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Home > News > Contractual Third Party Rights replacing Collateral Warranties? Great (but…)!

Contractual Third Party Rights replacing Collateral Warranties? Great (but…)!

24 October 2018 |

In development of any scale, work carried out will usually have an effect on a wide range of parties with interests in the project. Take the Architect for example, whose designs and perhaps contract administration will take physical shape in a property that will be:

  • owned by the Developer (or subsequent purchasers);
  • security for the Funder; and
  • home for several tenants .

These third parties probably have no direct contractual link to the Architect, but they may want one so they can have recourse in the event that:

  • there is an issue with the Architect’s work that causes them loss;
  • a claim against the Contractor would not work, perhaps due to insolvency, exclusions on its liability, or a lack of insurance.

Traditionally, collateral warranties have provided a contractual link between parties that do not have one, in this case the Architect and the parties with interests in the development.

Commonly any consultant, contractor and sub-contractor with material design responsibility will be required to give collateral warranties to some or all of those interest holders referred to above, and these documents are frequently negotiated.

To take a typical scenario, eight warrantors providing warranties to four beneficiaries creates an extra 32 documents to draft, perhaps negotiate, confirm acceptability and perhaps report on, generating some real drag on project budgets and timelines for all involved.

Contracts (Rights of Third Parties) Act 1999

The act captioned above (“the Act”) has the effect of allowing rights to be created for enforcement by parties who are not parties to the original contract, reforming a long standing principle of common law in the UK jurisdictions.

This means that the Architect’s appointment in the previous scenario could simply state that the Developer, Funder and Tenants may rely on the Appointment and bring a claim if it is breached, doing away with the need for dozens of collateral warranties and theoretically ushering in an new brave era of Contractual Third Party Rights instead.

Uptake during the 2000s and early 2010s was not widespread, at least in regular regional developments. However as the industry modernises and a willingness to test new approaches seems to prevail, use of contractual Third Party Rights instead of collateral warranties seems (anecdotally) to finally be gaining traction.

Now is a good time, then, to understand some of the issues posed by the use of the Act instead of collateral warranties. It is important that all parties understand these, whether giving, receiving, or relying on others to sort out, contractual Third Party Rights in relation to developments:

The rights will not be conferred unless all of your paperwork is in order: all documents need to be in order, including the original appointment/contract, any schedule of third party rights (a common way of setting out the details of those benefitting), and the schedules need to be properly incorporated into the original appointment/contract.  A failure to do so could raise issues with the enforceability of the third party rights.  Also note the final point below regarding activation of rights.

Developers must consider whether the form of rights will be satisfactory to the beneficiaries from the outset: while collateral warranties had some theoretical “wriggle room” allowing the form to be adjusted with regard to reasonable requirements, contractual third party rights are likely to be set in stone from the outset of a project so it is important that proper thought is given to whether funders, tenants, purchasers and others are likely to have any special requirements. 

Section 2 of the Act may make the underlying contract inflexible: it stops the original parties from varying parts of their contract where the Third Party would rely on that term.  While this is logical it might tie the hands of developers and contractors in sorting out project-specific problems, and may require embarrassingly asking funders or future tenants for permission to resolve their conflicts through contractual variations.

Section 3 of the Act may make it harder for the beneficiary to claim: it introduces a set-off type entitlement to the party giving the rights, so that a dispute under the original contract can end up affecting the beneficiary’s rights.

The rights may only kick in when triggered by someone other than the beneficiary: for example under the JCT drafting, a notice is required to be given by the Employer to trigger the Third Party Rights.  If a purchaser or other forgets to make it a condition of their transaction that this notice is given, they may be left without the third party rights they required. Sufficient evidence of the correct form of notice having been given should be obtained.

Conclusion

Despite the pitfalls set out above, Contractual Third Party Rights offer the potential for reduced friction in comparison to traditional collateral warranties.

Taking the onus out of the warrantor’s hands is surely welcome by anyone who has ever had to chase a reluctant warranty provider!

For a free discussion on any of these issues please contact our Real Estate and Development team.

The contents of this article are intended for general information purposes only and shall not be deemed to be, or constitute legal advice. We cannot accept responsibility for any loss as a result of acts or omissions taken in respect of this article.

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