A collateral warranty creates a direct contractual relationship between a contractor, subcontractor or consultant and a third-party beneficiary, such as a funder, purchaser, tenant or future owner. It gives that beneficiary rights which it may not otherwise have under the underlying building contract or professional appointment.
Although collateral warranties are often treated as routine project documents, they can create substantial liabilities. Before signing, the warranty should always be compared against the underlying contract to ensure it does not introduce wider obligations, longer liability periods or fewer protections.
Liability Caps
Check whether the warranty allows the warrantor to rely on the liability cap contained within the underlying contract or appointment. A cap agreed in the original agreement may not automatically apply to a separate collateral warranty unless it is expressly incorporated.
Metroun LearningShort courses with structured CPD, 20 minutes eachStart ›The wording should also establish whether the cap applies in aggregate across the original contract and all warranties, or separately to each beneficiary. If each warranty creates a separate cap, several beneficiaries could potentially bring claims arising from the same defect.
Any exclusions for indirect loss, consequential loss, loss of profit or loss of use should also be reviewed. RICS guidance recognises that liability caps are commonly negotiated and may be linked to the level of professional indemnity insurance maintained.
Net Contribution Clauses
A net contribution clause limits the warrantor’s liability to the proportion of the loss that is fairly attributable to its own breach.
Without this protection, a beneficiary may seek to recover the entire loss from one solvent consultant or contractor, even where several members of the project team contributed to the problem. The warrantor would then need to pursue the other responsible parties separately.
The clause should assume that the other responsible parties have paid the amounts they would reasonably have been required to contribute. This prevents the warrantor from carrying the insolvency risk associated with other members of the project team.
Copyright Licences
Design drawings, specifications, models and plans may be protected by copyright. The warranty will therefore often grant the beneficiary a licence to use the design information for purposes connected with the project.
Check that the licence is limited to appropriate uses, such as constructing, completing, maintaining, repairing, altering or extending the development. The warrantor should not accept responsibility where its design information is changed by others or used for a purpose for which it was not originally prepared.
The licence should also clarify whether it can be transferred or sublicensed and whether the beneficiary can use the design on another site. Published warranty forms commonly allow wide use for the project while excluding responsibility for inappropriate reuse.
Assignment
Assignment provisions allow the beneficiary to transfer the benefit of the warranty to another party, commonly following a sale, refinancing or letting of the development.
Check how many assignments are permitted and whether the warrantor must be notified or provide consent. Two assignments without consent is a common commercial position, although the precise requirement will depend on the project.
Unlimited assignment could significantly increase the number and identity of potential claimants. The warranty should also confirm that an assignee receives no greater rights than the original beneficiary. One published consultant warranty, for example, permits two assignments to parties with an interest in the project.
Step-In Rights
Step-in rights are commonly requested by funders. They allow the beneficiary to take over the client’s position under the underlying agreement before the contractor or consultant terminates its services.
Check the required notice period, the time available for the beneficiary to decide whether to step in and the outstanding payments it must accept. The warrantor should not be required to continue providing works or services indefinitely without payment.
Funders exercising step-in rights are commonly required to settle outstanding amounts before taking over the underlying agreement.
Insurance Obligations
Finally, check that the warranty’s insurance requirements match the underlying contract and the cover actually available.
Professional indemnity obligations should specify the required limit, whether cover is per claim or in the annual aggregate, and how long it must be maintained. The obligation should generally be subject to insurance remaining available at commercially reasonable rates and on reasonable market terms.
A collateral warranty should never be signed as an administrative formality. Where its wording changes the agreed risk position, Metroun Consultants can help identify the key commercial issues before the document is executed.
