Development and the Law

A Guide for Construction and Property Professionals

Godfrey Bruce-Radcliffe

• Publisher: Routledge
• Year: 2004
• ISBN:
  9781134437535
• Edition: 1
• Topic: Architecture
• Subtopic: Architecture General

A gap has long existed between construction professionals – such as architects, engineers, quantity surveyors and consultants – and the property development process. The underlying development structures, expressed in terms of legal obligation and accountability, are all too little understood.

This practical guide by a highly experienced lawyer identifies the role of the construction professional in a wider context and looks beyond their relationship with their immediate employer. It provides the development professional with an understanding of the many relationships involved in projects, both in terms of contractual obligation and duty of care. This encourages more effective communication between those involved, including joint venture partners, bankers, funders, landowners with an interest in the outcome and tenants.

1: The players: Or: Who do you think you are?

It is only human nature, but each of the principals and professional advisers concerned with the development process regards his or her role as central. First, there are the many often faceless individuals employed by various departments of local and central government, by government agencies and so on whose role may be seen as negative, in the sense that they exist to regulate and control the development process in the interests of some public benefit which the politicians have decided should be protected. However, unless those bodies are also principals, they are not actually central to or part of the creative process.

By contrast, the principals and their professional advisers have a creative role, the contractor too. It is not enough for them simply to be identified and perform some particular task, still less perform some ritual courtship. As between themselves, they are tied into the process solely by the expedient of binding legal contract supported, according to the needs of their fellow players, by various kinds of security in the broadest sense of the term.

Throughout this book, ‘development’ refers to the entirety of that contractual process, from the germ of the idea through to fulfilment, and to use and enjoyment of the built result. ‘Construction’ is, therefore, only a part of that process. Consider it central, merely because it is necessary, and one returns to the basic misconception so often held by individual players.

In this chapter, the principal players are identified and their roles explained. How they may participate, and the likely contractual mechanisms to be used, will emerge in later chapters.

The landowner

There is no axiom to prescribe that a landowner and a developer should not be one and the same. The landowner who builds for his own use apart, many developers will either hold or acquire land specifically for development. They may even be sufficiently resourced to engage in the construction process without reference or deference to others, bankers, joint venture partners and so on.

The presence of an independent landowner suggests two broad possibilities, first, that the developer has been engaged simply in a quasi-professional role and/or, second, that the landowner has some kind of residual or continuing in the built outcome which needs to be preserved, notwithstanding that the developer will at some point acquire a major interest in land, say a freehold or a leasehold. A lease is a convenient mechanism for the effective imposition, for example, of future management and the collection of charges for services, or the general regulation of the development over time and in a secure manner. A freehold, by contrast, is precisely that and is not subject to the ultimate sanction of forfeiture. Conveyancing solicitors will happily point to anomalies such as the estate rent charge, being the only survivor of the genre since 1977 (Rent Charges Act 1977), breach of which may give rise to a right of distress. Such niceties are perhaps best left to conveyancers.

A landowner need not be a principal in the development process if he is simply concerned with future use and enjoyment of the land. He may well be able to secure this simply by a restrictive covenant, that is to say a covenant, negative in substance, which, if the burden is passed to successors, must also be shown to benefit the landowner's other land and relies for its effectiveness on being registered at the Land Registry. Again, the legal rules relating to restrictive covenants as they affect unregistered and registered land are best left to the conveyancers. Restrictive covenants can also be used, for example, as a mechanism for clawback, that is to say, securing some financial benefit as a consideration for release of the restriction in question [Shiloh Spinners v. Harding, House of Lords 1973].

The practicality and the prospect, however, is that the landowner as a player has some interest in the built outcome which requires regulation from the outset. This implies the imposition by him of milestones and performance criteria, of which timing is but one of many. Accordingly, every other relationship, e.g. by the developer with funders, tenants and so on, professionals too, is essentially subservient to it. For example, the landowner wants works carried out on other land perhaps wholly or partially in lieu of monetary consideration, as a condition of grant of the developer's interest in the development site, and before it may be occupied for commercial use. Or, perhaps the landowner has a more tangible interest in the principal development, e.g. a share in prospective rents, or control over future use as part of its strategy as, say, a local authority. It may be that the development is in other ways critical to the use and enjoyment of its retained assets, e.g. a railway station or transport interchange, perhaps part or the whole of which is to be rebuilt as part of the commercial development. This is often more convenient than simply taking cash, particularly if the chosen developer has relevant and valuable skills.

