This article is written by Nishka Kamath, a student at Nalanda Law College, University of Mumbai. This article seeks to give a brief overview of the issues related to construction and engineering contracts in India.
The term “construction” means any form of building or assembling but is generally limited to the creation of, or performance of work, or in relation to immovable property. This includes both building and construction works, according to the technical subject matter of the contract. A construction contract is a contract in which construction on an immovable land takes place. This construction can occur on any immovable property from an office to an apartment to a road.
In India, we do not have separate laws for construction like the United Kingdom or the United States of America. There are several types of contracts governed under the Indian Contract Act, 1872, one of them is construction and engineering contracts. Such contracts are mainly related to civil engineering activities. Say, for instance, if an owner of a property wants to build a structure, or the local government wants to lay a road or has plans of building a dam, such contracts would come under construction contracts. However, it is common for any sizable contract involving aspects of civil engineering to be referred to as a construction contract.
There are several types of construction contracts like lump-sum contracts, time and material (T&M) contracts, cost-plus contracts, unit price contracts, amongst others and several issues arise out of such contracts which are discussed in this article in brief.
Laws governing construction and engineering in India
The Indian Contracts Act is a law arranged into a systematic code and is based on the English Common Law to a great extent. In some western countries like the United Kingdom and some parts of the United States, there are specific Acts for Construction, whereas in India it is governed under the Indian Contract Act, 1872, just like other contracts.
For a contract to be valid it must be in accordance with other laws and regulations and not contradict any of them. Hence, depending on the type of contract under construction and engineering laws, the provisions of the following laws must be abided by:
- Labour laws including the Child Labour Act, 1986; the Minimum Wages Act, 1948; the Workmen Compensation Act, 1923 the Welfare Acts for women and children.
- Environmental Laws concerning pollution, forestry, etc.
- Land and Property laws.
- Sales of Goods Act, 1930.
- Related Laws pertaining to an individual’s State.
- Local Municipality/ Corporation Rules and Regulations.
- The Arbitration and Conciliation Act, 1996.
- The Limitation Act, 1963.
- Tax laws including the Income Tax Act, 1961.
All the employers and contractors must obey the relevant legislations in force in India or their particular state/city. For instance, the Workmen Compensation Act states that if any employee suffers an injury in the course of employment, then compensation has to be provided. Similarly, as per the Minimum Wages Act, the employer has to pay the minimum rate of wage as specified by the government. Moreover, under Section 194C of the Income Tax Act, a person who has the responsibility of paying any money to a contractor for carrying out any work is required to deduct tax which is commonly known as ‘Tax Deducted at Source (TDS)’ while making the payment.
Furthermore, social security legislation like the Employee Compensation Act, the Maternity Benefit Act, the Sexual Harassment at Workplace Act, apply to all employers and service providers who hire labourers or employees in the field of construction. The Code on Social Security, 2020 seeks to bring together and replace many Acts including the above ones, inter alia. Also, the Code on Occupation Safety, Health and Working Conditions, 2020 states that occupational safety and health standards that are announced under the Code or the rules, regulations or bye-laws under the Code must comply with the Code.
Relation between a contractor and an employer
In contracts related to construction and engineering, there is an involvement of two sides. One is the party(ies) who owns the property and another is the contractor(s). There can be more than one party on either side. The individual(s) or owner(s) to whom the property belongs are called client(s) or employer(s) and the contractor(s) or constructor(s) are called service provider(s) or employee(s). The reason behind the construction contract is that it enables the service provider to construct a thing as per the demands of the clients which is provided by the service provider for consideration.
The relation between the contractor/employees and that of the employer/client is, to a great extent, a delegated relationship, especially in terms of agreements. There is a need for a construction agreement to exist and thus to comprehend the quality, quantity, financial blueprint, and duration to carry on the project according to the client’s choices and requirements as construction comprises a vast and diversifying scope of work. With the absence of an agreement between parties or an incomplete or improper agreement, there is a possibility that either of the parties may have to face troubles in the near future. In addition, not keeping clear, the points like that of quality, quantity, time, finance will lead to suppositions at one point or the other causing doubt, which may lead to disputes further. To take an example, A, a client has mentioned the usage of products belonging to a particular brand to B, the service provider to construct a road, but due to the lack of lucidity in the contract agreement, B using this opportunity for his gains carries on with the construction work by using a cheap local product. Here, we can notice that A paid a high sum expecting the usage of high-quality products but the lack of clarity in the agreements resulted in A’s loss.
Standard forms of construction contracts and obligations on contractors
There are no stipulated standard forms of contracts for the Indian construction industry. However, several independent organisations around the globe have formulated contracts that can be adopted by companies and governments for use. They are designed to support faster negotiations and adoption of terms between the parties entering into a contract while providing jurisdiction and industry-specific flexibility.
