December 24, 2013
Termination rights under construction contracts
BY ROB KENNALEYSometimes, in construction, contractors and subcontractors will be faced with an owner or contractor who wants to terminate, or cancel, the contract or subcontract. In other circumstances, a contractor or subcontractor may not want to continue working for various reasons, including nonpayment. In this article, we will explore these issues. For ease of writing, we will focus on the owner/contractor relationship. The principles we discuss, however, will be equally applicable to the relationships between contractors and subcontractors, and to subcontractors and sub-subcontractors, further down in the pyramid.
The first question we will address is, “Can a party simply terminate or cancel the contract because he is not happy?” We see, for example, many cases, particularly in the residential construction context, where the owner believes he or she can cancel the contract because of “lost confidence” in the contractor. Generally speaking, and without a contractual term to the contrary, however, a party has no right to terminate a contract for this reason.
Breach not enough to quit
By analogy, for example, no one would think the purchaser of a brand-new vehicle would be allowed to return to the dealership three months after the purchase and announce that, because he had “lost confidence” in the vehicle, he would be cancelling the contract and making no further payments. The same holds true in construction: unless the contract provides otherwise, the owner will have to have sufficient grounds to terminate the contract. Further, what is and isn’t, “sufficient grounds” will vary in the circumstances. In this regard, not every breach of contract will generally entitle the other side to terminate. The car purchaser, for example, is required to call on the warranty given with the car and will not be entitled to treat the car purchase agreement as at an end except in very limited and extreme circumstances. Similarly, where a contractor defaults in construction, an owner will generally be required to call on the contractor’s warranty and/or backcharge the contractor unless the breach of contract is so serious that it would entitle the owner to terminate.
When deciding whether or not an aggrieved party can treat the contract as at an end, the Court will look at the intention of the parties (as expressed in the contract between them, and by implication if necessary) to determine whether or not they intended the offended party to remain bound by the contract in the event of the breach in question. The terms and conditions of the contract, then, are very significant in determining whether or not, when, and how a party might be able to terminate a contract. In this regard, it is important to realize that the expressed and implied terms and conditions of the contract will generally prevail. The only exception is where it can be argued that the enforcement of the contract terms would be unconscionable either due to the inequality of bargaining power between the parties or for public policy reasons.
The contract can set out conditions upon which a party might be able to terminate on notice. The contract can also set out the instances of default which would, upon specified terms and conditions, allow one party or the other to terminate the agreement. Commonly, in this situation the contract will also include provisions requiring the aggrieved party to give notice of the default, along with a window of opportunity for the other party to correct the breach, failing which, the right to terminate will arise.
The moral of the story is that a party will only be entitled to terminate if that party can point to an enforceable contractual term between the parties that would allow for the termination – based on either expressed or implied terms of contract.
Non-payment justifies termination
It is worth noting that, unless the contract expressly provides otherwise, the contractor will generally have the right to either terminate or withdraw services for non-payment. Said another way, the courts will generally read into the construction contract, a term which provides that if the owner is substantially in default of his or her payment obligations, the contractor will not be required to continue. The non-payment, of course, would have to be material, for the implied right to arise. (In other words, it is unlikely a court would allow the contractor to terminate or drop tools if only $1 is owing, or where the payment is only a day late.) What degree of non-payment would be necessary to justify termination would vary in the circumstances.
Robert Kennaley has a background in construction and now practices construction law in Toronto and Simcoe, Ont. He speaks and writes regularly on construction law issues and can be reached for comment at 416-368-2522 (Toronto), 519-426-2577 (Simcoe) or at kennaley@mclauchlin.ca. This material is for information purposes and is not intended to provide legal advice in relation to any particular fact situation. Readers who have concerns about any particular circumstance are encouraged to seek independent legal advice in that regard.