Can an owner deduct the cost of deficient work from the holdback in Ontario?

Generally, yes, within limits. An owner (or a payer further up the chain) who has a genuine, quantifiable claim for deficient work - work that wasn't done to the contract's standard and needs to be fixed or completed - can typically set off the reasonable cost of remedying that deficiency against amounts otherwise owed, including holdback, rather than being forced to release the full statutory holdback amount regardless of the quality of the work performed. This isn't unlimited, though: the set-off generally has to reflect an actual, reasonably estimated cost to fix a real deficiency, not simply be used as leverage or a blanket excuse to withhold payment.

Because holdback exists specifically to protect subcontractors and suppliers further down the chain, a set-off claimed against holdback can directly reduce what's available to satisfy their liens, which is one reason deficiency set-off claims are often disputed and scrutinized closely, including through the Construction Act's adjudication process for a fast interim ruling on the amount actually in dispute. If you're facing a deficiency set-off you believe is inflated or unjustified, documenting the actual state of the work and obtaining an independent assessment of the true cost to remedy it is usually the most effective response.