Supplementary memorandum submitted by
the Department for Business, Enterprise & Regulatory Reform
(BERR)
I understand the BERR Select Committee Chairman
has kindly agreed to consider a paper setting out our proposals
to reform the Construction Act, as part of the Committee's inquiry
into the construction industry.
It remains our intention to introduce these
measures as soon as Parliamentary time allows. I plan to release
draft Bill clauses to the construction industry for comment and
I expect to be in a position to do so by early June.
I look forward to the Committee's report on
the construction industry and to the Committee's views on our
proposals.
THE EXISTING
STRUCTURE OF
THE ACT
1. The aim of Part II of the Housing Grants,
Construction and Regeneration Act 1996 (the Construction Act)
is to ensure prompt cash flow through construction supply chains
(employer-contractor-sub-contractor) and to encourage swift resolution
of disputes. It achieves this by providing a statutory right to
refer disputes to adjudication and setting out a payment framework,
including the right to be paid by instalments, with which payment
provisions in a construction contract must conform.
2. When the Act came into force it covered
the whole of Great Britain but has now been devolved to the Scottish
Parliament. This Construction Act does not apply in Northern Ireland
but separate similar legislation was introduced in 1999.
ADJUDICATION
3. Section 108 of the Construction Act provides
that a party to a construction contract has the right to refer
a dispute arising under the contract for adjudication. "Dispute"
is defined as including any difference. Subsections 108 (2) to
(4) specify the basic framework for adjudication with which such
contracts should comply. Section 108(3) states that a contract
"shall provide that the decision of the adjudicator is binding
until the dispute is finally determined by legal proceedings,
by arbitration (if the contract provides for arbitration or the
parties otherwise agree to arbitration) or by agreement."
Section 108(5) provides that "if the contract does not comply
with the requirements of subsections (1) to (4), the adjudication
provisions of the Scheme for Construction Contracts apply".
4. An adjudicator's jurisdiction is derived
from his appointment by the agreement of the parties. The adjudicator
only has jurisdiction to determine a dispute referred to him arising
out of a construction contract. The question whether an adjudicator
has the necessary jurisdiction is not itself a dispute arising
under the construction contract and any decision of the adjudicator
as to his jurisdiction is not binding. An adjudicator must determine
the dispute by reference to the contractual terms. Decisions of
adjudicators are enforced by way of summary judgement. The courts
have taken a robust attitude and will enforce any decision where
it is within jurisdiction.
5. Section 108 makes no provision in respect
of costs of the adjudication.
PAYMENT
6. Sections 109-113 set out the payment
framework.
— Section 109 introduces the right
to instalment, stage or periodic payments.
— Section 110(1) requires the construction
contract to have an adequate mechanism for determining what will
become due and when and for the contract to provide a final date
for payment in relation to any sum which becomes due.
— Section 110(2) requires the payer
to give the payee early communication of what will be paid.
— Section 111 provides that the payer
may not withhold money unless he has communicated in a notice
the amount he intends to withhold from the sum due and the grounds
for withholding payment to the payee within an agreed period (or
no later than the period prescribed in the Scheme). A payment
notice under section 110(2) may suffice as a notice of intention
to withhold payment so long as it complies with the requirements
of section 111.
— Section 112 provides that the payee
may suspend performance when the amount due is not paid by the
final date for payment.
— Section 113 prohibits contractual
terms which make payment dependent upon the payer being paid.
SECONDARY LEGISLATION:
THE SCHEME
FOR CONSTRUCTION
CONTRACTS (ENGLAND
AND WALES)
REGULATIONS 1998
7. Section 114 of the Act empowers the Minister
to make by regulations a "Scheme" containing provisions
about the matters referred to in the preceding provisions of Part
II of the Act. Section 114(4) provides that where any provisions
of the Scheme apply in default of contractual provisions agreed
by the parties they have effect as implied terms of the contract.
The Scheme for Construction Contracts (England and Wales) Regulations
1998 is secondary legislation.
