Collateral warranties for building design and construction

[edit] What is a collateral warranty?

Collateral warranties are agreements that are associated with another 'primary' contract. They provide for a duty of care to be extended by one of the contracting parties to a third party who is not party to the original contract.

For a detailed legal definition of collateral warranties, see: Definition of collateral warranty.

[edit] Why are collateral warranties needed?

They came into being as a result of the courts deciding that defects in buildings were not recoverable in tort, as they were an economic loss which was only recoverable through a contractual relationship. Collateral warranties therefore create direct contractual relationships between parties that would not otherwise exist.

A typical example would be where an architect of a new office development owes a duty of care to an occupier of the development in so far as any subsequent defects which may arise are concerned. Privity of contract rules would prevent any liability arising between the architect and occupier without the existence of a collateral warranty.

[edit] What terms might a collateral warranty include?

There are a number of standard forms of collateral warranty (such as Joint Contracts Tribunal (JCT) collateral warranties), however there can be some dispute about their specific terms, with clients often claiming that industry standard warranties favour contractors and designers. There can also be difficulties with onerous terms that designers or contractors are unable to agree to as their insurers will not provide cover. As a consequence many collateral warranties are bespoke.

Collateral warranties may include 'step-in' rights allowing the beneficiary to step-into the role of the client. This can be important, for example to banks providing funding for a project, enabling them to ensure that the project is completed if the client becomes insolvent.

There may also be a contractual requirement for parties to obtain further warranties, for example there may be an obligation for the main contractor to obtain parallel collateral warranties from sub-contractors.

One of the disadvantages of collateral warranties is the difficulty in actually completing them. On large projects with many consultants and sub-contractors and multiple occupants, there can be a great number of warranties. The Contracts (Rights of Third Parties) Act can offer a way around this difficulty by allowing the primary contracts to confer benefits upon third parties even though they are not a party to that contract.

[edit] Case law relating to collateral warranties

[edit] Parkwood Leisure Limited v Laing

In the case of Parkwood Leisure Limited v Laing O’Rourke Wales and West Limited in 2013, the judge found that Parkwood’s collateral warranty qualified as a 'construction contract' as the definitions were widely construed and so The Housing Grants, Construction and Regeneration Act applied to it as it covers all contracts related to the carrying out of construction operations.

The Housing Grants, Construction and Regeneration Act 1996 (HGRA - also known as the Construction Act) is intended to ensure that payments are made promptly throughout the supply chain and that disputes are resolved swiftly. The Act applies to all contracts for 'construction operations' (including consultants' appointments). If construction contracts fail to comply with the act, then the Scheme for Construction Contracts applies.

For more information see: Housing Grants, Construction and Regeneration Act

The court’s decision was an unexpected one for practitioners who assumed the Act did not apply to warranties.

For more information see: Parkwood Leisure Limited v Laing.

Collateral warranties will now be subject to greater scrutiny in the light of this case, with resistance from contractors and consultants to grant warranties and a desire to restrict the number and scope of warranties. That inevitably means further complications for the negotiation and drafting of warranties resulting in protracted and costly negotiations.