Rudi Klein - Warranties are onerous, costly and dangerous. And since they're not a requirement, the least those who provide them should expect is something in return
A short time ago, I CAme across the following story. A specialist contractor executed the usual warranties in favour of all and sundry – client, tenants, funders, purchasers. There is some evidence that it was pressured into doing so by those who were in the know about one crucial detail: the main contractor was about to go bust. When it did, the specialist was left substantially out of pocket, as it could not "un-execute" its warranties.

This is a horror story, but it is the everyday practice of the industry to require that guarantees to third parties are issued before payment is received. This is not the end of a specialist's liability. Under the warranties, it is obliged to take out and maintain professional indemnity insurance for 12 years after practical completion of the main contract. Are there any other industries that indulge in this madness? Car makers certainly don't. First, they make sure that they get paid at the outset, and their guarantees are laced with all sorts of conditions. For example, liability is limited to the cost of repair.

If consumers wish to have the benefit of a guarantee beyond the guarantee period, it is they who must take out and pay for the necessary insurance – not the manufacturer.

My argument is not against the principle of contractors and consultants providing warranties. It is that most warranties do not contain a quid pro quo. A derisory consideration of a promise to pay £1 is often inserted in warranties, although this is not necessary if, as is usual, the warranty takes the form of a deed. Despite this, it seems to have entered into the psyche of the industry and its clients that third-party warranties must be a feature of contracting. Standard warranties are no better. There is no quid pro quo in JCT warranties or in the warranty that is a part of the GC/Works series of government contracts.

A friend of mine used to describe warranties as invitations to sue. He had a point. But there is also the substantial costs to the industry of signing these pieces of paper. Each has to be read or advice has to be sought on its meaning. Untold risks are contained in warranties and many are not recognised by the parties on the receiving end of them.

Untold risks are contained in warranties and many are not recognised by the parties on the receiving end

Take, say, a fairly innocuous provision that requires the contractor or subcontractor to warrant that it has undertaken or discharged all the obligations of the contract. What happens if that contract is particularly onerous? It is simply doubling up on all the risk of this contract for the benefit of a non-paying third party.

A common provision requires the warrantor to provide the beneficiary with a licence to use all its designs and drawings for all purposes "under the sun": this is downright dangerous. Also, excluding liability for consequential loss under warranties is not enough to exclude liabilities connected with business disruption costs. It was once assumed that "consequential loss" applied to indirect losses flowing from breach of contract, such as loss of profits but, in law, it is considered that these losses are a result of such breach. It is now better to identify the loss for which one is prepared to accept liability but, in most cases, it should not be more than the cost of repair or reinstatement.

Going back to the lack of a quid pro quo in warranties, a condition for all warranties should be that all outstanding payments to warrantors for their work should have been fully discharged. Second, warrantors should attempt to place a proper price on the warranty obligations and have this price identified separately. Alternatively, one could offer to execute warranties in return for another benefit such as the right to maintain an installation for the period of warranty. After all, those seeking warranties are not reticent when it comes to presenting demands. They often threaten to cut off payments until all warranties are executed.

In the mean time, the government – as a best practice client – should amend the GC/Works warranty to embrace what I have just said. In fact, all bodies that publish warranties should follow suit.