8. The Scheme for Construction Contracts
(England and Wales) Regulations 1998 (SI 1998/649) came into force
on 1 May 1998. In respect of Scotland, the Scheme is found at
the Scheme for Construction Contracts (Scotland) Regulations 1998
(SI 1998 No. 687). The Scheme will apply where the construction
contract does not provide for any of the matters set out in sections
108(2), (3) and (4) (provisions relating to the right to refer
disputes to adjudication), sections 109(1) and (2) (entitlement
to stage payments), section 110 (1) (adequate mechanism for the
determination of what and when payments become due) and section
110(2) (the requirement for a payer to give a payment notice).
9. As a consequence of the amendments we
will be making to the primary legislation, there will need to
be some consequential amendments to the secondary legislation.
The Welsh Assembly now has devolved responsibility for the secondary
legislation in Wales. There is already separate secondary legislation
for Scotland. For both Wales and Scotland, the respective administrations
will be required to conduct their own consultation on secondary
legislation.
BERR'S PROPOSED
AMENDMENTS
10. Our proposed new provisions would:
a. Remove the requirement for the construction
contract to be in writing.
b. Introduce a statutory framework for costs
of the adjudication.
c. Prohibit agreements that interim or stage
payment decisions will be conclusive.
d. Introduce greater certainty and clarity
into the payment framework.
e. Limit the decision of the House of Lords
in Melville Dundas v Wimpey to insolvency situations.
f. Improve the right to suspend performance.
ADJUDICATION
"In writing"
11. Our proposed new provisions remove the
restriction of the application of the Act to contracts in writing.
The Act will apply to contracts which are agreed wholly in writing,
only partly in writing, entirely orally or are varied by oral
agreement.
12. The policy objective is twofold:
— to allow more disputes under construction
contracts to be referred to adjudication; and
— once the adjudication is underway,
to remove the potential for one of the parties to challenge the
adjudicator's jurisdiction on the grounds that the entire contract
is not in writing.
13. The adjudication scheme will continue
to be in writing. Where there is no written contractual adjudication
scheme, the statutory scheme (which is set out in secondary legislation)
will apply. The reason for this is that we believe it is important
that there is absolute clarity about the procedure under which
the adjudication is being carried out.
14. The notices set out in the statutory
payment framework (payment notice, withholding notice and notice
of intent to suspend performance) will continue to be required
in writing. This is to help ensure clarity of communication.
Stakeholders—This is seen as one of the
two most important amendments we are making to the Construction
Act. Adjudicators, professionals, sub-contractors are strongly
in favour. Contractors are against. Some of the sub-contracting
bodies would prefer it if we went further and allowed the adjudicator
to decide, finally and conclusively, whether or not he had jurisdiction.
We believe it is right to retain the ability to question an adjudicator's
jurisdiction.
Statutory framework for the costs of Adjudication
15. The Construction Act currently makes
no provision on the costs of adjudication. It is left as a matter
for contract. The contract may provide that one of the parties
is to bear all or part of the costs of the adjudication regardless
of the outcome. Often such clauses are included at the behest
and to the advantage of the party in the strongest bargaining
position. This can be used to create a disincentive for a party
to refer disputes to adjudication.
16. Our policy objective is therefore to:
— remove these disincentives.
17. However, at the point of referring a
dispute to adjudication, the ability of a party to exercise commercial
muscle has greatly diminished—the objective of the "inferior"
party has changed from winning the work to getting paid. We therefore
enable the parties to make any agreement they see fit after they
have referred the dispute to the adjudicator.
18. In broad policy terms this is a relatively
simple proposition. We are simply reinstating the parties' ability
to make an agreement. There is however some legal complexity.
19. There are two types of costs in issue:
the costs of a party (which typically will include the fees of
others whom a party has engaged eg a quantity surveyor or an architect)
and then the fees and expenses of the adjudicator. These require
different treatment.
The costs of the parties:
20. We are prohibiting any provision of
a construction contract which would have the effect of requiring
a party to the contract to pay all or any part of the adjudication
costs of another party, unless it is made in writing after the
appointment of the adjudicator.
21. The underlying legal position, if the
parties do not reach agreement in writing after the appointment
of the adjudicator, is that each party should bear their own costs.
