...a little bit of law
Collateral Warranties
Inside
What are they?
Who are the parties?
Why bother?
The alternatives
Key points to include
What is a collateral warranty?
A warranty is essentially a promise made by one party (the
warrantor) to another (the beneficiary). A collateral warranty
is a warranty which exists “collateral” to, or next to, an
underlying agreement.
The most common example is a collateral warranty that sits
alongside the building contract. The building contract will
be between the contractor and the employer. The collateral
warranty is a promise by the contractor to someone else,
say a prospective tenant, that they have performed and will
perform their obligations under the building contract.
If we take the relationship between the building contractor
and a purchaser of the development however, no contract
exists between them. As a result, if the building falls over,
a purchaser will not necessarily have a claim against the
building contractor for breach of contract. The contract
wasn’t made with them – so they can’t sue for breach of
contract – even if a breach has taken place.
Sometimes the purchaser might have a claim against the
builder for negligence. But the Courts have tended to take a
very restricted approach as to which losses are recoverable in
those circumstances. Lawyers love the debates that ensue –
but it’s rarely fun for the person picking up the bill.
Collateral warranties are also often given by sub-contractors
and sub-consultants (subbies) on a project. It will be the
contractor who appoints the subbies and enters into
contracts, or appointments, with them. The subbies will then
give collateral warranties to the employer.
The solution for a purchaser or funder of a development is
to receive collateral warranties from parties with whom they
would otherwise not have a contract with. This enables them
to pursue that warrantor directly for breach of contract.
Common warrantors include:
There is no alternative!
Well actually there is...
Contractors, architects, subcontractors and sub-consultants
i.e. people whose work is important to more than just the
person who appoints them.
Common beneficiaries include:
Employers, purchasers, tenants and funders
i.e. people who care that the development is built properly
but who won’t themselves be appointing the people
building and designing it.
“I want you to listen to me. I’m going to say
this again. I did not have contractual relations
with that woman, Miss Lewinsky”
We now know what collateral warranties are and who gives
them. The next question is, “why have them at all”? Well, in
this regard, it’s important to be clear about who you do and
do not have contractual relations with.
In the case of a building contract, the contractual relationship
exists between the building contractor and the employer –
they are the ones that actually enter into the contract.
In the example of a purchaser buying a newly constructed
building, the purchaser could possibly take a transfer of
benefits under the building contract. In practice, however,
that’s usually problematic as a way forward. In particular,
transfer only really works when the party giving up their
benefits is no longer going to have any interest in the
development. You can only assign to one party at a time so if
there is a purchaser and a funder, who gets the assignment?
The purchaser might be able to take out (or be provided
with) insurance to cover certain risks. However, insurance
can be costly and is inherently fraught with exclusions so it’s
rarely an attractive option.
Instead, the main rival to collateral warranties has been
the use of the Contracts (Rights of Third Parties) Act 1999.
This Act allows for third parties to obtain the benefits from
contracts, which are entered into by others. Subject to
several key requirements, third parties who are named in the
contract may obtain the benefits under it, without actually
having to be a party to it.
The key advantage of going down this route is that
it removes the need to have to negotiate and get the
warrantors to execute large numbers of individual collateral
warranties. Third party rights can be granted upon execution
of the main agreement without any further formalities but
in cases of JCT building contracts for instance, the rights will
be granted to the third party on the date of receipt by the
person granting the rights (eg. the contractor) of a notice
identifying the third party. This also avoids the need to try to
track down the warrantors several years later to get them to
execute collateral warranties when the property is re-sold.
• what standard of work is warranted for and how
this compares with the standard provided for in the
underlying agreement;
• the extent of the warrantor’s liability and whether
there can be greater liability under the collateral
warranty than under the underlying agreement;
• copyright;
When to get collateral warranties?
Carpe diem
It’s a mistake to leave the negotiation of the collateral
warranties until after the building contract has been
agreed or even after the building work is completed. Once
the building contract has been entered into, the building
contractor may not be keen to extend its contractual
obligations to more people and any obligation to provide a
collateral warranty in a form to be agreed is unlikely to be
enforceable. It is best to have those discussions when the
contractor is keen to secure the work!
One of these days I’m going to get help for
my procrastination problem
A common misconception is that even if you provide in the
contract for collateral warranties to be given when called
for, it doesn’t matter if you don’t actually ask for them to be
issued until the work is near to completion. No. No. No.
It may seem like a pain at the time but, if you know who is
getting the collateral warranties, the best time to get them
printed and signed is at the same time that everyone is
signing the main contract. If the collateral warranties contain
certain step-in rights this is essential. 18 months later people
will forget, you’ll need to dig around to find the contract or
the personnel at the company giving the warranty may have
changed and not know what you are talking about...
Key things they should cover
Collateral warranties must marry up with the main
agreement which they are collateral to. Amongst other
things, provision is often made for the following:
• who the benefit of collateral warranties may be
assigned to (and how many times)
• net contribution (the extent to which the warrantor
can limit its liability based upon the culpability of
others);
• rights to step-in and take over from the employer if
the need arises, such as in an insolvency situation;
• the limitation period during which any claim must be
brought; and
• the maintenance of an agreed level of professional
indemnity insurance.
The warrantor will often need to get their insurers to sign off
on the form of warranty before it is given.
If you only remember five things, remember
these five things:
1. Collateral warranties are “mini-contracts”.
2. They create contractual relations between parties
which would otherwise not exist.
3. They are usually provided for the benefit of purchasers
and funders.
4. They should be agreed upfront and completed as soon
as the beneficiary is known.
5. Their precise wording, together with the wording of
the contract they are collateral to, will determine the
extent of liability.
A largely irrelevant fact
Carpe diem is a phrase from a Latin poem by Horace. It is
popularly translated as “seize the day”. Carpe is the secondperson singular present active imperative of the Latin verb
carpō, which literally means “I pick, pluck, pluck off”, but
Ovid used the word in the sense of, “enjoy, seize, use “.
…little bits of law
This is one in a series of leaflets published by Lewis Silkin LLP,
providing information on a range of legal issues that face
our developer clients. Other topics discussed range from
boundaries to wildlife.
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information in this client guide to particular circumstances.
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For more information please contact:
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Clare Reddy at
[email protected]
Patrick Brown
patrick.brown@
lewissilkin.com
Clare Reddy
clare.reddy@
lewissilkin.com
5 Chancery Lane – Clifford’s Inn
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© November 2012 Lewis Silkin LLP