Adjudication Matters: August 2023

Introduction

Inflationary price increases and repeated interest rate hikes are continuing to exert financial pressure on companies across the UK. Companies may therefore increasingly be required to scrutinise both their payment rights and obligations, and their formal dispute resolution options for existing and future construction projects. This special edition of Adjudication Matters examines the right to refer disputes to adjudication, and the payment mechanism requirements for construction contracts under the Housing Grants, Construction and Regeneration Act 1996 (the Act).

Do you have a “construction contract”?

It’s important to identify whether you have a “construction contract” under the Act as it can impact your payment terms. Notwithstanding what the contract says, the Act (through the Scheme for Construction Contracts 1998 (the Scheme)) will imply terms if required and so you could unknowingly fall foul of a “smash and grab” adjudication. We set this out further below. Having a construction contract also means either party will have a statutory right to adjudicate.

You may have a “construction contract” if the contract requires the carrying out of, arranging for the carrying out of, or providing labour to carry out “construction operations”. The definition of “construction operations” within the Act is wider than many may expect.

Alteration, repair, maintenance, extension, demolition and dismantling works forming part of the land (whether permanent or not) will all ordinarily constitute “construction operations”.

Perhaps less obviously, the external or internal cleaning of buildings or structures can constitute “construction operations” where this is carried out in the course of their construction, alteration, extension or restoration. You may also be surprised to learn that the painting of internal or external surfaces can also constitute “construction operations”.

On the other hand, there are a number of exclusions as to what qualifies as a construction contract. Activities involving the drilling or extraction of oil or natural gas and minerals won’t constitute “construction operations”. Certain works relating to nuclear processing, power generation, or the production of food or drink have also been carved out.

Note that the Act doesn’t apply to a construction contract with a residential occupier, meaning works principally relating to a single dwelling which one of the parties intends to occupy as their residence.

Whether you have a construction contract isn’t always a simple “yes” or “no” answer. It’s possible that the Act may only apply to part of a contract.

The above isn’t definitive, and we would suggest you always consider and/or seek advice on whether you have a construction contract to which the Act applies.

Note the Construction Contracts (England) Exclusion Order 2022 which came into force on 1 October 2022, with the effect of excluding further activities from the definition of “construction operations”. Further information is available in the September 2022 edition of Adjudication Matters.

For further commentary on statutory exclusions to the adjudication regime; and specifically on the question of determining the “primary activity” of a plant, please see the August 2020 edition of Adjudication Matters which examines the decision in Engie Fabricom v MW High Tech Projects [1].

Collateral warranties can also constitute construction contracts where the warranty refers to both past and future performance of a party’s obligations. Please see the August 2022 edition of Adjudication Matters for further information.

Payment in construction contracts

As explained above, it’s important to determine whether you have a “construction contract” as the Act requires that a specific payment mechanism takes effect. If the payment mechanism in your construction contract fails to comply with the Act’s requirements, then the Scheme provisions will be implied into the contract as far as required to give effect to the Act. We summarise below some of the key requirements.

Interim payment

Where a construction contract involves works which are anticipated to continue for more than 45 days, the Act confers the right to ‘interim payment’. This means that the contractor has the right to be paid at regular intervals during the progress of its works. Where the contract is silent, such intervals will be implied as 28 days. It’s important to bear this in mind, particularly if you start receiving payment applications part way through a project.

Payment terms

The Act requires every construction contract to provide an adequate mechanism for determining what payments are due under the contract and when, and the final date for payment. A compliant payment mechanism must include:

• Due date: A contract must have a due date for when payment becomes due. If the contract doesn’t specify, the Scheme implies a due date of 7 days after the later of the date of valuation or when the unpaid party makes a claim.

• Final date for payment: This date establishes when payment is to be made by. If the contract is silent, the Scheme implies a timescale of 17 days from the due date. Crucially, if the paying party fails to make payment by this date and hasn’t served a pay less notice, then the unpaid party will acquire a statutory right to suspend performance of its works and/or could commence a smash-and-grab adjudication to recover the sums applied for.

• Payment notice: A payment notice is to be given no later than 5 days after the due date, even if the sum due is zero. This 5 day period is a statutory requirement and cannot be amended by a contract. The sum specified in the payment notice becomes the “notified sum”. It’s important to note that if the paying party fails to issue a payment notice, then the sum in the contractor’s application for payment can become the notified sum. For more information on payment notices please see our March 2023 edition.

• Pay less notice: If the paying party wishes to pay less than the notified sum, it must serve a pay less notice within the prescribed timeframe, otherwise it must pay the notified sum in full by the final date for payment. If the contract is silent, the Scheme implies a deadline that pay less notices must be issued not later than 7 days before the final date for payment. Where a pay less notice is served, the paying party must pay the amount specified in the pay less notice by the final date for payment (unless the amount due is assessed as nil, or a negative sum). For more information on pay less notices please see our September 2022 edition.

Conclusion

It’s important to understand whether an agreement to carry out services or works qualifies as a construction contract under the Act. Where you have a construction contract, both parties will have the right to refer disputes to adjudication and will be subject to obligations implied by the Act which may overwrite terms in the contract itself. One of the parties could remain unaware of their obligations to serve payment notices or pay less notices resulting in unexpected smash-and-grab adjudications. Parties should therefore ensure they understand whether they are operating a construction contract, and if so, what rights and obligations follow.

For more information about ‘smash and grab’ adjudications, please see this article written by Seumas Cram and published in Construction Management magazine.

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If you have any queries in respect of this bulletin or would like to know more about adjudication please contact Carly Thorpe.

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[1] Engie Fabricom (UK) Limited v MW High Tech Projects UK Limited [2020] EWHC 1626 (TCC)