Where the parties have entered into an effective agreement that
one party should bear all, or a proportion of the others costs,
we give the adjudicator the power to disallow any unreasonable
costs within the agreement.
The costs of the adjudicator (the fees or expenses
of an adjudicator in relation to the adjudication of a dispute
arising under the contract):
22. As above, we prohibit any provision
of a construction contract, which would have the effect of requiring
a party to the contract to pay all or any part of the adjudicator's
costs unless it is made in writing after the appointment of the
adjudicator.
23. The underlying position is that responsibility
for an adjudicator's fees and expenses will be determined by the
terms of the contract which he agrees with one or both of the
parties to the construction contract. Normally the adjudicator's
contract will be with the party which refers the dispute to the
adjudicator. Our new provisions make the parties jointly and severally
liable for the adjudicator's fees for work reasonable undertaken
and expenses reasonable incurred by him.
Stakeholders—There is almost universal
support for our proposal to make ineffective any contractual clause
on the allocation of the costs of adjudication. Some bodies—notably
those representing sub-contractors—would prefer our prohibition
to be total. Others—in particular those representing main
contractors—believe our proposals strike the right balance
between preventing mischief and giving the parties freedom to
enter into sensible commercial arrangements.
Prohibiting agreements that interim or stage payment
decisions will be conclusive
24. A contractual practice is emerging in
the industry where a decision about the amount of an interim payment
can be made final and conclusive—and therefore unadjudicable.
Some in the industry have suggested that this practice will increase
as we tighten up other aspects of the Act. Our policy objective
is simply to close the loophole and ensure that all disputes on
interim payments can be put to adjudication.
25. We are therefore prohibiting agreements
that a decision can be conclusive of the amount of a stage payment.
This prohibition will not apply where agreement has been reached
after the decision has been taken and communicated to the parties.
Stakeholders—There was strong support
for prohibiting final and conclusive agreements. Contrary views,
such that there were, tended to favour a time limited period in
which all decisions (ie including those on final payments) could
be opened up and reviewed by and adjudicator.
PAYMENT FRAMEWORK
26. Our introduction sets out the existing
statutory payment framework. The main issues uncovered over the
course of the review were:
— The payment notice (early notification
of the amount due) was frequently not issued and there was no
sanction.
— There was a lack of clarity about
the status of the payment notice.
— The interaction between the payment
notice and withholding notice could be unclear.
— That "pay-when-certified"
clauses could be used to circumvent the prohibition of pay-when-paid
clauses.
27. The conclusion of our analysis of the
consultation responses is these factors, individually or collectively,
can make the statutory payment framework ineffective in its intention
to introduce greater certainty about what will be paid and when.
28. Our policy objectives are therefore
to:
— remove the statutory restrictions
about which party can issue payment notices.
— Ensure that there is always early
communication of the sum due.
— clarify the status of the payment
notice.
— clarify the interaction between the
payment and withholding notices.
— prohibit pay when certified clauses.
29. As a package, these amendments introduce
much greater clarity and simplicity into the payment framework
and its underlying interaction with common law.
Notices
30. Under the current framework the payer
is obliged to issue the payment notice. Comment during the review
was that this could run counter to common commercial practice.
The underlying policy objective behind introducing the payment
notice requirement in the first place was to ensure there was
early communication of the amount to be paid. The notice enables
early discussion of any differences with the hope that they will
be resolved before the payment date. We are therefore retaining
the requirement for a payment notice but removing the limitations
on who can issue it. Who is responsible for issuing the notice
(payer, payee or third party certifier eg architect or engineer)
will be a matter for the parties to agree in their contract.
31. We also make it clear that the amount
in the payment notice is the "sum due" for the purposes
of withholding and suspension. This removes some uncertainty which
had crept in under the current framework about various deductions
and whether they should be communicated through the notices. For
instance, you are required to issue a withholding notice when
withholding money from the sum due but if the money was never
due in the first place (perhaps because it was unsatisfactory)
you would not need to notify it in a withholding notice.
