Have you ever come across a situation in which the penthouse balcony of a new residential block seems to be occupied with a family going about their daily lives even though the lower floors of the development are still swarmed with site operatives completing the final fit out? Or why the ground floor of a mixed use development has a retail tenant open and conducting business but the upper floors, which will be occupied by a budget hotel chain, have a large imposing banner smothering the front elevation with a slogan of ‘opening soon.’
In both instances, why would the Developer come Landlord not simply hold off until the whole building is complete before allowing occupants to move in?
As with most things in business, such outcomes usually boil down to one thing, pressure! If a company cannot occupy their unit to provide their products or services, or if the tech entrepreneur cannot move into their newly purchased penthouse because the building isn’t ready for ‘handover’, the likely upshot will be that both parties are inevitably losing money! Regardless of the financial status of the said company or high net-worth individual, this is an arrangement neither party will be particularly comfortable with.
Therefore, Developers can face intolerable pressure from stakeholders, especially if a Contractor has advised that handover will not be achieved on the contractual completion date. If this is the case, is there a way a Developer can circumvent this and if so, how do they do it? There are many questions that need to be considered by a Developer when facing such a predicament.
- What are the repercussions if I do not handover the unit on time?
- Does the construction contract contain mechanisms allowing for sub-units to be handed over prematurely?
- What will sectional handover of the development mean for the rest of the programme?
- Will there be any implications in terms of site logistics and management?
- Will the contractor be claiming for acceleration or disruption? If so, what will these costs be?
There are many more items to consider, but it is not difficult to understand the risks posed to all parties. It could be argued that the most important question centres on whether construction contracts contain mechanisms for the Contractor to be flexible in handing over sections of the building.
The answer is normally yes and the reasons for this relate to several key contractual aspects around the concepts of possession and completion, which are integral yet sometimes ambiguous components of construction contracts and other documents such as Agreements for Lease. Professionals working in the construction sector responsible for certifying or providing services, in consequence of or in relation to the completion of construction works, will be all too familiar with terms such as Practical Completion, Partial Possession, and the associated mechanisms within construction contracts and other related contract documentation.
Usually, there is nothing overly mystifying about the concept of completion, especially in relation to a standard provision between the supply of goods or service. Millions of transactions are ‘completed’ every day, so much so that we often don’t think of the individual steps that need to occur for a deal to be considered ‘complete’ between a buyer and seller. However, the same cannot be said about the supply of goods and services on complex systems such as building or infrastructure projects. A large degree of evaluation is required to ensure the development can be handed over to the Client so as the state of the asset is fit for its intended purpose. The development does not necessarily need to be defect or ‘snag’ free, as there are usually allowances in contracts for these to be remedied within set time periods in the post completion phase. However, agreeing on whether the build achieves the so-called ‘fitness for purpose’ tag is somewhat subjective and can lead to several disputes between parties.
To reduce the ambiguity concerning completion of a project, construction contracts will ordinarily contain express provisions pertaining to matters of completion and possession. The Contract will typically refer to a definition of ‘Practical Completion’ which may be included within the contract itself or another contract document i.e. an Agreement for Lease. This definition should clearly state what is meant by the term Practical Completion commonly abbreviated to ‘PC’ in construction talk and outline all of the services required by the contract to be provided to a standard consistent with that of the contract.
What is Practical Completion?
According to the RIBA Plan of Work 2013, Practical Completion is a ‘contractual term used in the Building Contract to signify the date on which a project is handed over to the client. The date triggers a number of contractual mechanisms.’ These mechanisms relate to possession of the building being handed over to the Client and the Contractor then entering into the defects period of the post completion phase of the development lifecycle.
As discussed previously, for Practical Completion to be achieved, the service requirements as defined in the contract documentation must be satisfied for the Developer to take possession of the asset. Services provided by the Contractor may include the provision of Operations and Maintenance (O&M) Manuals, Safety Certificates, Specifications or demonstrations and training for employees. There can also be conditions to include certain performance certifications, such as acoustic tests, showing that the building design adheres to standards acceptable to the end user as part of their Tenant’s Requirements package. The overall workmanship and quality for all other work elements will be inspected and considered as part of this evaluation and could be a critical factor in the decision-making process.
The criteria for defining Practical Completion can be diverse and unique to that asset or the type of business who is going to operate it. Therefore, it is essential that thorough due diligence is undertaken by the Contractor as Clients will have grounds to reject ‘PC’ if any obligations have not been satisfied in accordance with the contract. If the Client rejects Practical Completion, the Contractor will likely incur liquidated damages (if inserted into the contract) if an Extension of Time is not granted. Therefore, the ramifications for not achieving Practical Completion can be quite significant for a Contracting business and its reputation.
