furnish such bonds from an admitted surety.
• Payment and performance bonds are not as common on private construction projects, as compared to public construction projects. Curiously though, this exception does not seem to apply when the owner requires bonds from the direct contractor, but the direct contractor fails to furnish them. Given that, it's possible that direct contractors could invoke this exception in some way, even when owners cannot.

Exception No. 2 – Residential Projects (Cal. Civil Code § 8811(b)(3))

• The 5% cap on retention does not apply to residential projects, unless the residential project is mixed-use, or five stories or more.
• After untangling the triple negatives in the text, this exception appears straightforward, but there are a couple points worth noting:
  • The term “residential” is not defined in California Civil Code 8811. Despite the lack of a definition, it is likely that California courts will interpret “residential” broadly, and include condominiums, multifamily, single-family homes, and ADUs.
  • “Mixed-use” is also not defined in Section 8811. Though there are obvious examples of mixed-use projects (e.g., a condominium building with restaurants or offices on the first floor), some projects may blur lines. For example, would a condominium project that plans to occasionally open its fitness services or pool to the public be enough to categorize the entire project as mixed-use?

Additional Considerations

As with any new legislation, it is important for parties to prepare for the transition to the new statutory requirements. Below are two items that owners should consider:

Construction Agreements Executed Before January 1, 2026

It is common to have a construction contract cover both preconstruction and construction phases of a project. If an owner and direct contractor enter into a construction contract that covers both preconstruction and construction phases of the project in the fall of 2025, but the buyout for the construction phase won't occur until January 1, 2026 or later, are the parties required to include a 5% retention cap in their contract even though it is entered into before January 1, 2026?

Based on the text of Section 8811, the answer is “no,” as the statute only applies to contracts “entered into on or after January 1, 2026.” Nevertheless, owner-direct contractor agreements entered into before January 1, 2026, may still lead to direct contractor‑subcontractor agreements entered into after January 1, 2026, essentially splitting the application of Section 8811. Owners should anticipate negotiating this point with direct contractors as they enter into construction agreements in the remaining months of 2025.

Governing Agreements Executed Before January 1, 2026

When owners and contractors use “governing” (or “master”) agreements for private construction projects, terms and conditions are set out in the governing agreement, and the project-specific information (i.e., the price, scope, and schedule for the project) is captured in a task order issued under the governing agreement, which is effectively an amendment to the governing agreement. 

Does Section 8811 apply to post-January 1, 2026 task orders, issued under pre-January 1, 2026 governing agreements? We don't think so, as the “contract” (i.e., the governing agreement) was “entered into” before January 1, 2026. This position is further supported when we compare Section 8811's reference to only “contract[s] entered into on or after January 1, 2026” (emphasis added) with, for example, California Civil Code 2782(d) (concerning indemnity in residential construction agreements), which applies to “all construction contracts, and amendments thereto, entered into on or after January 1, 2009” (emphasis added). Despite this, owners should expect to see this issue raised by direct contractors and establish their positions in advance, as subcontractors performing work on post-January 1, 2026 task orders will likely be entitled to the 5% limitation (as those direct contractor‑subcontractor contracts are likely to be entered into after January 1, 2026).

Conclusion

The passage of Section 8811 marks a new era for private construction projects in California, and owners (as well as the parties financing projects) should start preparing for its impact. The attorneys in our construction practice group are well versed in contracting strategies to assist owners as they navigate this transition.