Mr. Timm Kinney, Director, Arthur Cox discusses getting paid when contact issues arise and the mechnisms one can use to achieve a favourable outcome.
Set-off and Certificates, in this article we will take a look at both contract types and what the implications are for each.
A common feature of the traditional form of construction contract is the involvement of an individual, not a party to the contract, to form opinions or make decisions on certain issues using their own professional judgment. In fulfilling its role, this third party (the “Certifier”) may be charged with issuing certificates in respect of certain matters. The function of the certificate is to record factual events only, but frequently involves a Certifier forming a judgment or opinion e.g. valuing work performed by a contractor.
The party undertaking the role of Certifier, is usually an architect under the RIAI Building Contract or an engineer under the IEI Engineering Contract. In these situations the architect or engineer will have a dual role, acting primarily as the agent of the employer, but also having the separate role of Certifier. Despite this dual role, when acting as the Certifier, the architect or engineer will be under a duty to act impartially between the employer and contractor and in a fair and unbiased manner, rather than acting in the employer’s best interests.1
The effect of any certificate issued by the Certifier will be no more than the parties have agreed it to be. Therefore, a certificate may be conclusive as to what it purports to certify but most construction contracts draw distinction between “interim” and “final” certificates with the latter only, being given a qualified finality. However, it will be a question of construction in each case to determine whether it was intended that a certificate should be conclusive upon the matter with which it purports to deal.1 In most cases, either party to the contract can challenge the certificates issued, through the contract’s dispute resolution provisions.
The Certifier is entitled to exercise the function once only and thereafter will be “functus officio” in respect of any particular certificate. The English Courts have treated certificates as effective even though they were patently wrong. However, if the Certifier makes an error on any particular certificate, then this could be corrected in a subsequent certificate by one of the parties requesting the Certifier to make an appropriate adjustment, or, if the Certifier declines to do so, by taking the dispute to arbitration.2 It is worth noting that the Certifier is not acting in an arbitral role and, consequently, is not obliged to give reasons for the content of any certificate nor obliged to follow the rules of natural justice in allowing both parties to state their case.
What is commonly known as an “interim certificate” is issued periodically during the course of a project to identify the quantities of work carried out and the corresponding interim payments due. An interim certificate properly given creates a debt due from the employer.1
Typically, in the standard forms of contract, the provision of interim certificates acts as a prima facie condition precedent to payment. Consequently, a contractor will have no entitlement to payment in the absence of such a certificate save for some limited exceptions e.g. where the Certifier had acted improperly in withholding the same due to collusion with the employer. In these circumstances, the Certifier would be disqualified and the contractor entitled to recover payment in the absence of a certificate.
Generally, as regards a claim for the price of work done or goods sold and delivered, any loss caused by a contractor’s breach of contract can be set up as a defence to that claim. This “cross-claim” of the employer may be set up in diminution of the contractor’s claim i.e. a set-off.
The main types of set-off are:
1. Legal Set-off – the set-off of mutual liquidated debts or money demands which can readily be ascertained (i.e. this would not include amounts which can only be ascertained by litigation or arbitration);
2. Equitable Set-off – a cross-claim that arises out of the same transaction as the claim or is so closely connected with the claim that it would be manifestly unjust to allow the claim without taking into account the cross-claim;
3. Contractual Set-off – where the parties expressly deal with the application and/or extent of set-off, which may include the limitation or exclusion of all rights of set-off otherwise available at common law.
Another defence available to an employer, similar to but distinct from set-off, is the remedy of abatement3. Abatement is a defence to a claim which, rather than being a cross-claim for damages sustained due to a breach of contract, simply reduces the value of the subject matter of the claim by reason of the breach e.g. defective or incomplete work. Thus, technically in law, an abatement prevents the amount claimed from ever becoming due in the first place.
Certificates and set-off
What then is the relationship between interim certificates and set-off? Is an employer, upon the issue of an interim certificate, entitled to set-off against the value of the interim certificate damages for delay or defective work?
The extent to which an employer may set-off other sums claimed against the contractor has been the subject of inconsistent case law in Ireland1. The question considered in the leading case, Sisk v Lawter, concerned the application, by way of set-off, of claims “quantified but not yet proved arising in respect of alleged breaches” of the contract by the contractor. The consequent principle or test established in this case, concerning the exclusion of rights of set-off against payments on foot of an interim certificate, is determining “whether all the relevant terms of the said contract are in any particular event inconsistent with the exercise of such a right of set-off”4.
In applying that test to the facts of the cases and the terms of the particular building contracts, the Irish Courts have found that the RIAI Building Contract (1966 and 1977 versions) did exclude the common law right of set-off.
Although not dealt with in the Irish cases, it would appear that the provisions of clause 29(a) of the RIAI Building Contract, giving the employer an express right to deduct liquidated damages from any sums due or to become due, would not be adversely affected by the exclusion of the common law right of set-off as provided for in Sisk. In other words, liquidated damages could still be deducted from certificates issued.
Further, the Irish cases dealt with the exclusion of the common law right of set-off. Therefore, it could be argued that the defence of abatement would still be available to an employer to reduce the value of any claim brought by a contractor based upon certificates issued.1
The consequence of the above is that, from an employer’s point of view, under the RIAI Building Contract at least, it will face the prospect of having to make payments in full to contractors on the foot of issued interim certificates in circumstances where the contractor has caused, as yet unproved, losses to the employer due to its breaches of contract. On the other side, unrestrained exercise of rights of set-off could give rise to serious economic strains on a contractor’s cash flow, and therefore contractual restrictions or exclusions of rights of set-off may be considered by contractors as being a commercial necessity.
Tim Kinney is a partner at Arthur Cox and can be contacted on 01-618 0300 or firstname.lastname@example.org