Net Contribution Clauses – it all becomes clear

General Papers and Articles

A net contribution clause is a way of limiting a consultant’s liability.

Net contribution clauses – a reminder

In the context of construction, if there is a problem with a project that results in a loss, this is often the fault of more than one of the parties designing or constructing the project. The party suffering the loss can then sue any of the parties at fault and each will be 100% liable for damages, whatever their share of the blame. This is because of the common law doctrine of joint and several liability.

What a net contribution clause says is that where two or more parties involved in a construction project are each jointly liable for the same loss or damage, the liability of each party will be limited to the amount which would be apportioned to that party by a court.

Without a net contribution clause, if a consultant and a contractor are each liable to an employer for the same defective work, the employer could recover 100% of its damages from the consultant, despite the joint liability of the contractor. The consultant could then seek to recover a share of those damages from the contractor under the Civil Liability (Contribution) Act 1978. The effect of a net contribution clause is that if the court finds the consultant only partly liable for those damages, the employer can recover only a percentage of its damages from the consultant, although it could bring a claim against the contractor to recover the rest of its damages.

The problem, from the consultant’s point of view, arises when the contractor is insolvent. Without a net contribution clause, the consultant could find itself liable for the entirety of the damages without anyone to turn to.

For that reason, the professional indemnity insurers of professional consultants usually request that a net contribution clause is included in appointments and collateral warranties.

One can see the benefit to consultants and their insurers. After all, it could be viewed as unfair to expect them effectively to take on the risk of insolvency of a contractor that they did not appoint. However, from an employer’s point of view, the net contribution clause transfers that risk to the employer in circumstances where it cannot insure against it and where it may not be acceptable to a funder providing development finance.

These clauses can therefore be seen as contentious and their validity will often be challenged. This is what happened last year, when Mr & Mrs West challenged the validity of a net contribution clause in the terms of appointment of their architect, Ian Finlay and Associates, and won (much to the concern of consultants generally). However, as we shall see, that decision has recently been overturned by the Court of Appeal in West –v- Ian Finlay and Associates [2014] EWCA Civ 316.

The facts

Mr and Mrs West bought a house in Putney in June 2005 for £1.7 million. The house had five floors and was on a sloping site leading down to the River Thames. The lower ground floor was below ground level at the front of the house but was at about ground level at the rear.

The Wests wanted to make fundamental changes to the layout of the house, and to the ground and lower ground floors in particular. The problem was that they had a limited budget. At first, it was £250,000 and then subsequently they increased it to £500,000. After some initial discussions with an architect whom they subsequently decided not to use, they were introduced to another architect by the name of Ian Finlay.

After protracted discussions the Wests eventually agreed a specification of work with Mr Finlay, but this was on the basis that they would arrange the procurement of certain discrete parts of the work themselves – such as a new conservatory and a kitchen – thereby not attracting either Mr Finlay’s percentage fee or the contractor’s overheads and profit on those items. In June 2006 they entered into a building contract with a contractor called Armour for £292,000, excluding VAT. The prices initially obtained by the Wests from other contractors had been beyond their budget, so Mr Finlay introduced Armour. After some negotiation Armour submitted a price that the Wests were prepared to accept.

Unfortunately, the project proved to be a disaster. About six weeks after the Wests moved into the house in May 2007, when the work was supposed to have been completed, they found extensive damp in the lower ground floor. Experts were called in and it was concluded that no proper waterproofing had been carried out by Armour.

The Wests blamed both Mr Finlay and Armour for this state of affairs. During the course of the investigations into the cause of the damp the Wests were advised to have the mechanical services and electrical installations properly checked by an independent expert. This revealed that there were serious problems with both the plumbing and the electrical works also, such that it was eventually decided that all the newly installed M&E services would have to be completely removed and replaced.

The Wests managed to find alternative accommodation in the same road, into which they moved with their small son, Jacob, who had been born at the beginning of the year. In the end, the Wests were in this accommodation for some 20 months whilst the remedial works to their house were planned and carried out.

The Wests sued Ian Finlay for negligence, not only in relation to the advice (or lack of it) in relation to the treatment required for the lower ground floor to prevent damp, but also for Mr Finlay’s failure to notice the defects in the M&E installations and to have them put right. In addition, in the course of the remedial works it was discovered that the new floor slabs that had been installed by Armour in the lower ground floor were defective. These had to be removed and replaced. The Wests claimed the costs of dealing with these problems, together with various consequential losses, from Mr Finlay.

