Securities and guarantees under a construction contract

A wide range of factors need to be taken into consideration when executing a construction contract. One of the most important issues for any investor is how to guarantee that all the work is performed in a timely manner and is of good quality. Another issue is how to ensure, in the event of any physical defects in the constructed building, that the costs of any repairs are borne by the construction company.

There are direct legal provisions that secure an investor's interests. Consequently, contractors are obliged to act in accordance with regulations regarding the concept of warranty (rękojmia), which is introduced in chapter XI, section II, of the Civil Code regarding sales. Moreover, chapter IX, section III of the Civil Code provides for a guarantee of quality.

Both of these legal institutions establish the contractor's type of liability as applied to the construction agreement. Nevertheless, investors also have certain options available to secure their rights under warranties and guarantees. Among the most popular choices are bank/insurance guarantees and retention of a portion of remuneration, which allow investors to easily cover repair or other costs resulting from the untimely or improper performance of work by a contractor.

Warranty or guarantee

Warranties and guarantees are often confused, particularly by foreign investors. Although they were established for the same reason - to secure work of good quality - there are many differences between them.

Under a warranty, a contractor is liable to the investor should the building, or any part thereof, have defects. As a result, investors are entitled to require that contractors remedy such defects, granting a period for this purpose. Where it proves impossible to remedy the defects or where circumstances dictate that the contractor is unable to remedy the flaws within the appropriate period of time, the investor is entitled to withdraw from the agreement or demand that remuneration be decreased. A right under a warranty regarding physical defects with respect to buildings can be exercised within three years of the handover of the building to the investor and, with respect to objects other than buildings, within one year.

Notwithstanding the above, it should be noted that a claim under a warranty can be submitted even after the aforementioned periods have already elapsed, if the investor had previously notified the contractor of the defect.

Unlike warranties, rights under guarantees are valid only where the contractor provides an investor with a guarantee document stating that the contractor is obliged to remedy physical defects or to provide the investor with a defect-free object within the period set forth in the guarantee document. The majority of construction agreements contain provisions establishing guarantees.

Retaining remuneration

Retention is probably the surest way to avoid any problems such as work being performed in an untimely manner or a failure to remedy any defects. The investor retains a part of each installment of a contractor's remuneration, usually about five percent, until all work is completed or even until the end of the guarantee/warranty period.

Bank/insurance guarantees

A bank or insurance guarantee is an additional document whereby a particular bank or insurance company confirms that, in the event of a failure to complete work or to remedy defects within the scheduled time period, the investor is entitled to seek compensation from the bank or insurance company. Note that it is important that such guarantees should be unconditional, irrevocable, enforceable upon the investor's first demand, without further verifying of whether such demand is justified or not, and that it is transferable to another entity.

With respect to residential developments in particular, it should be noted that once the investor has sold the first apartment, it also becomes liable under the warranty and guarantee to the purchasers, who may also make claims of defects within their properties.

It is therefore crucially important to work on both the construction and sale agreements at the same time, adjusting all the schedules and warranty and guarantee periods accordingly. Under well-drafted agreements, investors can feel secure as any defects indicated by the purchasers are at the same time covered by guarantees provided by the contractor.

Agata Jurek-Zbrojska is a legal adviser and a manager of a real estate department at Garrigues' Warsaw office

Adriana Andrzejewska is an apprentice attorney and a lawyer at real estate department of Garrigues' Warsaw office