JCT contracts and insolvency: should the contractor’s employment be terminated?
This is the third and final blog post in our series on JCT contracts and insolvency, this time looking at the issues around terminating the contractor’s employment in the event of insolvency.
Firstly, if an insolvency occurs (within the defined terms as described in the contract) the parties will need to consider whether to terminate the contractor’s employment for insolvency. The employer should be certain that the contractor is insolvent before terminating or the employer may be in repudiatory breach of contract.
Under the JCT provisions, termination for insolvency allows the employer to employ others to complete the works and make good any notified defects. On termination, the contractor has to provide the employer with its design documents, assign supply agreements and sub-contracts, if required to do so, and remove plant and equipment when required.
Following completion of the works and making good of defects, the employer must prepare a statement setting out the expenses it has properly incurred and any direct loss or damage caused to the employer for which the contractor is liable. The statement should include the amounts already paid to the contractor and the amounts that would have been payable had the contract not been terminated. If the amounts owed by the contractor exceed the amounts owed by the employer, the excess will be owed by the contractor to the employer as a debt and vice versa.
The employer may decide not to terminate the contractor’s employment in the event of contractor insolvency. Under the JCT contracts, if the contractor becomes insolvent, its obligation to carry out the works is automatically suspended and the employer’s payment obligations are suspended until the issue of a final account, whether or not the employer has given a notice of termination. The parties may agree a form of novation transferring the rights and obligations of the contractor to another contractor to continue the works, thereby minimising disruption to the employer. There may be a third party agreement such as an agreement for lease which is dependent on the building contract remaining in place, although this contractual position is not advisable when negotiating such documents. The continuation of the contract can also make it possible for the liquidator to realise any value remaining in the contract.
Before termination, the employer will want to check that collateral warranties, including (importantly) step-in rights, to third parties were provided at the outset by the contractor and sub-contractors and to the employer by sub-contractors. Any requirements to provide a performance bond or a parent company guarantee should have been fulfilled and the employer will need to check whether conditions have been met to make a call on a bond or claim under a parent company guarantee. Consents from third parties such as a funder may also be required prior to termination.
To conclude, whether there is a JCT contract in place or another standard or bespoke form of building contract, the employer, suppliers/sub-contractors, consultants and funders on a project should take active steps to guard against the risks of potential insolvency of contractors. All these parties should look out for warning signs and ensure they have the appropriate documentation in place, with clauses to mitigate the fallout from insolvency.
