Jacob Austin (00:00:17) - Hi all, Jacob Austin here from QS.Zone. And welcome to episode 45 of The Subcontractors Blueprint, the show where subcontractors will learn how to ensure profitability, improve cash flow and grow their business. Today's episode, number 45 is going to be about collateral warranties. This is a topic that can become the bane of your life as a contractor, particularly if there are clauses needing the collateral warranties to be executed and in place prior to achieving PC. And particularly if you've inherited a job where nobody's done anything about it. But being as this is the subcontractors blueprint, I wanted to explain some of the items that can trip you up as a subcontractor, and what to watch out for when you are entering into a collateral warranty. If you're new to the show, please subscribe for more user friendly advice on all things subcontracting. So collateral warranties I have been asked on many an occasion, what do you need this for? Often by a subcontractor who thinks this is all too much trouble to go to. To get a little piece of paper signed with a 10 to 20 page long document containing a load of clauses that have got nothing to do with the subcontract.
Jacob Austin (00:01:34) - They don't read like a subcontract, and they start introducing all manner of rights and obligations, making you liable for elements of your design. And sometimes you're finished. Work to a third party that you might never have heard of. So the question why do you need one really first stems from what are they for? So let's imagine you're a subcontractor and you're taking out a lease on a new facility that you're going to run your business out of, and you've got to commit to this lease for quite a long period of time. It's going to cost you a down payment as well as an ongoing rent. And because you're not the owner of the building, you don't have any contractual links whatsoever to the people who have built it. And if something in there were to turn out defective and it starts causing you to lose a load of money, then all you can do under the terms of your lease is go back to the lease holder and ask them to put a few things right, but it doesn't cover you adequately for the loss and damage that might have taken place.
Jacob Austin (00:02:35) - Now, unless you put a collateral warranty in place, you as the lease holder have got no remedy against the contractor who's built the building to recover your losses. It's actually the landlord who in this case is a developer and a landlord. They've commissioned the building and they've got a building contract in place with their main contractor. Now, should they have a problem? They've commissioned the building. They've got the main contract that they can rely on, but you don't. And if you try to sue the builder, the main contractor, you had very quickly be thrown out of court because there's no contractual link in place. So to prevent that from becoming an issue, a collateral warranty is there to provide a third party. In this case, that's you who's leasing the building with the contractual link back to the person doing the work or the person designing the work. And these things become important for the tenant to protect themselves. If perhaps the contract that you're leasing the building doesn't allow you to recover your losses from the landlord or the landlord disappears as a trading entity either ceases trading or goes into liquidation, and so on.
Jacob Austin (00:03:44) - Without a collateral warranty, you as the tenant would be stuck holding the baby and no way to recover your losses. So that's what they're there for. They're there to provide a contractual link between a party outside of the contract with somebody sort of inside of the contract, and they can be requested by all manner of different parties. So you might have funders who are chucking in significant sums of money and want to know that their interests are covered. You could have end users or purchasers of all or part of a building, and sometimes it's a case, say, if you're involved in a retail park construction or a building that's got some commercial space, that there are several different parties who are either purchasing, leasing or taking on part of the building. And they may all want a collateral warranty to be in place to protect their interests. The client buying the whole of the building themselves may want to collateral warranty in the case that the contractor ceases to trade. So that's the sort of premise. And they are often used when there is design involved.
Jacob Austin (00:04:50) - But occasionally there are means to pass on the benefit of a product or workmanship warranty to any one of those third parties. And first warning on this is that not all collateral warranties are created equal. They are quite often bespoke forms of a contract that have been drafted up by the lawyers of the client or any one of those parties. They can be perfectly tame or they can contain. All manner of hidden nasties, so each one of them needs reading on its own merit before you put pen to paper. Okay, so one of the most common obligations in a collateral warranty is for you to maintain insurance. And as warranties are usually put into place where there's been some kind of design involved, quite often we're talking about professional indemnity cover being maintained for the period that the warranty is in place, so warranties are often in place for 12 years in line with the latent defects period. But in some cases they are asked for for periods beyond that. So you can watch out for that extension of your liability. But the key point to think about here is that you may be getting yourself on the hook to provide prior insurance to the beneficiary of a collateral warranty, whether or not that insurance is available at a price that you're able to pay.
