Legal Q&A: 25 years on
Amy Roberts, Associate, and Jane Fender-Allison, Of Counsel, CMS Cameron McKenna Nabarro Olswang LLP
IT has been 25 years since the Construction Act brought sweeping reforms to payment and dispute provisions in construction contracts. Here, we’ll take a look at the key concepts, what has happened since its inception and its effectiveness.
The Construction Act
Before 1998 there was no statutory definition of what a ‘construction contract’ or ‘construction operations’ were. There were no uniform payment provisions for construction contracts and no statutory adjudication.
Before 1998 there was no statutory definition of what a ‘construction contract’ or ‘construction operations’ were. There were no uniform payment provisions for construction contracts and no statutory adjudication.Commonly used standard form building contracts provided for court or arbitration as the dispute forum. JCT 1980 for example provided for arbitration (clause 41), which often could not be commenced until after practical completion, termination or abandonment, unless both parties consented.
Arbitration, at the time, was an often lengthy and costly procedure, similar to court. Under NEC there was provision for a form of adjudication, but not the statutory form that we know now.
Then came the well-known Latham Report – Sir Michael Latham’s 1994 report on ‘Constructing the Team’. Key drivers the report identified were the need to improve payment mechanisms and to keep cashflow moving in the construction industry.
This and other movements in the industry ultimately led to the Housing Grants, Construction and Regeneration Act 1996, commonly called the Construction Act, which came into force in 1998. The act defined construction contracts; mandated that they contain certain payment and adjudication provisions; and provided the default statutory scheme for those which did not.
In 2011 the Local Democracy, Economic Development and Construction Act 2009 came into force, bringing significant amendments to the act.In 2011 the Local Democracy, Economic Development and Construction Act 2009 came into force, bringing significant amendments to the act, namely:
- A more rigorous payment regime with ‘teeth’, including the introduction of a new default payment notice, giving payees entitlement to be paid the ‘notified sum’ and replacing the previous withholding notice with a pay less notice
- An enhanced right of suspension
- Some refinements to the adjudication process.
Construction contract and construction operations
What is meant by ‘construction contract’ and ‘construction operations’ is critical, as the act only applies to construction works falling under those terms. The definition of a ‘construction contract’ is set out under section 104 of the act and encompasses all agreements, including building contracts, professional appointments and subcontracts, under which ‘construction operations’ are carried out.
What is meant by ‘construction contract’ and ‘construction operations’ is critical, as the act only applies to construction works falling under those terms.It also stipulates that construction contracts include agreements to do architectural, design or surveying work; or to provide advice on building, engineering, interior or exterior decoration or on the laying-out of landscape; in relation to construction operations.
The definition of ‘construction operations’ at section 105(1) sets out a lengthy list of work types including construction, alteration, repair, maintenance, extension, demolition or dismantling of buildings or structures forming or to form part of the land (whether permanent or not). There are also specific exclusions at section 105(2). These exclude work types like drilling for or extraction of oil or natural gas; mining; certain works on a site where the primary activity is nuclear processing, power generation or oil and gas production and processing; and manufacture or delivery to site of materials, plant or machinery, except under a contract which also provides for their installation.
While these definitions are generally well known, there has been much debate and many court decisions on their interpretation. This may lead to it being unclear whether the act does or does not apply to a particular contract. In some cases a contract may be ‘hybrid’. A hybrid contract covers both works which fall under the definition of construction operations and those which do not, which can be problematic when it comes to the payment regime.
Payment regime
Prior to the act, parties to construction contracts did not have black-letter requirements governing how payment mechanisms should be formulated. The act introduced a statutory payment regime designed to bring certain and transparent payment mechanisms, aiding cash flow, with every contract for works of 45 days or more giving the payee the right to interim payments. The payment regime became much more rigorous following the 2011 amendments. In short, the act requires all construction contracts to have an ‘adequate mechanism for determining what payments become due under the contract and when’.
While this gives parties a wide discretion to decide when payments become due, construction contracts must specify a due date and final date for each payment. Certain timescales must be complied with. Valid payment notices must be issued timeously by the paying party, or an interim application may amount to a default payment notice. There is an enforceable entitlement to payment of the ‘notified sum’, unless a valid pay less notice is given.
In some cases a contract may be ‘hybrid’. A hybrid contract covers both works which fall under the definition of construction operations and those which do not, which can be problematic when it comes to the payment regime.
Payment must not be conditional on the performance of obligations under another contract. Nor conditional on a decision by any person as to whether obligations under another contract have been performed, essentially striking out ‘pay-when-paid ’ clauses. Where these requirements are not met, the act’s statutory scheme will apply.
