The importance of taking over: key considerations
Real Estate & Construction and Hotels & Leisure
In this article we will briefly examine some of the key considerations’ employers should be mindful of prior to and following taking over of a project.
Law Update: Issue 369 - Real Estate & Construction and Hotels & Leisure
Leith Al AliSenior Counsel,Construction & Infrastructure
Taking over is a critical stage in any construction project. There are a number of reasons for this, perhaps the most important of which is that, upon taking over, the works will essentially become the risk of the employer who will need to ensure, prior to handover, that the contracted works have indeed been satisfactorily completed in accordance with the agreed construction contract. Post-completion, it is also equally important for each party to have a clear understanding of their rights and obligations with respect to the rectification of defects as well as any incomplete or outstanding works.
Taking over criteriaTaking over is essentially the stage in a construction project which (upon issuance of the Taking-Over Certificate or “TOC”) constitutes confirmation that the works have been satisfactorily completed by the contractor in accordance with the agreed construction contract. That is save for any defects and minor outstanding works which are usually referred to within a snag list that is appended to the TOC.
The underlying construction contract should clearly define the criteria for the works to be accepted by the employer and thus for taking over to occur. These taking over requirements will differ depending on the nature and complexity of a project, however typically require (amongst other things):
the works be fit for their intended purpose (notwithstanding any defects or minor outstanding works);
the specified tests on completion to have been successfully passed;
all third-party approvals to have been obtained by the contractor allowing for the works to actually be used and occupied;
the originals of all drawings, design documents, subcontractor and supplier warranties to have been provided; and
the site to have been cleaned with all construction waste disposed of.
With respect to tests on completion, these tend to differ depending on the nature and complexity of a project. The employer must be satisfied that the facility is both physically complete and any applicable commissioning tests and performance requirements have been fully satisfied. By way of example, power and processing plants usually need to meet various performance and output criteria in order to pass such tests.
Under the FIDIC suite of contracts, the Engineer is usually required to confirm when completion has occurred. The Engineer is required to act fairly when doing so. The contractor may bring a claim if it considers the Engineer has unjustifiably failed to issue a Taking-Over Certificate, in particular if this failure has resulted in the employer levying delay liquidated damages against the contractor.
Deemed taking overEven where works are not in a position to be formally taken over under the contract, employers must be aware that the works may, in certain circumstances, still be “deemed” to have been taken over.
Under Sub-Clause 10.1 of the FIDIC Red Book 1999, if the engineer fails either to issue the Taking-Over Certificate or rejects the contractor’s application for a TOC within the prescribed period and if the works or section of the works (as applicable) have been substantially completed in accordance with the contract, the TOC may automatically be deemed to have been issued on the last day of that period notwithstanding the lack of any formal, written TOC being issued.
In addition, under Sub-Clause 10.2 of the FIDIC Red Book, the works will be deemed to have been taken over if they are, prior to issuance of the TOC, used by the employer (other than if agreed as a temporary measure which is either specified in the contract or agreed between the parties). This is because use or occupation by the employer usually demonstrates satisfactory completion for which it would be unreasonable to hold the contractor liable. Accordingly in such circumstances, taking over would usually be deemed to have occurred, unless the employer can demonstrate (or the parties can be shown to have agreed) otherwise.
Sub-Clause 10.2 outlines the significant consequences of the employer using any such part of the works before a Taking-Over Certificate has been formally issued. This includes:
the relevant part of the works will be deemed to have been taken over from the date on which it is used;
the employer will become responsible for that part of the works which has been taken over;
the contractor may request the Engineer to issue a Taking-Over Certificate; and
if the contractor incurs any cost as a result of the employer taking over and/or using any such part of the works other than as specified in the contract or agreed between the parties, it may be entitled to payment of these costs to include reasonable profit (subject to the provision of a notice to this effect).
There may be circumstances in which it may become necessary for the employer to use the works, for example to undertake certain operational or commercial activities, despite the works not satisfying the contractual requirements to be formally taken over. In such a scenario, the employer may mitigate the risk of the whole of the works being deemed to have been taken over by:
dividing the works into sections and therefore only taking over particular sections but not the entire works; or
expressly qualifying its position in writing (prior to use/occupation) whereby its use or occupation of the facility is clearly communicated to the contractor as being a temporary measure that must not be deemed to constitute taking over, due to the defective and/or incomplete works.
The underlying construction contract should further contain express drafting which confers on the employer the right to use or occupy the works prior to handover, in order to mitigate the risk of the contractor arguing that the employer’s use or occupation should be deemed to constitute formal taking over.
It is also important to note that the employer’s early use or occupation of the works prior to the contractual requirements being satisfied should only be considered if all of the necessary legal and regulatory approvals allowing for use and occupation, have been obtained from the relevant authorities. Insurance advice should also be sought, and the contractor’s insurances closely examined to determine the extent to which they would respond, if damage or loss was to occur prior to the formal TOC being issued. This is in order to ensure the works remain fully insured during this interim period.
Delay liquidated damagesImportantly, taking over also marks the point in which the employer no longer has the right to levy delay liquidated damages, if the works have been delayed by the contractor beyond the contractually agreed time for completion. This is unless the works are being taken-over in sections, in which case delayed or incomplete sectional completion due to contractor delays may continue to be levied in respect of the incomplete parts (or sections) of the works. The employer must therefore be satisfied that the works are substantially complete and thus no longer in delay prior to issuing the TOC.