Jacob Austin (00:06:13) - Sometimes, of course, certain insurances stop being available. They're no longer in the market, and I don't think that will be the case for professional indemnity insurance. But there have been some colossal hikes in the price of insurances in the last few years. So it's important when you're reading the warranty that where the insurances are mentioned, there is a statement that says as long as that insurance is available at commercially reasonable rates, now, there's no actual definition of what commercially reasonable rates are. And of course, what one person thinks is commercially reasonable may be a small fortune, but of course, commercially reasonable is a far better alternative then commercially very unreasonable. So it's very much worth checking and making sure that the reasonable affordability of insurance is part of your obligations. The next thing is to make sure that the phraseology surrounding the insurance cover matches that to which you are providing. And by that I mean, if you have insurance that pays out up to a limit in the aggregate, it's no good signing up to a warranty that requires that limit for each and every claim.
Jacob Austin (00:07:22) - And whilst you are talking about insurance, we of course have the good old fitness for purpose requirements and you are increasingly regular. Reminder from me is that in the UK your insurer will not provide cover for you. You will void your insurance if you sign up to fitness for purpose clauses, and those clauses can be included in relation to design and often related to goods and materials as well. And alarmingly, that kind of clause could be requiring you to warrant the fitness for purpose of materials that you supply, even if you haven't specified them. So fitness for purpose? Very, very bad. If you see it in a document, you must insist that it is struck out. The next thing to look out for are clauses that extend your liability beyond the scope that you've been contracted under. So a friendly warranty will have a clause that says something like no clause under this warranty shall extend or increase the liability of the provider. It sometimes also says guarantor or warranty. Then they would have to the main contractor under the subcontract referred to herein.
Jacob Austin (00:08:32) - And what that's doing is it's saying you've been appointed by the main contractor as a designing subcontractor, and that subcontract contains all of the scope and the limitations implied by that scope, so that you're not suddenly finding yourself liable for losses for things that you haven't actually done. Now, conversely, you want to watch out for clauses that say that nothing that you've completed under the subcontract shall exclude or limit to your liability for breaches under the warranty. And these can be quite long and convoluted clauses. And sometimes it helps to cover up part of the clause whilst you're reading it all the guff in the middle so that you can get to the meat and the bones. And you can do that maybe by highlighting the warranty and you want to highlight the words nothing and shall, and then whatever follows shall, so that you cut out the guff in the middle. And then you can read the sentence and properly make sense of it before you read it back over as a whole. You also need to watch out for things that deem you to have done a certain thing, or to have knowledge of a certain thing during the course of your subcontract works.
Jacob Austin (00:09:37) - So an example might be it is hereby agreed that the subcontractor shall be deemed to have full knowledge of all of the facts and matters necessary to produce his design, including, but not limited to, the condition of the site, the nature and location of the work, and the terms of the main contract and main contract works. Now, this is a particularly nasty little clause, because what it's doing is saying that whether you did or didn't have all of the information that you needed to produce your design at the time, you are deemed to have had that information. So if for whatever reason, the contractor or a different designer didn't provide you. With something that is then later caused a defect. It's irrelevant because this little clause is saying you are deemed to have it. Another pointer for a bad clause is if it includes the phrase continue to observe and perform. It might sound quite innocent, but a clause that said that you, as the subcontractor, will continue to observe and perform the terms, conditions and obligations of his subcontractor, would effectively be transferring all of the clauses from your subcontract into the warranty that you're now signing.
Jacob Austin (00:10:50) - And what this might mean is if you manage to delay the works at some point, and that delay was a critical delay, then you could suddenly find yourself liable to the beneficiary of the warranty for any costs that they incurred. Because of that delay, you may also see some nasty warranties obligating the subcontractor not to delay the main contract works. How bizarre would that be? This is some supplementary agreement that you're entering into to give some third party some comfort, probably so that they'll pay somebody else the person that commissioned the contract more money. And then if you happened to delay the main contract, not only are you in trouble with the main contractor, you're then getting this third party lodging a claim against you. But this is the reality of what some clauses in a collateral warranty can lead to. Watch out for limits on your rights under your subcontract. Some warranties may impose restrictions on your ability to either suspend the work or even cancel or determine your subcontract. Of course, suspending the work is just about the most powerful thing that you can do if you're not getting paid.
Jacob Austin (00:12:00) - So why? If you signed up to a collateral warranty, would you waive your ability to do that? And another play on this kind of clause would be introducing the need to notify either the employer or the beneficiary of the warranty, and give them notice before you can suspend. And if they'd inserted a calendar month's notice, then now, before you even conserved the piece of paper that says I'm going to suspend in seven days, you've got to tell somebody else and wait for a whole month to pass before you can write the same letter. Some of these things just aren't right, and if you see them in a collateral warranty, strike them out. Something that you will probably hear your Pi insurer get excited about is assignment and obligation to grant further warranties. Now, assignment is similar to if you bought a car and then you sold it to the second user of the car. Then, depending on the terms of the warranty, you may be able to assign the balance of the warranty onto that second user. And the same can happen here with your collateral warranty, in that the benefit of the warranty can be assigned usually when there's been a sale or, say, a change of tenancy, that benefit can be assigned to another company.
