UK: You Can Lead a Horse to Water…

Last Updated: 10 July 2002

Collateral warranties continue to play a significant role in construction projects despite recent legislation which means that they are no longer essential. Will a change of position by the JCT finally herald the beginning of the end of the warranty, and a change in practice by the industry?

The JCT has recently announced its acceptance of the recommendations of its own working party on third party rights. The working party has recommended that the provisions of the Contracts (Rights of Third Parties) Act 1999 should be included in the JCT98, WCD98 and IFC98 forms of building contract, as well as associated sub-contracts as an optional provision. Until now, the Act has been expressly excluded.

The Act, which has applied to all contracts entered into since May 2000, provides an exception to the basic legal doctrine of privity of contract i.e. that a contract cannot confer rights or impose obligations arising under it on any person other than the original contracting parties.

Under the Act, third parties can be identified by name, or as a member of a particular class such as "tenants" or "purchasers", and given the power to enforce a contact term in their own right.

The third parties who are given rights may then enforce these rights by means of all the usual contract law remedies such as injunctions, specific performance and damages for breach, and the contracting parties are free to agree the extent to which rights are granted and the limitations that will apply.

Although this mechanism already applies in other countries including the US, Australia and most member states of the EU, the Act has not so far been generally accepted by the UK construction industry. Indeed, the JCT issued Amendment 2 in January 2000 which excluded the effect of the Act from its standard form contracts. Similarly, the model architect’s appointment, SFA 99 and the ICE forms also exclude the provisions of the Act. Parties to a transaction have in almost all cases continued to negotiate collateral warranties as a means of providing third parties with rights in respect of construction projects. A number of factors have led to this approach:

  • Warranties are tried, tested and familiar and do not involve a learning curve. If the Act were to be generally adopted, then developers, contractors, consultants and their lawyers and insurers would need to change their approach. Initially this could have a time and cost consequence.
  • The beneficiary of a warranty has its own document whereas, if the Act were adopted, the beneficiary’s rights would be as provided for in the underlying appointment or building contract. The concern is that these rights are easier to identify and involve a less rigorous review if they are set out in a separate warranty.

However, anyone advising the beneficiary of a warranty should point out that it is only as good as the underlying appointment/ contract in any event. In other words, the warranty needs to be reviewed in conjunction with the underlying document which could contain further limitations that affect the warranty. By adopting the Act this review process may be simplified.

  • Timing - there is a perception that to finalise the team's obligations to third parties "up front", instead of annexing a proforma warranty to be agreed post completion, would delay agreement of the key project documents.

However, third parties involved from the outset, such as financiers, will in any event usually require their warranties to be completed up front, as a condition precedent to the release of funds. Overall, there would probably be a time saving.

If third party rights were resolved at the outset, it would avoid the common problem of trying to negotiate warranties with reluctant consultants and contractors sometimes years after completion of a project when the property is sold, and at a time where there is no longer any financial incentive on them to agree terms, quickly or at all.

Equally, if it was possible to present prospective purchasers or tenants with a set of rights agreed in advance, there would be no opportunity for them to seek to amend or re-negotiate their rights. Reliance on the Act would also resolve the problem of those consultants or contractors who simply refuse to provide warranties when required, regardless of their contractual undertaking to do so. In practice there is little that an employer can do in this situation.

The JCT has therefore reversed its position and the drafting of the optional provisions granting rights under the Act is due to start "in the near future". It will be interesting to see what other industry bodies follow the lead taken by the JCT. So far the NEC and ICE have indicated that they have no plans to introduce amendments to include the provisions of the Act.

© Herbert Smith 2002

The content of this article does not constitute legal advice and should not be relied on as such. Specific advice should be sought about your specific circumstances.

For more information on this or other Herbert Smith publications, please email us.

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