If everything goes according to plan and Practical Completion is achieved, a certificate will be issued by the Contract Administrator confirming ‘PC’. There will normally be several additional documents submitted alongside the certificates, such as snagging lists, which the Contractor must agree to correct to achieve PC. Once Practical Completion has been attained, the Contractor will lose their exclusive possession of the site and, depending on the contract, will be entitled to half of their retention monies.
There are occasions where the Practical Completion date is not realistic and the Contractor might be entitled to an Extension of Time. On larger projects such as a residential tower block, the usual programme for the fit out would start at the top and work down through the floors. Therefore, the upper floors should be ready for use once completed, meaning large sections of the building could in theory be occupied and producing income. When Developers couple this with the pressure applied from future occupants, they often must find a solution to keep all stakeholders happy. A way of doing this is exploring possibilities around other contractual terms known as ‘Sectional Completion’ and ‘Partial Possession.’ The two terms sound similar, but there are subtle differences between the two.
Take the previous example in which there was a retail business operating on the ground floor, but the upper floors are still under construction awaiting a hotel tenant. This scenario was likely foreseen, and the handover of the retail unit was always scheduled to happen before the hotel. This mechanism within the building contract is known as ‘Sectional Completion’ and refers to a scenario in which part of a project can be handed over to the Client whilst works continue on other sections of the development. The parties may have reached this agreement in order to minimise disruption to nearby existing buildings or for the Developer to start earning an income prior to the main anchor hotel tenant moving in.
However, there are instances where this type of mechanism has not been included in the contract, as a ‘sectional’ handover arrangement was not anticipated. This is typically the case on residential tower block projects that would normally hand over as one, as there are unlikely to be distinctive sections as in a multi-block development. Therefore, in the case of an individual tower block, it would not be abnormal to exclude a ‘sectional completion’ option.
If it transpired that the Contractor was not going to achieve ‘Practical Completion,’ the Developer may need to find another way to gain possession of sections of the asset when under pressure from an occupant who is looking to move into the penthouse. The Client may request to take possession of part of the works, even though it is not been specifically anticipated in the contract.
The Partial Possession Mechanism
In the above scenario, the buyer of the penthouse may look to make a number of changes to the unit, which may delay overall completion if not removed from the Contractor’s scope. Alternatively, the Client may be under pressure to drive revenue and gain possession of some of the completed units, which can be put to market faster. The Developer may achieve greater flexibility by utilising both options via the ‘Partial Possession’ mechanism.
The developer may also benefit from Partial Possession by trying to use the mechanism as a way of reserving their rights over potentially defective elements of the works. There have been several cases in which Developers have tried to take possession of everything except the roof prior to Practical Completion to try and enforce its rights under ‘Defects Liability.’ However, it must be emphasised that this mechanism is not designed for this purpose and any attempt by the Developer to coerce the Contractor into paying liquidated damages or extending the defects liability period as a result of this action will probably be unsuccessful. Commercially savvy Contractors will be aware of such strategies and the potential implications.
The downsides and risks
It has to be realised that the Contractor is under no obligation to grant Partial Possession (although, they cannot unreasonably withhold such permissions) to the Developer if it feels the handover is going to disrupt ongoing works, therefore incurring additional costs. However, if the Contractor agrees to Partial Possession of some units in a residential block, then in theory, those units are deemed to have achieved Practical Completion. Developers should be aware of this as half of the retention must then be released for that specific section. Other mechanisms will also be triggered, such as the ‘Defects Liability’ period, for that part of the build. Developers need to acknowledge this as the timelines for defects will not be consistent for the different parts of the building. This could lead to several interface issues when addressing defects later down the line.
Other contractual mechanisms will also be affected if the parties agree to Partial Possession, including a proportionate reduction in liquidated damages and the need to provide insurance for that part of the building as the Developer will now be responsible for it. These are issues that some Developers may overlook and misinterpret, leaving them substantially exposed if proper advice is not provided.
Partial Possession can provide commercial benefits to the Developer and relieve a lot of pressure for the Contractor. The key to success is for both parties to have a clear dialogue and an acknowledgement of the potential implications that Partial Possession could bring.
There is a lot at stake for all parties and proactive management is key to successfully navigating through the programme to achieve Practical Completion. Partial Possession will always be a viable alternative, but the benefits need to be contrasted with the inherent risks that can often be neglected when the pressure is on.
Image credit: iStock.com/courtneyk
About Chris Williams
Chris is a Chartered Surveyor with 6 years experience in the UK Construction industry, working for a range of clients, undertaking Quantity Surveying, Claims Management and Project Co-ordination roles.