Holdback: Overview, definition, and example
What is a holdback?
A holdback is a portion of a payment that is temporarily withheld until certain conditions are met. Holdbacks are commonly used in contracts to ensure that one party fulfills its obligations before receiving full payment. This protects the paying party by providing leverage to ensure work is completed as agreed.
For example, in a construction contract, a client might hold back 10% of the payment until all work is inspected and approved.
Why is a holdback important?
A holdback helps manage risk in contracts by ensuring that payments are tied to performance or specific milestones. It is especially useful in transactions where quality, compliance, or final approval is critical.
For businesses, holdbacks provide financial protection by ensuring vendors, contractors, or service providers complete their work as agreed. For sellers or service providers, understanding holdback terms is essential to managing cash flow and avoiding unexpected delays in receiving full payment.
Understanding a holdback through an example
Imagine a business hires a software development firm to build a custom platform. The contract states that 20% of the total fee will be held back until the software passes final testing. This ensures that the developer delivers a working product before receiving full payment.
Similarly, in a business acquisition, a buyer may hold back part of the purchase price for a set period to cover potential liabilities, such as unresolved debts or legal claims. If no issues arise, the seller receives the remaining amount.
An example of a holdback clause
Here’s how a holdback clause might appear in a contract:
“Buyer shall withhold [X]% of the total payment as a holdback, to be released upon completion of all contractual obligations and final acceptance of the deliverables.”
Conclusion
A holdback is a contractual tool that helps ensure obligations are met before full payment is made. It protects businesses from non-performance and provides an incentive for the other party to fulfill their responsibilities. Understanding holdbacks helps both parties manage expectations, reduce financial risk, and ensure a fair transaction.
This article contains general legal information and does not contain legal advice. Cobrief is not a law firm or a substitute for an attorney or law firm. The law is complex and changes often. For legal advice, please ask a lawyer.