It behoves the developer to negotiate his commercial agreements with the utmost care, in the knowledge that unless the other players in the piece are already part of that process, he will be judged on the success of that negotiation by their willingness (or unwillingness) to participate in line with the agreed terms. This reaches right down to the appointments of the professional team some of whose work may have been commissioned as a precursor to, but most of which follows, the event, and ultimately to the building contract itself. The resultant development agreement may feature large in the eventual building contract and perhaps be reflected in particular provisions of professional appointments.

Contractors and professionals, particularly those professionals who are administering the building contract, should take care when a development agreement between the landowner and a developer is in some way woven into the fabric of their own obligations. There are times when a professional may be concerned to receive legal advice as to the prospective impact on his own role. This may reflect a certain timidity, or it may point up the need for the developer to be absolutely clear in his requirements. It may also point up the need for the lead professional, say a project manager, to be up to speed on the requirements, and if the written contractual relationship between the developer and his other professionals prescribes a measure of delegation of authority to the project manager, the professional must in turn be clear in his mind on what and whom he can rely, and whether and how far he must follow his own judgement in interpreting those requirements. Happily, it will often be that what is required is plain on the face of it. If it is, or seems, obscure, then clarification should be sought: misunderstanding or allegations of misrepresentation have a potential all of their own.

Finally, it is rare in commercial development to find that individual players per se are flesh and blood human beings. They may be public bodies with statutory corporate identities such as local authorities, regional development agencies and so on, or they may be corporate entities. Sometimes they will be companies providing the interface for an underlying joint venture, possibly a partnership between corporate entities, a limited partnership or a limited liability partnership, all of which have unique legal characteristics. In the day-to-day conduct of development, the (very real) distinctions may not loom large, or at least appear to do so, and therein lies the danger. If there is default, or a dispute, then the constitution of the particular player and the security it has given to others, of whatever kind, may be critical in determining the ability of that player to perform.

Later, we shall consider the effects of constitution of the developer, indeed any contracting party, on legal liability, including the doctrine of ultra vires (beyond the powers). Suffice it to say at this point, however, that no assumption should be made of a player's ability to perform. The most common constraint is a natural one, resources. The simplest notion is that of a company which has cash in the bank unclaimed and unsecured. Now consider a public-sector body such as a local authority or an agency of government. There is, actually, no bottomless pocket to speak of save ultimately the embarrassment of central government. In the 1990s, real problems were encountered with the advent of NHS hospital trusts as principal players in hospital-building schemes under the private finance initiative (PFI). First, there was the issue of ultra vires which required special legislation so that a project could be certified by the Secretary of State [National Health Service (Private Finance) Act 1997]. Second, there was the problem of residual liabilities if, for example, an NHS hospital trust were wound up and its assets otherwise taken back into whatever body was deemed appropriate at the time, e.g. the local health authority [National Health Service (Residual Liabilities) Act 1996]. Residual liabilities are thus now covered, but when dealing with all agencies and public-sector bodies, a lawyer needs to go directly to the enabling legislation to understand his client's position. The fact is that, unless something is expressly prescribed, e.g. guaranteeing by government of borrowing (and the guarantee is actually given), there is no implied mechanism for deepening the pocket. One thus has to rely on the willingness of politicians to commit funds before the bottom is reached. Fortunately, the UK is not bankrupt yet.

The developer

A resourced developer may most often be expected to be a single corporate entity. It may be the creature of financial interests other than direct funding, e.g. venture capitalists or joint venture partners of whatever origin, and thus the subject of some underlying form of joint venture.

It is therefore essential to understand something of the nature of the corporate entity. It is a legal person, and exists as such because it has been created under the Companies Acts and duly registered as a company at the Companies Registry. As a non-human legal person given life only by statute, it suffers from potential constraints of ultra vires. Public-sector bodies as well often have some measure of relief in their statutory constitutions, particularly in the case of disposal of assets. It is not a total comfort, however, and the same applies to companies.

