Covid regulations in construction contracts

Successive lockdowns and broken supply chains began a domino effect. Investors and procurers halted work out of their own caution or in fulfillment of top-down guidelines, then the attendance of workers and subcontractors on-site periodically declined due to quarantines. Work performance and thus billing slipped, disrupting payment flows. Construction material prices have skyrocketed. Material orders are now based on prepayments, while the delivery itself has become significantly longer.

Recently, the trend of smaller suppliers and subcontractors breaking their contracts has become evident, as it has become more profitable to pay contractual penalties and perform services or deliveries at current prices rather than the prices agreed on 6 months ago.

As a result, participants in the construction processes have reached a point where they are unable to determine what the cost and completion date of the contract will be.

The first issue important for contractors will be the extension of time for completion of construction tasks. The second element of getting the contract “on track” will be obtaining additional remuneration compensating for higher costs of contract execution and costs of construction downtime during the lockdown, if there was a work stoppage.

Claim for extension of time for completion of a task under public and private contract regime

The redefinition of the completion date is of fundamental importance for all participants in the construction process. It is, of course, the issue of contractual penalties charged for the delay. In the case of time slippage, caused by reasons related to Covid -19, the causes of delays should be divided into two categories: the closure of construction by the decision of the ordering party (investor) and other circumstances, such as reduced availability of workers, lack of materials, disease, and quarantine. The above division is consistent with the catalog created by the legislator, where COVID – 19 circumstances are divided into: (i) those with the potential to affect the due performance of the contract and (ii) those circumstances affecting the performance of the contract.

In the case of public procurement, the relevant tools are directly provided by the “Covid Special Act” of March 2, 2020, on specific solutions related to the prevention, counteraction and eradication of COVID-19, other infectious diseases and crisis situations caused by them.

The provision of Article 15r. od the above-mentioned Act stipulates that the ordering party, upon determining that the circumstances related to the occurrence of COVID-19, referred to in paragraph 1, affect the due performance of the contract referred to in paragraph 1, in consultation with the contractor, shall amend the contract, in particular by changing the date of performance of the contract or a part thereof. Since the legislator used the phrase “amend the agreement”, the ordering party has no room for maneuver and must conclude an annex to the agreement, provided that the impact of COVID -19 on the performance of the contract is demonstrated by appropriate documents. The contractor’s refusal to conclude the relevant annex should entail an appropriate claim for a declaration of intent to the court. Circumstances evidently affecting the performance of the contract are those relating to the closure of the construction site, quarantine of workers.

With regard to the circumstances related to COVID – 19 and which may affect the performance of the public procurement contract, the public ordering party may decide to conclude an annex changing the term of performance of the contract. In this respect, the legislator left the decision to conclude an annex to the ordering party, depending on its assessment of the impact of COVID – 19 on the performance of the contract. At the same time, the conclusion of an annex extending the contract performance deadline and the related waiver of claiming contractual penalties were explicitly excluded by the legislator from liability for violation of public finance discipline by the ordering parties.

In the case of private contracts, extending the time for task completion will come down to negotiations and an agreement between parties.

Refusal to sign an annex extending the time for completion of a task does not leave contractors defenseless – both those performing public tasks and private investments. It is standard practice that contractual penalties are calculated for so-called “delay”, i.e. culpable delay. Meanwhile, it seems that any circumstances relating more or less directly to Covid-19 and affecting the overall situation in the market should be qualified by the courts as circumstances beyond the control of the contractor and thus exclude liability for delay.

Financial claims of contractors and increase of the lump sum in the public and private contract regime

Irrespective of the postponement of the deadline for completion of the task, the issue of restoring the profitability of the contract seems to be more important, particularly in the case of contracts where remuneration was determined in the form of a lump sum. And this is the prevailing market practice.  Prices of construction materials and labor costs cause that the execution of contracts brings measurable losses. In addition, the prolonged time of the task execution entails costs related to the maintenance of the contract security, construction backup facilities, and insurance.

In the case of public procurement, the “Covid Special Act” is not precise. The provisions state that the contracting authority shall amend the contract “in particular by” “changing the method of settling the contractor’s remuneration”. Each time the phrase “in particular by” appears in the statute, it means an exemplary list and an open catalog of available actions. In turn, a change in the “method of settling the contractor’s remuneration” may itself mean a switch in respect of particular works from a lump-sum system to a cost-based system. Such an understanding of the legislator’s intentions is supported by the further part of the provision, according to which the limitation of the contracting authority’s discretion is that “the increase in remuneration caused by each subsequent change will not exceed 50% of the value of the original agreement”. In practice, this should mean nothing more than giving the ordering party the right to increase the amount of the contractor’s remuneration. While an extension of the contract’s execution undoubtedly affects the costs of its execution in the form of insurance, CAR policy, and security costs, the ordering party, in accordance with the act, enters into an annex to the contract. The link between changes in the prices of materials and services and the occurrence of the Covid – 19 outbreak is less obvious, which qualifies these costs as likely to affect contract performance. Under the cited Act, this means that the ordering party has discretionary authority.

Nevertheless, the contracting authority’s decision is not a determinant of the contractors’ strategy: it is still open to claim either an annex increasing remuneration under the “special Covid Law” or invoking the rebus sic stantibus clause, i.e., an extraordinary change in relations.

For private contracts, the change in remuneration is again a matter of negotiating the terms of the contract. With respect to private entrants, contractors have a litigation tool in the form of a motion to secure a claim for increased remuneration. If the court finds the contractor’s claim for an increase in remuneration credible, it may provisionally – by way of security – order, for example, the seizure of the investor’s bank accounts or real estate belonging to him. This does not yet mean final success in the form of increasing the contract value, but it definitely translates into the contractor’s negotiating position.

Author: Aleksandra Terc