On 11 November 1999, the Contracts (Rights of Third Parties) Act 1999 became law. The Act applies to all contracts entered into after 11 May 2000.
The terms of the Act may be excluded by the parties, but where they are not it alters the doctrine of privity of contract (the principle that only a party to a contract or its lawful assigns may sue), and allows a right of action for non-parties.
There are many parties who can suffer loss as a result of defective design or negligent administration. Obvious examples would be tenants, purchasers or funders of buildings. At present, architects agree to provide collateral warranties and thus create a contractual link with third parties. The Act, where it applies, gives the third party the right to sue under the original terms of engagement.
When does the Act apply?
The Act applies and allows a third party to enforce a term of a contract
if the contract so provides expressly or
if a term of the contract purports to confer a benefit on them provided that the parties to it intended the term to be enforceable by a third party.
It is not enough that the contract benefits a third party; it must also purport to confer a benefit. However, there is a rebuttable presumption that the parties intended the contract to be enforceable by the third party.
Who is a third party?
A third party must either be:
identified in the contract by name
identified as a particular class
answer a particular description.
The third party need not be in existence at the time the contract is made, ie they could be a future tenant.
Can third-party rights be excluded?
You can specifically exclude conferring any rights on third parties or restrict those rights under the contract which you give. However, once the third party has acquired rights they cannot be varied or changed without the third party's consent. Architects must particularly consider this where a variation under the contract is so great as to vary the specification of the building during works.
How will rights be enforced?
If the contract contains provisions for arbitration or dispute resolution, the third party will have to institute proceedings in accordance with these. The third party will also be able to sue for damages, or to seek an injunction or order for specific performance. They will not, however, be able to terminate the contract.
What can be recovered?
The third party can recover their losses (subject to the normal rules of recovery). Given that the identity of the third party may not be known, the architect may have difficulty in identifying the actual risk to which he or she is exposing themself by agreeing that the Act applies. An exmple would be the Act applying to future tenants. Where the tenants have a business-interruption claim allegedly resulting from negligence, the measure of the loss would depend greatly on the business of the tenant.
Are exclusion clauses binding?
The party takes the benefit of the contract subject to any exclusion clauses insofar as they affect the third party.
What happens to counterclaims?
The third party's rights are subject to any set-off or defence that the contracting parties are subject to. They are not however subject to counterclaims because there was a danger that could exclude the third party's claim, and this would impose a burden and not grant a right.
What is the effect on professionals?
Equality of negotiating power does not necessarily exist in contracts between architects and developers. Developers are likely to see the commercial advantage of offering purchasers/tenants increased rights to bring actions against the architect. It will take only minor amendments for the Act to confer benefits to whole classes of person.
Architects (and their insurers) currently control the right of third parties to sue by limiting the terms and number of collateral warranties that they will transfer. The Act, where it applies, will be more unlimited in nature, thus preventing the architect properly evaluating the risk that he or she is undertaking.
Developers and others are aware that the passing of an insured risk is a valuable commodity and that, as it is an insured risk, it is likely that the architect would become a primary party to any litigation.
What are the effects on insurance?
Professional-indemnity insurers do not appear to be limiting the ability of architects to include the Act in their appointments. Professional-indemnity insurance is, however, calculated on a claims-made basis and architects can therefore be confident that in the year of any third-party claim there will still be no restriction on claims under the Act. If the application of the Act leads to more claims, then the costs of insurance will go up.
Architects at risk
The purpose of the Act is to give more people the right to sue. Developers and employers are likely to see this as a commercial benefit for their contracts. Architects, however, as designers and supervisors of a prototype product, are at a high risk of litigation and should not expand their liability without careful thought. Once granted, the rights cannot be retracted and architects and their insurers must think very carefully about how far the Act fairly divides the risks of design and construction.
Anthony Sheppard is senior partner of Merricks solicitors who specialises in construction and professional indemnity. He can be contacted at tel 01245 491414