Stakeholders—As you would expect, this
proposal is the one where opinions are sharply divided. It is
also viewed by many as being one of the two key things we are
proposing. Some (generally main contractors) are opposed to any
changes at all to the payment framework. Others (generally sub
contractors) would rather our proposals went much further. In
short they want the payee's application for payment to set out
the sum due. Broad consensus is at the heart of the Construction
Act and our provisions therefore seek a middle path between these
two views. Those with less of a direct interest in the main contractor
sub contractor interface (professionals and adjudicators) tend
to think our proposals strike a sensible balance between interests.
Statutory fallback provision
32. One of the weaknesses of the current
framework is that there is nothing to ensure the payment notice
is issued. There is no remedy when it is not served. We have therefore
introduced a "fall back" provision. Where the contract
makes provision for the payer or third party to issue a payment
notice to the payee before the final date for payment and he fails
to do so the payee may at any time before the final date for payment
give a notice to the payer specifying the amount of the payment
he considers to be due and the basis on which that amount is calculated.
The amount in that notice will then become the sum due for the
purposes of withholding and suspension.
Stakeholders—This measure is popular with
sub-contractors though some feel it does not go far enough. It
is deeply unpopular with main contractors who object to the amount
in the notice becoming the sum due. However, it is clear that
the lack of an effective remedy when a payment notice is not issued
fundamentally undermines the effectiveness of the Act.
Payment by reference to other contracts
33. We are prohibiting so called "pay-when-certified"
clauses. The content and timing of a certificate issued under
a superior contract may simply be invisible to those under an
inferior contract yet the amount and timing of payment could be
dependent on it.
34. The policy objective is to:
— ensure there is more clarity about
when payments become due as well as what the sum due is.
35. We are therefore simply stating that
a contract does not have an adequate payment mechanism where payment
is conditional on:
(a) the performance of obligation under another
contract, or
(b) a decision by any person as to whether
obligations under another contract have been performed.
Stakeholders—Sub contractors broadly welcome
this proposal though some would like us to go further and outlaw
all "conditional" clauses. Main contractors do not like
the proposal as it reduces their ability to offset the risk of
non payment by their customer. The original act was clear in its
intent to outlaw pay-when paid clauses.
Melville Dundas
36. The judgement of the House of Lords
in Melville Dundas vs George Wimpey raised two areas of uncertainty:
(i) whether the Construction Act provisions
on withholding (section 111) applied only where the contract is
determined (ie terminated) in cases of insolvency; and
(ii) whether the provisions should apply
to all other grounds for withholding in respect of final payments.
37. In terms of the HoL judgment in the
Dundas case, our policy objective is:
— to ensure that a withholding notice
is required where the payer intends to pay less than the "sum
due" except in cases of insolvency.
38. This limits the effects of the HoL decision
to the facts of the case (in Dundas, the contract was determined
upon the appointment of an administrative receiver) and prevents
the payer from relying on any other ground which gives rise to
a lawful right to withhold payment.
39. We are therefore introducing an additional
subsection which provides that the only circumstances in which
a withholding notice is not necessary, where the payer intends
to pay less than the sum due, is where:
a) the contract provides that the payer may
determine the contract upon the insolvency of the payee;
b) the payee is insolvent; and
c) the insolvency occurred after the expiry
of the prescribed period for giving a section 111 notice;
d) it was not possible for the payer to give
the notice before the expiry of the prescribed period.
Stakeholders—The consultation responses
supported our position.
IMPROVING THE
RIGHT TO
SUSPEND PERFORMANCE
40. We are improving (ie making more equitable)
the right of a party to suspend performance of his obligations
under a construction contract where he has not been paid. We are
therefore providing:
a) that the payee need not suspend all of
his obligations when exercising the right;
b) a statutory right for the suspending party
to be compensated for reasonable losses caused by the suspension;
and
c) an extension of time in the contractual
time limits for any delay caused by the exercise of the right
to suspend.
41. The policy objective is to ensure the
costs of suspension fall more equitably.
Stakeholders—There was strong and consistent
support from almost everyone for this proposal.
2 May 2008
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