Standard is Not Always Fair − Six Questions Owners Should Answer Before Entering a Construction Contract

Construction documents, whether for a new building project or for a build out of tenant improvements, can be quite involved and perhaps a little daunting to an owner presented with “standard” American Institute of Architects (AIA) documents. Quite often owners simply verify the economic terms for the project, set a completion date, possibly include references to drawings or plans, and then sign a construction contract with little regard to the various provisions that will impact the amount of leverage available in the event a problem occurs with the project. Of course, no one has ever had issues arise during a construction project! While an owner should always seek counsel from an attorney with experience in negotiating construction contracts, there are six questions that an owner can ask to evaluate what rights and obligations it will have upon entering into a construction contract.

1. What is being signed? Quite often a client will ask me to review a construction contract and analyze how he/she can address a particular issue with a contractor, but only provide a signed AIA A101-2007 Standard Form of Agreement Between Owner and Contractor. Unless modified, Section 9.1.2 of the form A101 provides that the “General Conditions are AIA A201-2007, General Conditions of the Contract for Construction.” The A201 is a 40 page document that sets forth detailed provisions regarding the owner’s and the contractor’s duties and obligations, administration of the construction contract, change orders, schedule delays, certification of payments, indemnification and insurance, termination and suspension of work, to name only a few. It is not uncommon for an owner to be surprised that he/she has agreed to the terms in the A201 without so much as having laid eyes on the document. Being aware that the various AIA documents reference other AIA forms is critical to avoid unknowingly agreeing to terms that significantly impact the owner.

   Additionally, while contractors almost reflexively reach for the A101-2007 as the contract of choice for stipulated sum contracts (or the A102-2007 for “Guaranteed Maximum Price” contracts), this may not always be the best choice. For smaller projects, the AIA A107-2007 Standard Form of Agreement Between Owner and Contractor for a Project of Limited Scope should be considered. As a practical matter, the A107 combines the significant provisions of the A101 and A201 into a single document, while offering the parties to select from three contract sum alternatives: ”Stipulated Sum”, “Cost of the Work Plus Contractor’s Fee”, and “Guaranteed Maximum Price”. The A107 is not without its pitfalls for owners, and should be revised to incorporate various provisions to ensure the owner is not overly exposed to unwanted risks.

2. What actions can an owner take if the contractor does not finish the work on time? If failure to complete the work on-time will have a significant financial impact on the owner, the construction contract should provide appropriate remedies to the owner to minimize such costs and/or incentivize the contractor to meet the deadline. The base form A101 and A102 (by incorporation of the A201) and A107 do not provide for any specified damages for contractor’s failure to deliver the project on time and, moreover, waive the ability to seek consequential damages. Thus, the owner is left with merely the option of withholding payment until the work is completed, which does nothing to ameliorate any damages sustained by owner due to such late delivery, and/or sue for damages, which is fraught with issues, expenses and limitations. Owners should seriously consider inserting a liquidated damages provision that grants the owner a specified amount for every day the completion deadline is exceeded. Furthermore, the contract should contain the right for the owner to withhold or offset such amounts from any payments due the contractor. Of course, contractors tend to resist the insertion of such provisions; however, often with candid negotiation with the contractor, emphasizing the need for an accurate construction schedule that affords with sufficient contingency time, a liquidated damages provision can be made palatable to both sides. In some situations it may be effective to provide the contractor with incentive or bonus payments for each day ahead of the deadline the work is completed.
3. What does the contractor need to provide the owner in order to receive payment? In Section 10.2 of the A201, the contractor is required to provide, if requested by the owner, “other data establishing payment or satisfaction of obligations, such as . . . waivers of liens”. However this is only tied to the final payment, not to interim progress payments. Moreover, in the A107, there is no requirement that lien waivers be provided by the contractor. The lack of a requirement to provide lien waivers from the contractor and subcontractors can place the owner in a bind, especially if the owner’s lender will not release funds for construction costs unless lien waivers from the contractor and subcontractors are delivered. Contractors usually do not have significant objections to requiring that a contractor affidavit and lien waivers from subcontractors accompany any request for payment under the construction contact. The form and content of such affidavits and waivers, such as whether the waivers can be conditional upon receipt of payment, should be clearly stated in the construction contract to avoid last minute confusion.
4. How are disputes to be resolved? The A101 and A102 (by incorporation of the A201) and the A107 require the parties submit to mediation as a condition precedent to pursuing either arbitration or litigation. This may at first seem to be reasonable; however, time is often the enemy of an owner, and the requirement that mediation be undertaken may not be advantageous to the owner in certain circumstances. The parties can always agree to undertake mediation, but a requirement to do so up-front before any work has been undertaken is a risk that owners should carefully consider.
5. What does the owner owe the contractor if the owner terminates the construction contract? The A101 and A102 (by incorporation of the A201) and the A107 each address what the owner will have to pay the contractor in the event the owner terminates the construction contract either for cause by the contractor or convenience. However, the form versions of these documents are disadvantageous for owners. In the case of termination for cause on the part of the contractor, if the remaining balance of the contract sum exceeds the cost to finish the work set forth in the construction contract, plus other damages incurred by the owner, this excess amount is paid to the contractor. So if the contractor is terminated for cause, then the contractor will receive the benefit of any savings the owner is able to achieve, despite the contractor being removed from the project and not completing its work. This is hardly just. Additionally, if the contractor is removed from the project by a termination for convenience by the owner, the contractor is entitled to receive payment for work executed and costs incurred by reason of the termination, all of which is fair. However, the contractor is additionally entitled to “reasonable overhead and profit on the Work not executed”, providing the contractor with funds associated with work the contractor did not complete. The corresponding provisions should be modified to provide that under no circumstances shall the owner owe funds for work that has not been completed by the contractor. Unfortunately, circumstances arise where a construction contract must be terminated by the owner, though, such events should not provide the contractor with a windfall.
6. What, if any, roles will the architect play in the project under the terms of the construction contract? The AIA form documents assume a level of involvement by the architect in administering the construction contract, and grants the architect a significant level of authority and responsibility. Depending upon the owner’s relationship with the architect, this may prove to be disadvantageous for the owner. For example, the A101 and A102 (by incorporation of the A201) and the A107 grant the architect the ability to approve payment applications, change orders and make initial decisions regarding disputes and claims between the owner and contractor. Moreover, any separate agreement between the architect and the owner may not contemplate, or may even contradict, the architect’s duties set forth in the construction contract. A review of the architect’s agreement should be completed so as to allow proper integration of the construction and architect agreements, and to prudently reserve all necessary authority and decision making powers with the owner.

Large or small, a construction project offers opportunities and challenges. The AIA construction contracts are consistently utilized to organize and govern the relationships between owners and contractors in the completion of construction projects. By reviewing key aspects of these agreements, including any corresponding architect’s agreement, and receiving experienced counsel, owners can place themselves in a much more effective position to handle contingencies that often arise during the construction process.

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