Mon 23 Sep 2019

Collateral Warranties & Prescription

In Scotland the Prescription and Limitation (Scotland) Act 1973 provides that the statutory time limit for expiry of obligations arising from a contract is 5 years.However, it will often be the case that parties to a contract want to set out different time limits within which particular claims arising from the contract must be raised. This type of clause, sometimes described a contractual limitation clause, is not covered by the 1973 Act. 

When a dispute involving this type of clause arises it can lead to questions about which time period takes priority and difficulties with determining the point at which it is no longer possible to recover, for example, damages arising from a breach of a contractual obligation. This type of issue arose in the recent case of British Overseas Bank Nominees Ltd and Others v Stewart Milne Group Ltd [2019] CSIH 47 in relation to obligations set out in a collateral warranty.


The context of this case was a construction project. The original design and build contract between the defender and the employer imposed obligations on the defender to use proper skill and care in the design and construction of the works. It also contained obligations on the defender to grant collateral warranties in favour of any person who might subsequently acquire an interest in the development as a purchaser or tenant. The pursuers bought the site and were subsequently provided with warranties from the defender which were detailed in collateral warranty agreement dated 24 June and 28 August 2013.

After construction of the development it became apparent that the car park, which had been designed and built by the defender, flooded. An investigative report on the flooding was prepared in May 2013. The pursuers claimed that the flooding resulted from defective design and construction and that the defender was in breach of obligations undertaken in the collateral warranty. They raised an action for recovery of the costs of remedying the alleged defects with the car park in June 2018. This was within five years of the collateral warranty being issued.

However the defender argued that the pursuers' claim had prescribed because the defender's obligations from the contractual warranty (which the pursuers' claim was based on) were subject to a contractual time limit. They said that the time limit in relation to the defender's obligations under the collateral warranty did not run from the date of the warranty itself. Instead, because the collateral warranty obligations were based on equivalent obligations in the design and build contract, the time period in the original design and build contract was the relevant one. If that was right, the claim had not been raised in time.

The defender was unsuccessful with this argument at the first instance before the commercial judge and appealed  to the Inner House.

The Inner House's opinion

The Inner House agreed with the defender that the pursuers' claim had prescribed. 

Construing construction contracts

They determined the time limit which applied in this case through an interpretation of the collateral warranty. The court focussed on the purpose of the collateral warranty - i.e. the need to avoid a legal "black hole" where the purchaser isn't protected against failures by the contractor in the construction project. They observed that the notion of equivalence (where purchasers were to have the same rights as employers in building contracts) was central to collateral warranties.

However, although it was important to consider the express time bar provisions in the contract, the  statutory law of prescription still applied to every building contract. The court observed that: "Because of the importance of time-bar provisions to contractors and designers, we are of the opinion that a collateral warranty should normally be subject to the same time bar as applied to the original building contract. By the "same" time bar, we mean a time bar that has effect on the same date. We cannot conceive of any policy reason to the contrary."

Although they went on to say that "it is possible for the parties to a collateral warranty to agree on a different time bar from that under the building contract, subject to the mandatory nature of the statutory law of prescription."

Looking at the wording of the relevant sections of the collateral warranty in this case, they were satisfied that the words demonstrated that the parties' intention was to achieve equivalence between the building contract and the collateral warranty. There was a clear intention that the defender's liabilities were to be equivalent to, but not greater than, the liabilities under the building contract. The collateral warranty gave the pursuers the same rights against the defender that the original employer had. However, equivalent rights meant that equivalent defences and limitations also applied. 

The ability of parties to apply a contractual time bar

The next critical question was whether (i) the contractual period of time bar applying to the defenders liabilities to the original employer in the design and build contract applied or (ii) the general law of prescription would start a new prescriptive period running from the date of the collateral warranty (because it was a new and distinct contract).

The court determined that, as a matter of principle, parties should be at liberty to agree to impose a time limit on claims which was shorter than the statutory period. They described the statutory prescriptive period as "essentially a default position" and went on to say that "if parties choose in their contract to have claims under that contract cut off after a shorter period they may do so."

The appropriate time bar period in this case

The contractual warranty incorporated a prescriptive period which corresponded to the statutory period applied to claims under the original building contract. The pursuers were subject to the same prescriptive period, with the same end date, as would have applied to any claims raised by the employer under the original design and build contract. 

In the circumstances liability was extinguished, at the latest, after five years had passed following the report by the consultancy firm in May 2013. This would have been in May 2018 which was prior to the action being raised. 


Comments on the decision

The court's approach to the interplay between the statutory prescription period and a contractual limitation period is interesting. On an initial reading, the comments about the statutory law of prescription applying to every building contract and being mandatory appear to conflict with the finding that, as a matter of principle, parties should be at liberty to agree in their contract to impose a time limit shorter than the statutory period. What comes across from the opinion is the importance of the context in which the contract operates and the importance of the purpose of collateral warranty agreements.

There is no indication that any change to the 1973 Act to deal with contractual limitation clauses is likely. The recent Prescription (Scotland) Act 2018 (which is currently awaiting the secondary legislation to bring its substantive provisions into force) does not deal with the issue. Its only provision about agreements between parties on prescription was a new section 13 which deals with agreements on extension of time limits. It provides that parties can agree to extend a five year prescriptive period after it has commenced, for one occasion only and for no more than one year. When the section comes into force, it will replace the current section 13 of the 1973 Act which simply says that any provision in an agreement purporting to provide, in relation to any right or obligation, that various statutory provisions in the 1973 Act shall have no effect shall be null.

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