Construction Contracts: Form Agreements and Special Considerations - ABA YLD 101 Practice Series

By Tiffany Arnold

There is no such thing as a problem-free construction project yet somehow it has remained common in the construction industry to operate on a handshake. Drafting and negotiating agreements takes time and the parties are often too eager to get started to wait for an executed contract. For that reason it is essential to get a contract drafted and sent for signature at the earliest stage possible.

There are several form contracts sponsored by different organizations. Most of these contracts address the essential areas, provide a good starting point for drafting, and have entire families of documents to ensure that all of the project's contracts work in accordance with each other and provide consistency for all parties. The most widely used standard form contracts are produced by the American Institute of Architects (AIA). Other common form agreements are published by the Engineers Joint Contract Documents Committee (EJCDC) and the Design-Build Institute of America (DBIA). The Associated General Contractors of America (AGC) sponsors the ConsensusDOCS, a set of forms that purports to represent all players in the construction industry. It should be noted that the vast majority of the organizations endorsing the ConsesusDOCS are comprised of contractors. While each sponsoring organization seeks input from other parties and strives to have a well-rounded document that represents all interests, form contracts tend to be most favorable towards the sponsoring organization's profession. Should you use a form agreement, no matter by whom it is produced, modifications will be necessary to best protect the client on each specific project. For purposes of this article, references to the form agreements will be to the versions current as of January 2010. There are too many essential provisions to address here, but the form agreements will help ensure that they are brought into consideration. Some of the potential problem provisions are discussed below.

One of the main factors leading to construction claims is unmet expectations. To ensure that both parties are on the same page from the beginning, it is important to make sure that the scope of work is detailed and well defined. Just as important as stating what the contractor or designer will do is stating what they will not be doing. This helps clarify what the responsibilities are and sets clear expectations up front.

It is important for contractors and designers to have a waiver of consequential damages to control foreseeable damages and limit risk on a project, especially on commercial and industrial projects (think lost business opportunity and profits). Most form agreements contain some sort of mutual waiver of consequential damages. While most parties will benefit from such a waiver, a waiver may not be in the best interest of the owner because the owner has the most to lose if it cannot recover consequential damages.

Liquidated damages are often used in agreements with contractors as a way to encourage timely completion of the project, to control damages, and to avoid litigation by determining the damages up front. Liquidated damages, however, are not typical in a design contract and are likely not covered by a designer's insurance. Liquidated damages must be reasonable and if deemed to be a form of punishment they may not be upheld. If the contract contains both liquidated damages and a waiver of consequential damages, these two provisions must be carefully drafted to make sure they don't conflict.

One of the biggest problem provisions in a construction contract is the indemnity. The Owner, or the uphill party in a subcontract, wants to make sure that they are indemnified against the other party's negligence. In order for an indemnity to be fair (and often insurable) to the indemnitor, it should be limited to the extent of the indemnitor's negligence. Many states have anti-indemnity statutes making it unenforceable for a party to indemnify an indemnitee against the indemnitee's own negligence. Still other states will require very specific language in order to hold such an indemnity enforceable. Indemnities sometimes include a duty to "defend" at the onset of an allegation, even if the indemnitor is ultimately not found to be negligent. The AIA and EJCDC form agreements do not include the term "defend" as it is often uninsurable for designers, but some agreements, like the DBIA, do include this language. The ConsensusDOCS imply a duty to defend but attempt to provide for reimbursement of defense fees above the indemnitor's percent of negligence.

Considerations for Designers:
Professional liability insurance for architects and engineers typically will only cover the normal standard of care. A higher standard may result in the client assuming extra liability and not being covered by its insurance. Language such as "highest standard of care," or "to the owner's satisfaction," and any language creating a warranty or guarantee puts the designer at risk. When drafting or reviewing a contract for a designer, be sure to understand the limitations of its insurance policy.

Designers should not be responsible for jobsite safety or construction means and methods and should specifically disclaim this type of liability. Some of the largest claims can result from accidental death or injury and any contract language which could imply that the designer has a duty to the injured party has the potential to result in huge liability. This includes any contract language making the designer responsible for supervising construction, reporting safety violations, or giving the designer the authority to reject work.

Use a careful eye on any agreement which appears to have been originally written for contractors or where the contractor or design-builder drafted the contract (including DBIA and ConsensusDOCS, both of which have provisions increasing the designer's liability and putting the project outside of insurable limits). Because design-builders and contractors receive a much greater benefit on the project they tend to be willing to take on more risk and in turn attempt to pass down the same amount of risk to the designers.

Considerations for Subcontracts:
(This discussion will use general contractor and subcontractor as the contract parties but applies equally to contracts between a designer and its consultant.)

One main consideration for the general contractor in a subcontract will be to ensure that the provisions of its agreement with the owner flow down to the subcontractor. Simply referencing the agreement may not be sufficient to bind the subcontractor to its terms and conditions. To ensure that the agreement flows down to the subcontractor, be certain to specifically incorporate the document and to state that all of the obligations that the general contractor has to the owner, the subcontractor has to the general contractor. For the subcontractor, it is very important to read the incorporated document to ensure that all of the provisions are acceptable. The EJCDC documents do not incorporate the prime agreement. The ConsensusDOCS, DBIA, and AIA documents do have flow down language but provide for the subcontract to control in any conflict so that unacceptable provisions can be conflicted out or modified with well drafted language in the subcontract.

Pay-when-paid or pay-if-paid provisions are used to relieve the general contractor of the burden of paying its subcontractors before it has received payment from the owner. Generally, a pay-when-paid provision states that the subcontractor will be paid after the general contractor receives payment from the owner. Many states will construe this as creating a timeline for payment, putting the subcontractor on notice that payments may be delayed, but often hold this language does not eliminate the general contractor's duty to pay its subcontractor. Most form agreements contain pay-when-paid language in subcontracts. Several states have prompt payment acts providing a time frame for payment so it is important to make sure that payment provisions comply with the statutes. A pay-if-paid provision on the other hand shifts the risk of non-payment to the subcontractor and seeks to eliminate the general contractor's obligation to pay the subcontractor if payment has not been received from the owner. In some states pay-if-paid provisions are unenforceable since the general contractor, not the subcontractor, is in the best position to evaluate the owner's ability to pay. Even in states that will uphold pay-if-paid provisions, they generally must be worded in a meticulous way, so be sure to check case law.

There are many more considerations in a construction contract. Using a form agreement is a good starting point and is familiar to clients but attention must be paid to the specific needs of the project and of the client. When drafting, be sure to check local statutes and case law.

A good quick reference for state specific law is A State-By-State Guide to Construction and Design Law, edited by Carl J. Circo and Christopher H. Little, published by the American Bar Association,


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About the Author

Tiffany Arnold is Corporate Legal Counsel at Henderson Engineers, Inc. in Lenexa, Kansas.

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