There are specific standard forms of contracts for contracts related to specific construction activities, some of them are stated below.
For civil engineering construction, there is the International Federation of Consulting Engineers (FIDIC) providing standard forms of contracts that are used all around the globe including in India. The different types of FIDIC Contracts include-
- The Green Book
Short Form Contract (First Edition 1999) recommended for construction work of small capital value.
- The Red Book
Conditions of Contract for Construction for Building and Engineering worked designed by the Employer (First Edition 1999) recommended for guidance in conditions of contracts for cases where the design is constructed by the employer.
- The Orange Book
Conditions of Contract for Design-Build and Turnkey (First Edition 1995) which is aspired to be used for turnkey contracts.
There are several other FIDIC Contracts besides the aforementioned ones, they are- The Red Book (MDB Edition 2005), The Yellow Book: Conditions of Contract for Plant and Design-Build designed by the Contractor (First Edition 1999), The Silver Book: Conditions of Contract for EPC/Turnkey Projects (First Edition 1999), DBO Contract-Conditions of Contract for Design, Build and Operate Projects (2008).
Plus, apart from the FIDIC Contracts, there are other contracts like the ones listed out by the Institution of Civil Engineers (ICE) and the Indian Institute of Architects (IIA) which are commonly used. The Government construction authorities adopt their own contracts as standard contracts in accordance with the needs of the departments, especially for public-private partnership projects, such as the National Highway Authority of India (NHAI). Other than NHAI, many other government departments like the Public Works Department, Delhi Metro Rail Corporation, Indian Oil Corporation, National Building Construction Corporation, Central Public Works Departments, etc have their own standard form of contracts.
Also, in addition to the aforementioned contracts, there is another renowned standard form of contract titled as New Engineering Contract (NEC) established by the Institute of Civil Engineers (ICE) which provides a legal framework for project management procedures designed to deal with all aspects of the management of engineering and construction projects. This type of contract can be used for large and small projects, civil engineering and construction, domestic and international. There are several other standard forms of construction contracts such as the Joint Contract Tribunal (JCT) form of contracts, Association of Consultancy and Engineering (ACE) form of contracts, Association of Consultants Architects (ACA) form of contracts.
Last but not the least, management contracts are executed in the form of Engineering, Procurement and Construction Management Contracts. As the name implies, this type of contract is executed between employers and contractors, where the contractors are hired to manage the completion of a construction project while overseeing developments concerning engineering, procurement and construction of a project.
Right of lien in construction contracts
Many a time, a contractor or subcontractor might construct a property but may not receive any money for the work carried on or the service provided. In such cases, a contractor or a subcontractor may make a claim against that property for the work done which is referred to as a construction lien, sometimes called a mechanic’s lien.
Construction liens were formulated to safeguard professionals from the risk of not being paid for the work done. A construction lien makes it tough or impossible to put the property for sale or refinance it as it makes the title unclear. In a worst-case scenario, one can be forced to sell the property to provide compensation to the constructor.
A point has to be noted that, if an owner of a property is discontented with the quality of construction, avoiding paying the bill will not solve the matter. Thus, it is his/her responsibility to seek a resolution to correct the issue. A successful resolution ends with a so-called release of lien, which is a term used for a document that cancels the lien.
The laws related to construction lien differ from state to state. In India, the right of lien is available to a Bailee as per the Indian Contract Act under Section 170 for Particular Lien and Section 171 for General Lien.
Implied terms in a construction contract
The rights and obligations of the parties to the contract are determined by its terms. Express terms are terms that both parties have explicitly agreed to, and can be either in oral or written form. However, express terms do not certainly include all the applicable terms of the agreement. In some cases, the court is willing to imply terms in the contract, as long as the terms are necessary to make the agreement commercially valid.
Terms may be implied as a matter of law. In other words, they are implied as a matter of policy and are universally applicable to all contracts. Additionally, terms may be implied as a matter of fact. That is to say, as a matter of construction of the presumed intention of the parties to a specific contract.
It must be noted that, although the term will not be implied unless it is reasonable under that specific circumstance to imply such a term, this does not mean that the term will be implied merely because it is reasonable. In addition, if the terms are inconsistent with the express terms of the contract, the terms will not be implied. Even if unambiguous words in a contract produce a commercially unreasonable outcome, the court will not imply terms in the contract to change that outcome. But, the courts will imply a term in cases where it is too obvious that it shows that it must be implied, or to give a “business efficacy” to a contract.
The terms that may be implied in a construction contract include:
- A duty to cooperate: The employer must do what is needed to guarantee that the contract will be completed, by referring to clear contractual terms.
- A duty to relinquish ownership of the site with a rational time: This term applies only to specific types of contracts, for instance, no maintenance or refurbishment.
