When it comes to construction contracts, there are often multiple parties involved, each with their own interests and concerns. An important aspect of these contracts is third party rights, which allow individuals or organisations who are not directly involved in the agreement to enforce certain terms or protections.
In this article we look into third party rights in construction contracts, examining the legislation that governs them, the benefits they offer, and the importance of collateral warranties in ensuring their effectiveness.
Whether you are a contractor, subcontractor, or other party involved in the construction process, understanding third party rights is essential for protecting your interests and ensuring a successful project outcome.
What are third party rights?
Third party rights exist to enable a third party who is not a party to a contract to enforce the terms of the contract.
In construction documents, third party rights are often a set of rights expressly enforceable by a third party and set out in a schedule to a professional appointment or building contract.
Third parties who often acquire third party rights are as follows:
- Funders;
- Purchasers; and
- Tenants who occupy the premises after completion.
Which piece of legislation regulates third party rights?
The Contracts (Rights of Third Parties) Act 1999 (“the Act”) regulates third party rights in a construction context.
The introductory text to the Act confirms that this is an act to make provision for the enforcement of contractual terms by third parties.
Section 1(1) of the Act allows the parties to a contract to grant a third party the right to enforce a term of that contract. Section 1(1) states as follows:
Subject to the provisions of this Act, a person who is not a party to a contract (a “third party”) may in his own right enforce a term of the contract if-
(a) the contract expressly provides that he may, or
(b) subject to subsection (2), the term purports to confer a benefit on him.
However, it should be highlighted that in accordance with subsection (2):
Subsection (1)(b) does not apply if on a proper construction of the contract it appears that the parties did not intend the term to be enforceable by the third party.
Prior to the introduction of the Act, parties relied on collateral warranties to protect third party rights, and indeed, this practice continues.
Whilst third parties can rely on the Act, it is restrictive. The Act does not allow a third party to be put under an obligation to do something (a burden) and only allows a third party to enforce the benefit of a contractual term.
Furthermore, where third party rights are not to be retained within a construction contract, the parties to the contract exclude the Act.
Why are third party rights required?
If a third party, for example a funder, purchaser or tenant involved in a construction project, suffers loss or damage caused by a party involved in the design or construction of a project, third party rights exist to protect their legal rights.
Defective design or workmanship could cause such parties different losses. An employer is likely to have a contract with the party responsible for a defect; however other parties may not have.
If third party rights are excluded, third parties may be able to obtain rights by:
- Collateral warranties – these can be used to specifically create a contract between a third party and the professional consultants/contractors; or
- Assigning the benefit of the construction documents to a third party; or
- Operation of the law of negligence – regardless of the existence of a contract, a duty of care is owed by those parties involved in a construction project and therefore third party claims in negligence are common.
However, there are various reasons why third parties may choose to rely on third party rights within a contract as opposed to relying on collateral warranties, assignments, or the law of negligence. Some of these reasons are as follows:
- The construction industry is becoming increasingly familiar with third party rights and in particular how to handle the issues that may arise from the inclusion of third party rights within a construction contract.
- Third party rights can be incorporated into a contract or a professional appointment and therefore the parties do not have to create additional agreements to establish the rights. Effectively, this saves time and money.
- The law of negligence only allows for direct consequential loss and does not allow for pure economic loss. Therefore, a third party does not gain the same breadth of rights as those arising under a contract.
- Often there will be a bar on assignment of the benefit of the construction documents to a third party.
What are collateral warranties and why are they needed?
A collateral warranty is a contract in respect of which an individual involved in a construction project warrants to a third party that it has complied with its obligations pursuant to that project.
Parties may choose to use a collateral warranty rather than relying upon the Act, assignments, or the law of negligence because:
- The construction industry is historically comfortable with collateral warranties.
- The Act does not allow a third party to be put under a burden. The Third Party Rights Act 1999 allows a third party to enforce the benefit of the contract terms only.
- A collateral warranty is a separate contract between the parties to the collateral warranty. It may be enforced, and its benefit may be assigned on the terms set out in the collateral warranty.
- An assignment of the entire benefit of a construction document means that the assignor could not later make a claim under the construction document.
- An assignment would only assign the benefit of a construction document to one party. Separate collateral warranties can be given to more than one party.
Overall, it is clear that the protection of third party rights in respect of construction projects is crucial for the following reasons:
They provide security – if something goes wrong on a construction project, a party who has suffered a loss will want to be able to claim its losses directly from the person who caused the loss; and
Claims in negligence are less likely to succeed than claims in contract – the law of negligence does not allow claims for pure economic loss, and therefore parties need to be able to rely on a contract.
If you have any queries about any matters then please do not hesitate to contact Lewis Cohen on 07956964466 or email lnc@blasermills.co.uk.
This article is for general information only and does not constitute legal or professional advice.
