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Wednesday23 July 2014

What do I do if my novated contractor goes bankrupt?

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Novation essentially means that the contractor steps into the shoes of the employer, and takes both the benefit and burden of the contract.

Overview

Richard Brindley, executive director, RIBA Professional Services

Richard Brindley, executive director, RIBA Professional Services

It is common in design-and-build projects for the professional consultant’s contract to be novated to the contractor after the building contract is put in place. Novation essentially means that the contractor steps into the shoes of the employer, and takes both the benefit and burden of the contract. From the architect’s point of view this means that the person paying their fees changes from the employer to the contractor, so there is risk for the architect if the contractor can no longer pay.

Where you stand all depends on your novation agreement with the contractor and how you transferred your appointment terms and conditions from your original client for the project.
The contractor, or their administrator/receiver/successor, may be able to continue with the project; or the contractor’s client (your original client?) may be able to step in and take over the contract, with you still in place.

You also need to be clear about your contractual rights for payment and suspending or terminating your services. Patrick explains the options on this page. This can be a complicated issue as not all contracts are clear or watertight about this situation, particularly in bespoke novation agreements and collateral warranties, so get legal advice on your rights and options.

Your main concern is for your practice to continue to operate professionally and within your contractual obligations, while mitigating any risk of losses and liabilities.

The first thing is to assess and record the progress of your work on the project at the time of the contractor going bankrupt, or you becoming aware of it. This includes fees due, work-in-progress and any outstanding and urgent matters. If you have not received any formal notification from the contractor, or their administrator, you must write to them seeking their instruction and informing them of any liability issues such as CDM compliance and site safety.

You may also have contractual links and obligations to your original client. These can cause awkward One-Man-Two-Guvnors issues, but can come in handy when one of those “guvnors” disappears, as you can look to the other to pick up the pieces.

Check your contractual obligations. If these allow you to, contact the original client, or the contractor’s client, and see how you can help them (without taking on unintended liabilities) to keep the show on the road. The main client will usually still want the project to be completed, and you may be able pick up additional work advising them on how to get it going again.

Legal

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Patrick Perry, partner with London law firm, Clyde&Co

The first question is whether, although the contractor may be insolvent, it is possible that the contract will be continued. For example, this might be an option in an administration where the administrator continues to trade the company while looking for a buyer, or where the employer exercises step-in rights. This is less likely in a liquidation. The appointment may also specify the consequences of termination, but a possible outcome in respect of outstanding fees is that you will need to deal with the contractor’s insolvency practitioner and make a claim for any outstanding amounts due in the relevant insolvency procedure.

It is essential to check what the appointment document says about rights where payments have not been made by the contractor or in an insolvency situation. The appointment contract often provides that the architect can suspend services or terminate the contract (or have both options) in the event of non payment and statute will imply such rights of suspension for any qualifying “construction contract”. You should check these terms carefully, and consider the merits of suspending or terminating the agreement. Issues of design rights, and ownership of documents and drawings may all become relevant.

You should consider taking legal advice as to whether the terms of any collateral agreement you have provided to the employer will enable you to recover any fees that were due on the contractor’s insolvency, as well as taking advice on what ongoing liability you may have to the employer. There may for example be a right for the employer to step into the appointment, pay any outstanding fees and become the client again.

Administrators are not bound by the original contract so you must renegotiate

Circumstances like this are sadly increasingly commonplace. From an employer’s perspective, the insolvency of its contractor could spell disaster as projects may be left incomplete leading to increased costs and delays. You should therefore be mindful of the risk of the employer looking to the solvent contract administrator/ architect as a potential option for compensating its losses, particularly if a collateral warranty is in place. Consider all correspondence with the employer and contractor carefully and keep hold of all relevant records.
If you follow contractual procedures and are proactive, you should be able to manage the process and mitigate delays and costs.

Financial

Mark Twum-Ampofo, Partner with chartered

Mark Twum-Ampofo, artner with chartered accountant Kingston Smith

Where the contractor has gone into liquidation it is very unlikely that the company will continue to trade. If the assets of the contractor are purchased by a new entity you may be able
to negotiate with the purchaser to continue to perform your services. This will allow you to recover some value, although your success will depend on how far through the project is and whether or not your assistance is vital to its completion.

If the contractor is in administration, in which case the business continues to trade, the administrator is not bound by the terms of the original contract and you will need to renegotiate terms. You may be able to negotiate payment of outstanding fees but you will need to be in a strong position to achieve this; again it will depend on how vital your assistance is to completion of the project, and the administrator will need to have sufficient funds to pay you.

One important point to take away is that you should always seek prompt payment from your contractor; delays in payment past agreed terms may indicate problems before the contractor goes under and it is often a case of he who shouts loudest is paid first.

If your contractor is bankrupt and you are left with an unpaid invoice you will receive tax relief on the bad debt.

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