The objects for which a company exists are contained in its memorandum of association, and the regulation of its affairs is governed by its articles of association. Activities beyond prescribed objects are ultra vires. There may also be a shareholders’ agreement further regulating its affairs as between its own players. If this binds all its shareholders, it too may be registered. Whilst the Companies Acts provide a measure of protection in terms of actions approved by the board, ultra vires is not an entirely dead subject, and if lawyers should not make assumptions, neither should others.

That said, however, issues of ultra vires concerning companies are infrequent: the more likely concern is one of financial resources. Whatever the constitution of the developer, resources are fundamental and a specially created subsidiary, perhaps with part of the name of the proposed development or of the immediate holding company in its title, may be an entirely nominal entity. Witness the recession of the 1990s which left so many professional fees unpaid and professional firms bankrupted. We have had recessions before, such is the pattern of commercial life, but the 1990s recession was also endured post-Insolvency Act 1986 which created new kinds of insolvency control to protect insolvent businesses and to preserve the prospects of revitalisation, however remote in practice. It is as well to mention certain of them here because it is the influence of that act which today characterises the nature of the ‘developer’.

The first of these innovations was ‘administration’ under which creditors could apply to the court for an administration order. If successful, this would result in a moratorium on enforcement of indebtedness whereby, if a means could be found to restore the company to solvency, the appointed administrator would work to that end. There have been some notable corporate administrations, not development-related as such, but in terms of numbers they are dwarfed by the other major innovation, administrative receivership, which has affected many a development. Without doubt, the influence of the Insolvency Act 1986 has gone to the root of development and in particular the identity of the developer.

The essence of administrative receivership is (or rather was—see the Enterprise Act 2002 below) that so long as the bank or lender has security over the whole or substantially the whole of a company's assets and the borrower (mortgagor) is in some kind of breach whereby the security can be realised, then an administrative receiver can be appointed to run the affairs of the company (and he may, in particular, or rather could oppose and thwart the appointment of an administrator by the court, and thereby the imposition of a moratorium). With these new-found powers, the banks promptly maximised their security. No longer was it appropriate for a developer to run a series of developments through one principal company, each secured at different banks to the extent of the development in question. Now, in practice, a separate subsidiary would need to be created, a single-purpose vehicle (SPV), for each particular development, with a debenture to be given over all of its assets (such as they might be), thus placing the bank in control. And so were born the nominal corporate entities masking as ‘developer’ (e.g. Bloggs (Neasden) Limited—see Preface), whilst the bank, while lending to it, could look to the covenant of a separate guarantee from its holding company (e.g. Bloggs Limited). However, important changes were made by the Insolvency Act 2000 and the Enterprise Act 2002, which are now in force.

It is helpful to outline these changes in the law because they permeate the default provisions of every commercial contract including leases. They therefore also affect a professional's relationship with his corporate employer in times of the latter's financial distress. The Insolvency Act 2000 provisions, here discussed, apply only to small companies as that term is understood by Section 247(3) Companies Act 1985. That is to say, the company has a turnover of not more than £2.8 million per annum, a balance sheet total not exceeding £1.4 million and not more than 50 employees. To qualify as a small company, the company must satisfy two or more of those requirements. Essentially, in case of insolvency even post-1986, a company voluntary agreement with creditors would inevitably invite hostility from debenture holders, and floating charges would crystallise. Sections 1 and 2 of the 2000 Act and Schedules 1 and 2, now provide a choice for directors of a small company who may proceed with a voluntary arrangement, with or without a moratorium which, unlike post-1986 administration, does not require an order of the court. The use of such an arrangement, therefore, obviates the need for formal administration which, as before, still requires an application to the court.

Procedure apart, a statement of the company's nominee (who does not have to be a licensed insolvency practitioner) filed in the court, in so many words that the arrangement has a reasonable prospect of success, facilitates the imposition of a moratorium preventing enforcement by a secured creditor of its security without the permission of the court. Particularly, debenture holders are precluded from applying to the court for permission to enforce security as they would have done under the previous law. Previously, a debenture holder could effectively override an administration by appointing his administrative receiver, and crystallising the floating charge, but no longer can he do so pending termination of the moratorium. Members and creditors can apply to the court in certain instances of default, during the moratorium, the court having wide ranging powers.

The moratorium itself can last up to 28 days although it can be extended by a further two months by resolution after meetings of the company with its creditors. It will, therefore, be seen that this is only a temporary measure and that, eventually, the debenture holder will prevail. However, it should be borne in mind that this out-of-court moratorium procedure, available in addition to formal administration, is intended to apply only where there is a reasonable prospect of the moratorium enabling the company to carry on its business. If that is not the case, debenture holders will have their way.

