Collateral warranties and third party agreements

Collateral warranties and third party agreements have been part of the landscape in appointment documentation for many years, but some mystique and uncertainty still surrounds them, particularly when they are requested as an after-thought by the client who had adopted a fairly relaxed attitude towards contract terms until prompted by (say) a fussier fund or purchaser. A reminder of a few basic tenets may assist in making practitioners a little more comfortable.

On a construction or engineering project, a collateral warranty is a contract under which a professional consultant (such as an architect), a building contractor or a sub-contractor warrants to a third party (such as a funder) that it has complied with its professional appointment, building contract or sub-contract.

A warranty is not an unqualified guarantee that everything about the project is in order; it is confirmation from the warrantor to the recipient third party, that it has performed its services in accordance with the appointment. It therefore follows that a consultant should not agree a form of warranty until its appointment has been finalised, otherwise it will not know what confirmation it is passing on to the third party or parties. 

From an insurance perspective, the golden rule of warranties is that they must not extend the liability of the warrantor (whether in time or nature) beyond that which exists under the appointment.

Insurers provide protection for the consultant’s legal liabilities and it is the appointment that defines what those legal liabilities are. Insurers could argue that any elements in the warranty that go beyond this defined legal liability are also beyond the protection of the policy. If, therefore, the appointment document was a simple contract under hand with a limitation period of six years for bringing claims, the consultant should not agree a deed of warranty with a liability period of twelve years.

It is usual to have a specific limitation clause stating what the limitation period is and when it is calculated from. A common limitation wording is:

“Neither party shall commence any legal action against the other under this appointment after [6]/[12] years from either practical completion of the project or the date when the consultant’ appointment has been terminated, whichever is earlier”.

It is also a good idea to have what is now a standard clause in warranties, to the effect that the warrantor shall have no greater liability under the warranty than exists under the appointment and can rely on all the appointment’s limitations on liability.

Where there is no cap on liability under the appointment, it is a good idea nonetheless to seek to agree such a cap in any warranty. A suggested wording in that regard is as follows:

“Notwithstanding anything to the contrary contained in this agreement the total liability of the consultant under or in connection with this agreement whether in contract or in tort or in negligence or for breach of statutory duty or otherwise (other than in respect of personal injury or death) shall not exceed the sum stated of £X”.

Where there is already a cap on liability under the appointment, then the capped wording in the warranty should make clear that it applies to the appointment and/or under the third party warranty agreement.

The number of warranties to be provided should be kept to a sensible number. This will vary from project to project but a consultant will not want to acknowledge a contractual obligation to every person who may have an interest in the project. It is common, for example, to exclude individual domestic tenants from entitlement (and some policies of insurance exclude protection for warranties given to such tenants), and generally it is recommended to require a party to have a minimum size or nature of interest before becoming entitled.

Assignment of the warranties should also be restricted where possible (and again some insurance policies exclude claims which are brought under warranties that have been assigned more than a given number of times). To a degree this is somewhat superstitious because a first assignee may be particularly ferocious and a later assignee may be a lot more benign, but generally the more distant one gets from the original project and the more people one rubs up against contractually, the more likely it is to encounter trouble.

Another recommended restriction is a net contributions clause, which provides that where a loss has been jointly caused, the consultant will only be responsible for that proportion of the loss which it would be fair for it to bear, based on its responsibility and on the understanding that every other responsible party has paid their fair share. This is intended to guard against the risk of some of the other responsible parties not being around any more and the consultant being held liable for the whole loss. A wording that could be used in that regard is as follows: 

“The consultant’s liability shall further be limited to that proportion of any loss suffered by the client/ employer/beneficiary that it would be fair and equitable for the consultant to bear having regard to its responsibility for the same and on the basis that any other consultant appointed by the client shall be deemed to have entered into contractual arrangements with the client/employer/beneficiary equivalent to the terms hereof (without any additional exclusion or limitation on liability) and be deemed to have paid out to the fair and equitable extent of their respective responsibilities.”

Assuming that the warranty reflects the principles outlined above, the consultant need not be concerned about extending its liability to these recipients. Arguably, if the consultant’s appointment is a simple contract and does not exclude the operation of the Contracts (Rights of Third Parties) Act, the warranty recipients may be entitled to claim under the contract anyway as parties within the reasonable contemplation of the appointment signatories. Where, though, a consultant has never signed a warranty before or where it is asked to do so as a concession to its client, despite there being no contractual obligation in the appointment, consultants should raise the matter with insurers to see whether they have any specific requirements or objections. As warranties are so common, there ought not to be objections, but it is prudent to have on record the fact that the question was raised with PI insurers. 

This article was written by Bluefin Professions in association with DWF, a law firm that works closely with Bluefin and its clients in relation to professional risks, including construction. 

Any views or opinions expressed in this briefing are for guidance only and are not intended as a substitute for appropriate professional guidance. We have taken all reasonable steps to ensure the information contained herein is accurate at the time of writing but it should not be regarded as a complete or authoritative statement of law.