- An obligation not to hinder/prevent the contractor: The contractor must not be obstructed from doing his contractual duties or obligations under the contract in a regular and ordinary manner.
- An obligation to exercise discretion honestly, in good faith: The right to make a decision must be exercised for its proper purpose and must not be arbitrarily or capriciously.
A note must be taken that these terms can be excluded either explicitly or by any admissible surrounding circumstances. Also, the parties should always keep in mind the terms that are efficient to be applicable by both common law and statute, and consider whether any of them should (or can) be explicitly excluded. Contractual terms, including exclusion terms, must be lucid and uncomplicated to curtail the risks of further disputes. One must take expert legal advice on such matters as soon as it is possible to do so.
In the case of Indian law, the usage of both implied and express terms in construction contracts are recognized. Although the express terms can be identified easily, implied terms should be read in the contract while scrutinizing the intentions of the parties to the contract. But, such terms should not violate the intended business purpose of the contract as interpreted between the parties. While there are no set of agreement terms that may be implied in a construction contract, some obligations are interpreted as to be binding on both the parties i.e. the contractor and employer. For instance, a contractor is expected to perform his duties while maintaining a standard of care and must provide materials that are suitable for use in the specific work.
An interesting question may arise as to are there any terms that are unenforceable in construction contracts? The answer is yes, and those terms are as follows:
- clauses that allow an employer to unilaterally end a contract without any remedy to a contractor;
- unilateral and substantial modifications of the character of a contract by appending/removing the contractor’s obligations;
- provision for payment of an unreasonable amount in the form of liquidated damages;
- clause expressly prohibiting a party from asserting its rights under or with respect to any contract;
- the clause which restricts the time within which a party can assert his rights;
- any other clause which violates the provisions of the Indian Contract Act, 1872.
Major issues related to construction contracts
There are various issues that lead to a breeding ground for disputes including the complicated documents included in construction contracts along with the long duration of construction projects. The most common issues related to construction contracts are as follows:
- Employer’s right to make changes in the stipulated work and its limitations.
Can an employer owe the right to make changes in the work stipulated in the contract? Are there any limitations on the right?
The employer or engineer hired to perform under a construction contract can make changes to the work. When such modifications are made, the contractor has the right to demand additional payment so far as such modifications are within the scope of the formal authorization of the employer/engineer-in-charge. But, such changes must not significantly change the character of the contract in question and must be within the contractor’s capacity to perform.
- Omission of contracts and employers right to do it by self or delegate it.
Can there be an omission of work from the contract? If yes, can the employer do it himself or assign a third party to do it?
Yes, if there is an express term in the contract that allows omission, the employer or engineer may omit the work from a construction contract. However, such omissions must not deprive the contractor of his fair share of work on purpose. The employer cannot omit the work on a non-bonafide ground i.e in bad faith (and have it performed by someone else without the consent of the contractor).
- Float period and time extensions.
If the contractor allows in his plan a period of time (known as float) to allow for his own delay, but the employer runs out of time, for instance, a variation or modification in a project, in such case will the contractor be entitled to receive an extension of time if there is a delay after this float has timed out?
The float in a plan will be dealt with on the approach of ‘first come first serve’. Nonetheless, the presence of the float may mean that the contractor cannot request an extension of the time limit, but this will not prevent the contractor from claiming loss or expenses due to these modifications.
- The time limit for bringing claims against either party.
Is there any time limit beyond which the parties to the construction contract cannot bring claims against each other? How long does such a period last and what date is it calculated from?
According to the Limitation Act, 1963, there is a specific time limit for bringing judicial proceedings and for filing claims before the arbitral tribunal. As per this Act, the limitation period for filing a suit for breach of contract is three years from the date of occurrence either of the breach or the cause of action.
- Bearing the risk of unpredicted ground conditions.
Who normally bears the risk of conditions that are not predicted?
It is for the parties entering into a construction contract to agree as to who shall bear the risk of unpredicted ground conditions. Generally, construction contracts usually impose all the risks on the contractor.
- Bearing the risk of a change in the law.
Who usually bears the risk of a change in the law that would affect the carrying out of the work?
Mostly, the construction contracts have provisions for unexpected changes to the law. Usually, an employer bears the risks caused by the changes in the law, and any delay caused by this can be excused by extending the time to the contractor. Section 64A of the Sales of Goods Act, 1930 stipulates that if there is an accretion or reduction in tax or the imposition of a new tax on goods after the contract for the sale or purchase of goods has been made, in the absence of any provision on the payment of this tax, any raise will entitle the seller to an additional amount equivalent to the contract price and the buyer will be accountable to pay the increased amount to the seller. Although, if the tax is reduced, the buyer will have the authority to deduct the corresponding amount from the contract price and the seller will be accountable to pay that to the buyer. This provision applies to any customs duty or excise duty on goods and any tax on the sale or purchase of the goods.
