Collateral Warranty Definition

The theoretical reasons for collateral warranties are twofold: (1) the common law doctrine of privity of contract, which prevents a person from suing under a contract to which he is not a party; and (2) rulings of the House of Lords in 1989 and 1990, which prevent the recovery of “economic loss” (i.e. the cost of remedial work) in an action in tort for negligent design or construction.

The collateral warranty is one of the most important documents in construction. Its main purpose is to provide security for a fund, tenant or buyer ("third party"). It's an agreement under which a consultant, contractor or subcontractor warrants to a third party (essentially) that it has complied (and/or will comply) with its appointment, building contract or subcontract.

It is important that the benefit of the warranty should be freely assignable, usually twice. Unless it can be assigned to a buyer the warranty is valueless to him, so assignability makes the property more marketable.

If a third party can’t take an assignable warranty, it may be reluctant to lend money to the developer, or to buy or take a lease of the property.

The Contracts (Rights of Third Parties) Act 1999 has modified the doctrine of privity of contract, but has so far had little or no impact on collateral warranties. (We did once believe that the Act would eventually be used to replace warranties from subcontractors and trade contractors, but that time now seems to be some way off.)

In 1997 the Construction Law Journal published an article by our Principal, David Lewis, about the JCT standard forms of agreement for collateral warranty, which contained a brief history of collateral warranties.

Judges sometimes consult articles in learned publications before arriving at their decisions. In this way it is occasionally possible for the writer of such essays to influence the development of the common law or the interpretation of enactments. And, as it happened, in 2000 Lord Goff of Chieveley and Lord Millett mentioned David Lewis’s article in a leading House of Lords case on collateral warranties, Alfred McAlpine Construction Ltd v. Panatown Ltd. Lord Goff said:

“…I have been impressed by the suggestion of Mr. David Lewis … that the real purpose of the [duty of care deed, i.e. collateral warranty] was to provide a contractual remedy in negligence (comparable to that formerly available in tort under Anns v. London Merton Borough Council [1978] A.C. 728 before that case was departed from by your Lordships' House in Murphy v. Brentwood District Council [1991] 2 A.C. 398) against McAlpine by subsequent owners of the building.”

Lord Millett said:

“I agree with the Court of Appeal that the [collateral warranty] was primarily designed to cater for subsequent purchasers. This is also the view expressed by Mr. Duncan Wallace Q.C. in "Third Party Damages: No Legal Black Hole?” (1999) 115 L.Q.R. 394 and is confirmed by an article by Mr. David Lewis in (1997) 13 Const. L.J. 305. He notes that the widespread use of collateral warranties … derives from the change in the law of tort which occurred in 1990 when the House decided Murphy v. Brentwood District Council [1991] 1 A.C. 398 and departed from Anns v. Merton London Borough Council [1978] A.C. 728.”