Armour subsequently became insolvent and so the claim that had been intimated against it was no longer pursued. Initially, Mr Finlay denied liability, contending that all the problems were the result of defective workmanship by Armour or its subcontractors. Mr Finlay contended also that the remedial works actually carried out by the Wests went far further than was reasonably required to remedy the defects and therefore involved substantial betterment for which no proper credit had been given in the claim.

By the end of the trial liability was effectively admitted, albeit for some items only, and, contrary to the position taken in his opening submissions, at one point Mr Finlay appeared to be asserting that in 2006 the Wests would have decided to opt for a fully tanked solution to deal with the damp in the lower ground floor. But it was now Mr Finlay’s primary case that as a result of Armour’s poor financial position the defective workmanship, if discovered by Mr Finlay, would never have been rectified and completed in any event.

The net contribution clause

This is where the net contribution clause came in. It was in Mr Finlay’s appointment in the following terms:

“Our liability for loss or damage will be limited to the amount that is reasonable for us to pay in relation to the contractual responsibilities of other consultants, contractors and specialists appointed by you.”

The effect of the clause was in issue. Also, if it had the meaning for which Mr Finlay contended, namely to limit his liability to the proportion of the losses that were solely his responsibility, the Wests then questioned whether it was fair and reasonable within the meaning of the Unfair Contract Terms Act 1977 and the Unfair Terms in Consumer Contracts Regulations 1999.

The Judge took the view that the clause had to be construed in context. By 11 February 2006, when the Wests entered into the agreement with Mr Finlay, it was already understood that several aspects of the work would be procured directly by the Wests and would not form part of the main building contract. The Wests’ overall budget for the work at that time was about £500,000, of which they were hoping that the main building contract would not amount to more than about 60%. Mr Finlay was aware of this position.

On one reading of the clause the words “other consultants, contractors and specialists appointed by you” could mean everyone with whom the Wests entered into a contract in relation to the project apart from Mr Finlay.

However, against this background, the reference in the clause to “other consultants, contractors and specialists appointed by you” could be read as referring to the various specialist contractors or suppliers with whom the Wests were proposing to enter into direct contracts outside the main building contract. The expression “other . . . contractors” was not one that readily described any party other than Mr Finlay, because Mr Finlay was not a contractor. However, it would be appropriate if it was intended to refer to any contractor other than the main contractor whose contract Mr Finlay would be expected to administer.

Regulation 7(2) of the Unfair Terms in Consumer Contracts Regulations 1999 (“the Regulations”) provides that:

“If there is doubt about the meaning of a written term, the interpretation which is most favourable to the consumer shall prevail…”

At first instance, the Judge’s view was that there was indeed doubt about the true meaning of the net contribution clause and that, therefore, the regulations required the court to give the clause the interpretation that was most favourable to the Wests. The Judge decided that the net contribution clause did not act to limit Ian Finlay’s liability where the “other contractor” was Armour.

On appeal

The Court of Appeal, however, decided that the judge at first instance had placed too much reliance on the contextual background of the clause and the fact that the Wests were to instruct a number of specialist contractors directly. They decided that the first consideration must be the normal meaning of the words. Here, they decided, the normal meaning of the words was “crystal clear”. There was no ambiguity. The net contribution clause was saying that Ian Finlay’s “liability for loss or damage” was to be limited to the amount that it was reasonable for him to pay having regard to “the contractual responsibilities of other consultants, contractors and specialists appointed by [the Wests]”. There was no limitation on the words “other consultants, contractors and specialists appointed by [the Wests]”, and they must be taken to mean any such persons, including any main contractor ultimately appointed.

The Court of Appeal decided that Ian Finlay could use the net contribution clause to limit his liability to his share of responsibility for the losses suffered by the Wests and referred the case back to the Technology and Construction Court to decide what that share might be.

On the question whether the clause satisfied the test of reasonableness under the Regulations, the Court of Appeal was satisfied that the Wests would have known of the clause’s existence and could have sought to renegotiate it if they felt that it put them at too much risk.

Following the first instance decision, the consensus was that it was essential for consultants to have careful regard to the exact wording of net contribution clauses if they were to be sure that they would work work as a limitation of their liability, particularly in a project with a private consumer.

Whilst it is true to say that the Court of Appeal’s judgment has redressed the balance somewhat for professionals dealing with consumers, it nevertheless remains the case that net contribution clauses need to be very carefully drafted, as a lack of clarity will still mean that they will be construed against the person seeking to rely on them. As with all contractual clauses, the need for clarity is key.

By John Starr, Consultant, Stepien Lake. A version of this article has previously appeared in the Property Law Journal, published by Legalease Ltd