However, consequent upon the Enterprise Act 2002, the position of debenture holders has changed, as has also the whole fabric of corporate insolvency administration. The relevant provisions do not affect existing floating charges under which administrative receivers can be appointed as before. Remember that where the security constituted the whole or substantially the whole of a company's assets, the floating charge holder (debenture holder) could appoint an administrative receiver so long as the security covered the whole or substantially the whole of the company's assets. A floating charge is distinguished from a fixed charge in that the assets secured can be dealt with by the company until the charge crystallises through an event of default as prescribed by the charge. A person dealing with the company needs to be satisfied that such security has not crystallised, best done by the charge holder itself certifying to that effect. A director of the company can certify and for most purposes that is usually acceptable.

The main thrust of the new legislation, as regards administration both of companies large and small, is to obviate the need for a court order, but relevant papers still have to be filed in the court. In most cases, administrative receivership (including of larger companies—but see the Enterprise Act 2002 below) will not be available to a debenture/charge holder, giving way to a single administration procedure. Given that the chargeholder once had to intervene in a court application to appoint an administrator, in order to appoint an administrative receiver, the appointment of an administrative receiver did not require a court application as such. The new procedures will, therefore, suit charge holders perfectly well, save that they will be operating under a new regime. As it is early days, it remains to be seen if any flaws will, in the event, manifest themselves. As to the actual procedure, it is helpful to understand a little of how this will operate. A bank lender intervening will soon make his presence felt amongst all those concerned with the development. The new law applies to most companies save where the indebtedness exceeds £50 million and the issue of a capital market investment. Administrative receivership will also still be available to a project company where the project is a public-private partnership involving step-in rights. A further exception is where the company is a registered social landlord under Part 1 of the Housing Act 1996. The Secretary of State is further empowered to add or remove categories of exclusion.

These exclusions apart, administration, using the new non-statutory procedure, will thus be available where rescuing the company as a going concern is not reasonably practicable. There are important drafting points for lawyers to ensure that floating charges qualify for administration, however. An immediate moratorium arises once notice is given by the company or its directors of intention to appoint an administrator and notice must also be given to a qualifying floating charge holder which has five business days in which to appoint its own administrator if it does not consent to the choice. If the floating charge holder does not appoint its own administrator the company or its directors can proceed with their own administration. Of course, the floating charge holder itself can initiate the procedure.

As has always been the case, those finding that they are dealing with an insolvency situation should take legal advice immediately. It should be remembered that a bank lender is concerned, having once lent, with being repaid but, unless there is an economic downturn, one of the best ways of achieving this may be through allowing reconstitution of the scheme in the hands of a new developer who may well want to appoint the original team, assuming that they were not the cause of the problem in the first place. A landowner under a development agreement (see Chapter 3) will see developer insolvency (and so prescribe) as an event of default, hence the need as will be seen for an accommodation of the bank in default procedures in this respect.

Moving on from insolvency, there is no rule of law whereby a holding company is in some magical or mysterious way inherently responsible for the debts of its subsidiaries. Prospective liability of directors for trading while insolvent apart (necessitating an application to the court by the liquidator) unless one has the guarantee of the parent company or at least of a company with sufficient assets, the covenant of a company is essentially as good as its own assets and no more. Time and again contractors enter into building contracts through (SPV) developer subsidiaries, with no thought for the contractual consequences. Professionals are often no different in their approach. Finance directors can be expected to know...

Table of contents

• Cover Page
• Development and the Law
• Title Page
• Copyright Page
• Preface
• 1: The players: Or: Who do you think you are?
• 2: Joint ventures: Or: Can I join in too please?
• 3: Development and forward funding agreements: Or: Now, let's really party!
• 4: Forward sale, loan and occupational tenant agreements: Or: And here's how the others do it
• 5: Site assembly and elements of land law: Or: What have we here?
• 6: Interpretation and some statutory hurdles: Or: How to invite trouble?
• 7: Construction procurement in the development process: Or: Before you build a house of cards, first get a pack
• 8: When it all goes wrong: Or: Fallback in action
• 9: The management of risk: Or: Tis better to be safe than sorry