Jacob Austin (00:13:14) - Now, over the 12 years that you're expected to hold that warranty, your insurance company will probably get pretty miffed if the benefit of that warranty got assigned more than twice. And actually, you may find it difficult to get insurance at all if you signed up to a warranty with unlimited assignments. And the same may happen if you signed up to a warranty that demands that you signed up to further warranties. If the employer demanded that you did so, it would be a bit like if they took control of your checkbook and were able to just write checks to whoever they wanted. All of a sudden, you find yourself liable to all manner of different parties, and inevitably each of those parties, when they get a copy of a warranty, they're going to say, oh, I want to insert this, can I have this? And before you know it, not only have you got a long string of people that are able to claim against you, but there's also the danger that little start introducing all manner of outrageous clauses, and potentially you have little ability to do anything about it.
Jacob Austin (00:14:16) - And finally, I'm going to mention Novation. Now, Novation can be a good thing or a bad thing in that if the contractor that you're working for were to cease trading or the employer decided to cancel that contract, then what an ovation would allow the employer to do is to step into the shoes of the contractor and become your employer as if they were the main contractor themselves. And if you're running a business where you've got to buy in a lot of products, and perhaps you've got to order these in long time in advance, if you needed them on site, then innovation might be something that actually worked out for you and then enabled you to put those materials to good use, where otherwise there might be a loss, or to turn it the other way around. If you are on a fixed term contract, and let's say there had been some wild inflation and that inflation took the contractor into administration, but it also tied you to some rates that you couldn't really achieve, and you certainly couldn't make them pay anything reasonable.
Jacob Austin (00:15:15) - Now because the contractor was suffering. They hadn't paid you for a period of a few months, and because you'd not been following the guidance of the subcontractors blueprint, you hadn't submitted them with a seven day notice and withdrawn from site to stop your losses. So all of a sudden you found yourself with no main contractor, three months worth of money down the pisser and potentially tied up to some out-of-date rates that you just can't make pay. Now, in that scenario, would you ever want to know that subcontract? Well no waiting. It could be the kiss of life or the kiss of death. And it depends whether that novation clause contains obligations for the employer to pick up the bill for anything the contractor hasn't paid you. So you want to see some sort of phraseology that says the employer shall carry out incomplete all obligations of the main contractor under the subcontract, including either on or before the date of the novation. And what this will mean is that if a debt is owed to you by the main contractor, the employer will now have to pick that debt up and will be obliged to pay you.
Jacob Austin (00:16:23) - And this is where it could be the kiss of life. But without that sort of statement, what you're effectively doing is tying yourself to your subcontract without any hope of being paid. Now, if that contractor has gone bust without paying you for a period of time, you're doubly screwed because you're stuck with those old rates that you can't make pay and you've got no hope of getting your money back. So the word of warning is say no to no version unless you can agree with the beneficiary, the main contractor, that novation will include the beneficiary taking on all obligations to you as that subcontractor. Now, as I said, I flagged up some of the things that are particularly onerous and you definitely want to watch out for. But it's not to say that all collateral warranties are bad, because a lot of them out there are quite tame, and they're only really interested in providing that contractual link in case the contractor carrying out the work goes bust. And more often than not, they're only triggered if there is a serious defect.
Jacob Austin (00:17:25) - So the likelihood of both of those happening on the same job are pretty slim. So that's why I'm saying to you, you have to read each collateral warranty before you sign it, because you just don't know what scale of reasonableness you're going to be dealing with. A lot of them are bespoke to the employer, and once you've seen them, you might never see them again. Let me know your thoughts on collateral warranties by finding me on your favourite socials at QSO. On my mission with the show is to help the million SME contractors working out there in our industry. If you've taken some value away from today's episode, I'd love it if you'd share the show and pass on that value to somebody else who would benefit from hearing it. And of course, subscribe yourself if you haven't already. And thanks for tuning in. If you like what you've heard and you want to learn more, please do find us at www.QS.zone where you can subscribe to our training and support system for like minded subcontractors. In there you'll find templates, how to videos, interviews, and more.
Jacob Austin (00:18:29) - It's less than the price of a cup of coffee per day, and you can cancel any time. We're also on all your favourite socials at @QS.Zone. Thanks again! I've been Jacob Austin and you've been awesome.