- Intellectual property rights in relation to design and operation.
By whom are the intellectual property rights held in matters relating to the property’s designs and operation?
Typically, a contract for service has provisions that allow an employer to claim ownership of any intellectual property that may be created by employees in the course of employment. In the case of construction contracts, the intellectual property rights in the form of designs and operations of the property are vested with the employer.
- Suspension of work by a contractor.
Can a contractor suspend work?
Yes, a contractor, under a construction contract, has the statutory right to suspend his performance of his obligations in accordance with any of the reasons specified in the Indian Contract Act, 1872. Circumstances in which a contractor may suspend performance are- employer’s failure to perform any obligation or a significant delay to perform it, failure to make payments for the amount of work completed, failure to adhere to the conditions upon which the performance is contingent, force majeure, etc.
- Settlement of ambiguity in terms.
In matters where the terms of a construction contract are unclear, are there any rules to resolve as to how this ambiguity has to be interpreted?
An attempt should be made to solve any ambiguity in terms with well-recognized rules of contractual interpretation, like the rule of literal interpretation, harmonized construction, giving effect to the intent of the parties, and exercising the interpretations which favour the business efficacy of the contract. These principles must be applied in the same order. If the ambiguity persists in the application of the aforementioned rules, the rule of contra proferentem may be applied.
- The doctrine of the duty of care.
Do parties to a construction contract have an obligation to care for each other in contract or under any other legal doctrine?
The principle of “duty of care” is rooted in the law of torts and requires that a person observe a standard of care when performing any activity that could harm others. This obligation applies to all such individuals who, on a reasonable view, can be envisaged to be affected by the acts of an individual. Thus, the doctrine of “duty of care” applies to all the work related to the constructions executed by the contractor. A liability of negligence may occur for any harm caused to individuals who could foreseeably be affected by the act of the contractor.
- Third-party claims.
Do non-contracting parties have the right to claim the benefit of any right in the contract established in their favour?
Third parties may not claim or enforce the terms of the contract against the party to a contract. This principle originates from the doctrine of “privity of contract”, which grants rights and obligations only to the parties to a contract. Thus, in the context of construction law, a contractor cannot be subjected to claims from third parties to a contract related to construction. However, third parties have the right to seek remedies under the law of torts for the damages suffered due to the negligent actions of a contract. As a result, a contractor may be subjected to claims under tort law for negligence.
Resolution of disputes
Disputes may arise from the formation of the contract concerning the existence of a valid contract. Contractual interpretation of the key provisions and inconsistent terms in the documents that form the whole contract can, as well, cause disputes. Another major reason leading to disputes is the delay in the completion of a construction project. Time is of the essence in every construction and yet the most common disputes are arising out of delays in finishing the project. There are other types of issues like breach of contract, wrongful termination, wrongful withholding of retention amount, etc.
Once a dispute has arisen, the problem is recognised, the danger is allocated, the next action is to determine what remedies may be required to be claimed under the law. The prime remedies available to the non-recalcitrant parties include the specific performance of contracts, damages and injunction. Liability may also arise under the law of torts.
The dispute resolution mechanism which is chosen by the parties varies depending on the nature and type of the construction project. The main focus of the dispute resolution mechanism should be always on ensuring maximum time and cost savings while being effective. Since a lot of variable factors are involved in construction, parties adopt innovative and flexible mechanisms. These include multi-tier dispute resolution clauses (a combination of alternative dispute resolution mechanisms), the establishment of dispute resolution boards and, occasionally, although very rare an occasion, through the local courts.
Whereas in India, there are various recognised methods to resolve disputes arising out of construction contracts, including resolving disputes by way of court litigation, arbitration, mediation, conciliation, dispute resolution boards and judicial settlements. Amongst the aforementioned mechanisms, arbitration is the most common mechanism to settle disputes arising out of construction contracts.
Construction and engineering contracts are those contracts that are formulated for civil engineering activities such as laying down roads, building dams or constructing a new office. Because India does not have any specific separate law for construction like western nations like that of the UK and US, construction contracts usually fall under the ambit of the Indian Contract Act, 1872.
As there are multiple types of construction contracts like lump-sum contracts, time and material (T&M) contracts, cost-plus contracts, unit price contracts, amongst others, there arise several issues like complicated documentation in the construction contracts, long-duration of construction projects, inconsistent terms in the documents which may cause issues and further lead to disputes. In India, there are various recognised methods to resolve disputes arising out of construction contracts, including resolving disputes by way of court litigation, arbitration, mediation, conciliation, dispute resolution boards and judicial settlements.
To avoid issues, disputes and losses, the parties entering into a contract must always formulate and sign a construction contract. An individual must take expert legal advice on such matters as soon as possible.
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