14 Apr 2014

There is commonly confusion around builders’ and contractors’ right to payment when disputes arise or contracts are terminated before completion of works.  Where does the confusion lie and what is the contractor’s right to payment for incomplete works?

Construction contracts usually provide for progress payments, either expressly, or because it is an implied term under (in Western Australia) the Construction Contracts Act 2004.

However, at law, progress payments are interim payments on account only (most of the standard contracts reflect this).  Where the contract is a lump sum or fixed price contract that sets out a scope of works and a price to be paid to the contractor for completing it, the principal does not become indebted at law to the contractor for any part of the contract price until the works are substantially completed.  Substantial completion means completion of the contractor’s entire obligation except for minor defects and omissions.  The contractor’s right to interim payments are just that – interim contractual rights and not final rights.

The implication of this is that when the contract is terminated before the works are substantially completed, the principal does not owe the contract price or any part of it to the contractor unless the contract expressly provides otherwise.  (There are different provisions dealing with this in various of the standard contracts).  In some cases, the principal may even have a case to recover progress payments already made before the contract was terminated.

So if the contract does not allow the contractor to recover part of the contract price,  where does this leave the contractor? 

The contractor can choose between two alternative bases for recovering payment where the contract is terminated before the works are completed (provided the contractor is not at fault).  They are:

(a)  if the termination was the principal’s fault in a legal sense (and this is often a complex question), the contractor can sue for the lost opportunity to earn a profit on completing the works under the contract. Most standard contracts have provisions that deal with this; or 

(b)  the contractor can sue for payment of an amount representing the fair value of works actually done by the contractor and freely accepted by the principal (known as “quantum meruit”). Free acceptance will usually be readily inferred when the principal requested, or contracted for, the very works that are claimed for. (The current state of the law denies the contractor recovery on a quantum meruit basis where the contractor is at fault.  Further, if the contractor was at fault, it will also likely have to face the principal’s claims for lost opportunities to profit from the use of the completed structure, or having to pay other contractors more than the original contract price to complete the works that the contractor did not do).

 

The “fair value” option may be of benefit to contractors whose contracts contain a bad bargain in that they specify a scope of works that costs more to carry out than the contract price or leave the contractor with an insufficient profit margin on completion.  However, experience shows that these are the most complex and time-consuming claims to run, which often ends up benefitting no one.  The reason is that, once the contract is set aside, it no longer sets the value of any part of the works.  This means that the parties each have to pick the works apart, often item-by-item, and find another way to evaluate them, usually with the aid of expert evidence from quantity surveyors and the like.  That may be alright when the works are relatively minor but for more complex projects this kind of painstaking analysis can come at a cost that is disproportionate to the outcome sought.

Contractors may have problems establishing a right to be paid for work done even when the contract is still on foot, for a variety of reasons, including:

(a)  departure from the contractual procedure for variation, in which case the contractor may have to establish a separate, implied promise to pay either a fixed sum or fair value, waiver of the principal’s right to insist on strict compliance with contractual procedures or the principal’s free acceptance of works with knowledge that the contractor expected to be paid for it; and 

 

(b)  disputes about whether the works constitute a variation of the contract or remediation of defective works, or are simply part of the agreed scope of works.

 

There are four main ways for a contractor or a principal to claim payment in relation to construction works which we will explore further in a separate article:

(a)         adjudication (which is quick, relatively inexpensive, final and binding but not determinative of the underlying dispute);

(b)         statutory demand under the Corporations Act 2001 (which again, is quick, inexpensive, but easily defeated, puts legal costs at greater risk and gives the claimant little control over the process); and

(c)         Court action for debt, damages or on a “fair value” basis (which will involve proceedings either before an arbitrator or judge and is slower and more expensive but final and binding. It gives parties the most control over the process, including any negotiated settlement);

(d)      mediation or conciliation (which can be done before or alongside any of the other options and in our experience mediation is most effective when done alongside one of the other claim processes).

 

This is general information only, and does not constitute specific legal advice. Murray Thornhill is the Director at HHG Legal Group with the Litigation/Commercial Law team. Daniel Morris is an Associate with the Litigation/Commercial Law team at HHG Legal Group. If you would like further details in relation to this information, please contact HHG Legal Group on 1800 609 945.

 

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