In relation to hybrid contracts, ideally their payment mechanisms will be compliant with the act. If not, the payment provisions in the scheme will apply in relation to the construction operations. Thus parties may find themselves in the situation where they have two separate payment mechanisms covering separate operations under the same contract. (For an example of this, see Severfield (UK) Limited v Duro Felguera UK Limited (2015) EWHC 3352 (TCC), where the court held an adjudicator would have been required to apply separate payment mechanisms for works which fell under the act and those which did not.)
Much case law has followed on the implementation of the payment regime. The structure of payment mechanisms, the sufficiency and timing of notices and payments, the triggers for final dates, the role of VAT invoices and the use of payment schedules have all featured. This has affected the drafting and operation of payment mechanisms over time.
One point which has become clear in recent years, is that where the requirements of the payment regime are not met and the scheme applies, it will apply only to the extent necessary. In Bennett (Construction) Limited v CIMC MBS Limited (formerly Verbus Systems Ltd) (2019) EWCA Civ 1515, the Court of Appeal in confirmed that, where there is a non-compliant payment mechanism, piecemeal incorporation of the scheme is permitted.
Whereas a ‘wholesale replacement’ of a payment mechanism could only happen in exceptional circumstances.
Statutory adjudication
Arguably the most significant impact of the act has been the advent of statutory adjudication. Section 108 of the act gives parties to construction contracts the right to refer a dispute to adjudication, at any time. This is followed in the act by minimum adjudication provisions which have to be included in the contract in writing.
Where those provisions are not included (and unlike payment mechanisms, whereas noted the scheme will apply only to the extent necessary), the adjudication provisions in the scheme will apply wholesale. Alternatively parties may choose to incorporate the scheme or institutional rules in their contract, as a way of covering off the adjudication requirements.
Where doing so, the scheme goes above the minimum adjudication provisions of the act and sets out how adjudications should proceed, including (but not limited to) timescales for submissions and the adjudication itself; powers of adjudicators; and the effects of the adjudicator’s decision.
Over the years adjudication has gained a reputation as a blunt but effective tool, providing rough and ready justice in tight timescales from referral to decision (28 days, unless extensions are agreed). There are many advantages adjudication can provide: a quick decision; at a relatively low cost; an adjudicator who can be a technical expert; and no requirement for legal representation.
But there are well-established disadvantages too: a heavy reliance on the adjudicator’s skills and quality of decision making; an inability to recover costs (except if pre-agreed in writing under section 108A); and an unrestricted reach, allowing highly complex disputes which may be better suited to arbitration or court to be adjudicated, which is arguably far from the act’s original intention.
In relation to hybrid contracts, ideally their payment mechanisms will be compliant with the act. If not, the payment provisions in the scheme will apply in relation to the construction operations.
In addition, a plethora of case law has emerged from adjudication enforcement proceedings over the last 25 years. This has created an elaborate legal framework well beyond the brief provisions of section 108 of the act, dealing with complex principles from jurisdiction to enforceability. Adjudicators have a procedural minefield to navigate. Challenges to their jurisdiction made during adjudications are rife. All of which leads to an increase in the time and cost resources required for parties to adjudicate. Nevertheless adjudication has proved popular, surpassing construction arbitration in the UK as the favoured dispute resolution forum.
Effectiveness of the act
Returning to the drivers of improving payment mechanisms and cashflow in the industry, the act has undoubtedly had a positive impact. Most notably for the supply chain, with the rigorous payment regime setting out due and final dates for payment and an enforceable entitlement to be paid the ‘notified sum’. All of which has been seen to improve cashflow, although this remains of critical importance in the industry.
There have been attempts to amend the Construction Act to ease the strain of cashflow further – for example to regulate and manage the use of retentions, such as the Construction (Retention Deposit Schemes) Bill, but that bill did not complete the legislative process.
Arguably the most significant impact of the act has been the advent of statutory adjudication. Section 108 of the act gives parties to construction contracts the right to refer a dispute to adjudication, at any time. This is followed in the act by minimum adjudication provisions which have to be included in the contract in writing
Meantime, whilst the standard forms of contract are Construction Act compliant, the effectiveness of those are sometimes diluted by creative attempts to circumvent the payment regime, abuse of retentions and attempts to re-introduce a ‘pay when paid’ approach.
Other bespoke forms of contract are still seen with non-act-compliant payment mechanisms, meaning confusion arises when piecemeal incorporation of the scheme is required.
Meantime adjudication has changed the dispute landscape of construction. Despite the disadvantages above adjudication remains well used, even as there are longer-term shifts in the industry towards collaboration and dispute avoidance.
Recent trends have seen the popularity of serial adjudications, a revival of ‘smash and grab’ adjudications (which claim unchallenged notified sums) and ongoing issues around adjudication in insolvency.
There of course remain improvements which may be made in the evolution of contracting, but taking the act’s reforms to payment and dispute provisions, it is clear there has been significant and lasting change in the industry.
Amy Roberts, Associate, and Jane FenderAllison, Of Counsel, CMS Cameron McKenna Nabarro Olswang LLP