Guarantees and warranties

Common forms of guarantee in the construction industry include:

• A guarantee instrument issued by a bank or insurance company that a party, such as a builder, will perform the obligations under the construction contract and in the event of default the guarantee may be called upon to cover any loss or damage incurred by the other party to the contract such as a principal or owner.
• A personal guarantee where an individual guarantees the performance of a company that has limited assets.
• A deed of guarantee and indemnity or 'Parent Company Guarantee' given by a related or parent company which is a company holding assets guaranteeing the performance of the builder under the construction contract. If the builder defaults on its contractual obligations, the guarantor company will step in and assume the responsibilities and obligations owed by the builder to the relevant parties.

Warranties

A warranty in a construction or consultancy agreement is usually an undertaking that works, services or products attain a certain standard. The party providing the warranty is usually responsible for directly or indirectly performing or procuring the work, services or a product.

Warranties may be:

• expressly set out in the contract (for example, a warranty that services will be provided to a particular standard or that the works will be fit for the purpose stated in the contract)
• formed by legislation
• implied by common law.

If the warranty is found to have been breached then the party benefiting from the warranty will generally have a right to claim damages. The innocent party may also have a right to terminate the contract for default where it can be established that the warranty was an essential condition of the contract and breach of the warranty is a fundamental breach of the contract.

Certain warranties are implied by law (both legislation and common law) in relation to transactions involving the sale of goods. The relevant laws applicable to warranties are the Sale of Goods Acts in each Australian state and territory and Schedule 2 of the Commonwealth Competition and Consumer Act 2010 (often referred to as the Australian Consumer Law). Broadly speaking, the provisions in this legislation provides a set of implied warranties and 'consumer guarantees' which maintain a set standard of quality for goods or services. Most of the protections offered apply only as between the buyer and the seller of goods.

Another example of warranties formed by legislation are the warranties in the various Australian state and territory domestic or home building legislation. This legislation provides that the builder warrants to the owner (and subsequent owners of the relevant building) matters relating to the quality of work and materials used. The warranties cannot be excluded. The warranties are also repeated in the relevant domestic or home building contract. For example, the warranties set out in section A3 of the ABIC SW 2018 H contract reflects sections 8 and 20 of the Domestic Building Contracts Act 1995 (Vic).

Collateral warranties

Collateral warranties are also known as a 'subcontractor warranty' or a 'third party warranty' and create a contractual relationship between a party to the primary contract and a third party (for example subcontractors, financiers or tenants) who have an interest in the relevant building works. The contract exists in addition to any obligations assumed under the primary contract.

In a construction context, if a subcontractor is engaged by a main contractor to the primary contract, the separate collateral warranty will provide the owner with enforceable rights against the subcontractor directly. In the event where there is a defect in the works or material supplied by the subcontractor, then the owner may initiate a claim against either the main contractor under the primary contract or subcontractor under the collateral warranty for the defective work.

Warning

Relevant considerations in relation to warranties depend on whether the party is providing the warranty or receiving the benefit of the warranty. A party who is providing a warranty should carefully consider the drafting of any warranties and ensure that these can be satisfied. For example, consideration should be given for the length of time the warranty will be in place.

Further care should be taken to check whether the obligations assumed under the warranty would be covered by a professional indemnity insurance policy. Many professional indemnity insurance policies exclude liabilities that arise because of an obligation assumed under the contract that otherwise would not fall within a parties legal obligations.

It has become increasingly common for contract documents to make provision for warranties by the contractor or subcontractors. The warranties offered may contain conditions and exceptions which actually amount to a limitation of liability rather than providing the protection of a warranty. For example, the warranty clause may provide that the only remedy for a defect is repair or replacement of the defect meaning the owner may be precluded from claiming delay costs or other damages arising as a result of the defect or that after a defined warranty period the contractor has no further liability.

Warranties are not undesirable and will be necessary in some circumstances but it is important to look at any warranty proposed and make a judgement as to whether it would give an owner extra protection or whether it limits existing liability. If a warranty extends the liability of a contractor or subcontractor for work done or goods supplied, it has value, but you should always analyse the warranty offered. Do not assume a warranty provided by the warrantor is unconditional.

When in doubt about the wording of the warranty, seek or suggest that the owner seeks legal advice before approval to the warranty is given.