Essential terms of a residential building contract
From 1 January 2015, it has become mandatory to have a written contract for all residential building work that costs $30,000.00 (including GST) or more (however, this rule does not apply to sub-contracts between a main contractor and a subcontractor).
Regardless of whether the construction work costs more or less than $30,000.00, you should always have a written building contract.
In an industry where disagreements are common, a written contract helps to protect your client, and more importantly, yourself, if disputes arise. In this article, we discuss the important terms that should be addressed in any residential building contract.
The Parties – who are you contracting with?
It is easy to assume that the people you are dealing with are the parties to the contract. This is not always the case. It is possible that the property/business could be owned by a company or, more commonly, by trustees of a trust.
For the contractor, failure to identify the correct party could mean that you are contracting with a party who may not be able to meet the financial costs of the project. Before entering a contract, the contractor should always ascertain who the owner of the property/business is and whether that person has the ability to pay for the project. Failure to do so could mean that the contractor would be providing its services for free.
Contract Price
In the context of residential building work, generally, there are two main ways for the contractor to charge:
- Fixed price; or
- Cost-plus margin.
Each has its own advantages and disadvantages.
A fixed price basis is an agreement to perform work at a set price. That price includes all costs and profit.
A cost-plus margin basis means that the price of construction is the cost, plus a margin for profit. The cost includes the cost of materials and labour along with indirect costs known as “overhead”.
For the contractor, cost-plus margin allows the contractor to be reimbursed for all costs and ensures a profit. Under a fixed price contract, the contractor must ensure that the cost of construction is less than the price quoted, or it may not make a profit.
For the homeowner, cost-plus margin allows flexibility and control over costs of the project in that the project can be suspended if there are insufficient funds to continue. However, there is also uncertainty of the final cost. A fixed price contract provides certainty but binds the homeowner contractually to pay for the entire amount in the contract.
Provisional sums
The contractor should consider whether there are any elements of the works that are not yet defined in sufficient detail to price in a contract. If so, the parties could agree that these elements are provisional sums. The contract should provide expressly how it is to be dealt with. A common clause provides for the provisional sum to be omitted and an appropriate valuation of the work carried out to be substituted for it.
As provisional sums are replaced by valuations of work performed as the project progresses, the contract sum may increase or decrease. The clause should also address the potential costs and extensions of time that might be claimed to avoid potential disputes.
Scope of work
The scope of work sets out the work that the contractor has been engaged to provide. You should always be as precise as possible when defining what is included within the scope of work. Failing to do so may mean that work can be implied to be included within the scope of work if it is incidentally required, potentially at your expense.
For example, if a plan shows that the contractor is to install a door and the specifications do not specifically refer to any hinges on those doors, supplying the hinges are part of the scope as it is necessary for the completion of that work.
Failure to define what is included within the scope of work is a common area of dispute. Accordingly, it is always advisable to include and refer to all plans and specifications. Precisely defining the scope of work will not only prevent disputes on what is included within the scope of work, but also disputes as to whether a variation is in fact a claimable variation.
Insurance
There are risks for the homeowner and contractor in any construction project.
The law does not require the homeowner and/or contractor to insure unless the party expressly undertakes that obligation.
Insurance may not be necessary if the parties are willing to accept certain risks. However, it is strongly recommended that a homeowner obtain Contract Works insurance before undertaking any major home renovations or building a new house.
Variations
All building contracts should have a variations clause. The clause should set out:
- What can be varied;
- The process to be followed; and
- How the variation is to be valued.
It is important for contractors to take note of the process required under the contract, or disputes are likely to arise. The process could include documenting the variation and submitting it to the homeowner or the homeowner’s agent, or the process could be a verbal instruction with no requirement for it to be documented.
In respect of the latter, this creates risk to the contractor in that the variation could be disputed and the contractor will have to prove that consent was given. As a general rule, if the contract does not require variations to be documented, contractors should document all variations to avoid disputes.
Practical Completion
Given that practical completion is a common trigger for payment, contractors should be aware of the conditions to achieve practical completion. Under some contracts, it is insufficient to complete construction of the building to claim practical completion. It is common for clauses to require a certificate to be provided to the architect together with all necessary documentation and warranties for practical completion to occur. We recommend understanding the requirements for practical completion and carefully following any procedure outlined in the building contract.
Dispute Resolution
It is common for contracts to stipulate how disputes are to be determined. These provisions may be limited to contractual disputes or to cover all disputes. Aside from the contract, it is possible for the parties to agree on a particular means of resolving the dispute when it arises.
In addition, the Construction Contracts Act 2002 (CCA) also provides that the parties have a right to refer the dispute to adjudication, despite the procedure outlined in the building contract.
The purpose of the CCA is to reform the law relating to building contracts and, in particular:
- To facilitate regular and timely payments between the parties to a building contract; and
- To provide for the speedy resolution of disputes arising under a building contract; and
- To provide remedies for the recovery of payments under a building contract.
Accordingly, where the parties to a building contract are looking for timely payments and a speedy resolution to a dispute, adjudication is a preferred dispute resolution procedure.
While adjudication is a relatively quick process, it is important to note that it only provides the party with interim relief. While an adjudication determination is binding in the interim, and any amount awarded is due and payable within 2 working days of the determination, a final determination of the matter can be made if the matter is referred to arbitration or the Courts. However, it is common for disputes to be resolved through adjudication as it is often uneconomic to pursue the dispute further due to the costs involved.
Summary
The contract will have to be adjusted for each individual project to meet the project specifications.
There are various standard forms available to the parties. However, it would be unwise to simply sign a contract without carefully considering its specific terms and conditions.
If you have found yourself in a dispute over the terms of a contract, our lawyers at Norling Law can review your contract and discuss potential strategies to resolve the matter quickly. To book a free 30-minute consultation please click this link https://norlinglaw.co.nz/consultation-br
Brent is the Director of Norling Law. He has a wealth of experience in the District Court, High Court, Court of Appeal and Supreme Court. Brent is passionate about negotiating favourable outcomes for his clients and able to implement this in his daily negotiations.
Anna practices in the area of commercial litigation and has appeared as Counsel in the District Court, High Court and the Court of Appeal, having successes in all Courts. Anna has a special interest in corporate, insolvency and relationship property law.
Wendy has over 20 years’ experience in civil litigation in New Zealand with a main focus on construction, insolvency and debt recovery and security enforcement.