Possession and riskUpon taking over, possession of and the risk in the works will usually pass from the contractor to the employer. It is therefore important that the employer ensures that it has all the necessary insurances in place for the works. Such insurances need to be procured upon the date of taking over given that some of the contractor’s insurance obligations will usually cease to have effect at that point, unless the parties have agreed otherwise. In good time well before handover, the employer is advised to engage a qualified insurance advisor or broker who can advise further regarding the insurance position post-completion, with a view to mitigating the possibility of having any uninsured risks following handover.
Performance security/retention Taking over may impact on the performance security or bond that has been procured in favour of the employer as well as the employer’s entitlement to withhold retention monies. Depending on its terms, the value of the performance bond may be reduced, while a percentage of the retention monies (usually half) may need to be released to the contractor on or soon after handover of the works, with the balance withheld until expiry of the defects notification period or issuance of the performance certificate. It is recommended that the full value of the bond and retention remain in place until the performance certificate has been issued, in order so that the employer has a robust suite of security in place until it is satisfied that all defects have been remedied and incomplete works have been executed.
Snag listsGiven that there are invariably defects or outstanding works pending on completion when works are being taken over, the form of Taking- Over Certificate should clearly specify the known defects and works still outstanding. These are usually clearly described within the snag list that is appended to the TOC and should clearly prescribe the nature of the defect/outstanding works as well as the timeframe within which the applicable works must be completed.
Defects are an unfortunate but regular feature of construction projects. They can arise at any stage during the lifecycle of a project, whether at the design stage, during construction or post-completion.
Defects can stem from the design of the works, for example where the design does not meet the required contractual standard or otherwise does not comply with specific building regulations or can occur during construction if the works have not been executed according to the standards and specifications specified in the contract. They may also arise if the materials, equipment or other goods procured in connection with the project, are not fit for purpose.
The FIDIC suite of contracts (namely Clause 11 (Defects Liability) of the FIDIC Red Book 1999) as well as UAE law (in particular the UAE Federal Law No. (5) of 1985 On the Civil Transactions Law of the United Arab Emirates (the “UAE Civil Code”)), contain provisions that aim to provide redress if defects arise.
Construction contracts usually provide for what is known as a defect’s notification period (“DNP”). The DNP usually commences upon the issue of or the date specified in the Taking-Over Certificate. During the DNP, the contractor is required to promptly return to site to remedy any notified defects or outstanding works, including those referred to in the snag list appended to the Taking-Over Certificate, either within the period notified or otherwise before expiry of the DNP (depending on what is instructed).
The DNP is usually at least 12 months, and can be longer for more complex projects. Contracts also often provide for the DNP to be extended for any defects which are remedied during the DNP, in order so that the affected works benefit from the full period agreed under the contract.
It is recommended that the employer is conferred with an express contractual right to remedy defects at the contractor’s expense, if it fails to comply with any instruction or obligation to return to site and remedy such defects or incomplete works. Here, it is also important that the employer has the right to recover any costs incurred, through setting off such costs from the contractor’s remaining payment entitlements, the retention and the performance bond (as needed).
Assuming all defects and outstanding works have been rectified, a Performance (or Final Acceptance) Certificate is usually issued upon expiry of the DNP. In this regard, it is recommended that the construction contract clarifies that the issuance of this certificate will not be deemed to constitute acceptance of the works or otherwise relieve the contractor from liability under the contract (including, for example, with respect to latent defects).
Decennial liability is one form of liability which may arise long after the DNP has expired. It cannot be excluded by law. Articles 880-883 of the UAE Civil Code provide that contractors and supervising architects are to be held jointly liable for constructing a building that is structurally sound, free from total or partial collapse and free from defects threatening its stability and safety for a period of 10 years after the delivery of the works (i.e. from handover), or for a longer period if the contract provides otherwise. Decennial liability will be apportioned on the basis of the contribution each party made to the defect that has arisen. The claiming party does not need to evidence breach of contract or negligence by the contractor or the supervising architect to establish its claim). Parties have 3 years within which to bring a decennial liability claim, which is calculated as from the date of the collapse or the date of discovery of the defect (as the case may be).
With respect to non-structural related defects, there is no specific set of rules under UAE law which allow an employer to seek redress or compensation for latent defects and therefore the contract will generally govern the party’s liability in this regard. Contractual liability will be established if there is a breach of contract by one party (the contractor), damage or loss has been incurred by the other party (the employer) and there is a causal link between both the breach and the damage or loss that has been incurred.
Finally it is worth noting that in 2018 the UAE Insurance Authority introduced plans for mandatory decennial liability insurance for contractors, supervising architects and designers. Its enactment is widely anticipated to lead to a significant increase in project costs but should help ensure that employers are protected to some degree in the event that a structural failure or defect arises on a project. The exact date of its implementation has still not yet been announced. Nevertheless employers should be mindful of this type of insurance with a view to mitigating further project risk.
Prior to executing a construction contract with a contractor, employers must carefully consider their project taking over requirements as well as any post-completion rights and obligations they wish to impose with respect to the rectification of defects. These should be drafted in a clear, unambiguous manner and moreover should be tailored to the specific project in question. Moreover, before issuing a Taking-Over Certificate or otherwise using or occupying the works, the employer (and indeed the Engineer) must be mindful of the agreed contract terms, including the suite of criteria to be satisfied, in order to ensure the employer is handed over a fully completed asset that reflects its contractual requirements and is ultimately fit for its intended purpose.
For further information,please contact Leith Al Ali.
Published in June - July 2024
