Building and Construction update: New ‘ipso facto’ regime – restricting a termination for insolvency

Nov 16, 2017

From 1 July 2018, amendments to the Corporations Act 2001 (Cth) in the form of a new ‘ipso facto’ regime come into effect. The new amendments are part of the Federal Government’s commitment to assisting builders in financial distress.

Background

An ‘ipso facto’ clause is a clause in the contract that allows a party to terminate or modify the operation of a contract solely because an insolvency event has occurred in relation to the other party. For example, the other party may enter into a scheme of arrangement or into voluntary administration.

It is not uncommon for a construction contract to feature an ‘ipso facto’ clause in favour of the principal (in the case of a head contract) or in favour of the head contractor (in the case of a subcontract); that party may terminate the contract or take over the remaining works if an insolvency event occurs in relation to the builder (being the contractor in the case of the head contract, or the subcontractor in the case of the subcontract).

The right of termination or take-over for insolvency is critical to the management of project risk.

However, termination or take-over also diminishes the prospect of the financially distressed builder saving or restructuring its business. It also potentially disrupts the builder’s contractual arrangements and is destructive to the builder’s good will.

What you need to know

From 1 July 2018, a principal or head contractor will not be able to enforce a right under an ‘ipso facto’ clause to terminate a construction contract or to modify the operation of a construction contract (including the right to take over the remaining works) solely because an insolvency event has occurred. Upon an insolvency event, that right is ‘stayed’.

Staying the right of termination will enable a builder to continue to manage its business affairs and to meet its obligations under the contract, and will continue until:

  • the builder’s external administration ends, unless the builder is being wound up in which case the stay shall end when the builder’s affairs are fully wound up;
  • the managing controller’s control of the builder ends; or
  • such further time as the Court may allow upon application by the builder.

Interestingly, the stay on the right of termination does not apply if the builder is placed into liquidation without first going through voluntary administration or a scheme.

It is important to note that there are exceptions to the stay, which include:

  • Courts will have the discretion to allow a termination right to be enforced if doing so is appropriate in the interests of justice.
  • Termination rights may continue to be enforced with the consent of the relevant administrator, scheme administrator or managing controller.

Further, the regime does not expressly prohibit the enforcement of termination for other reasons. For example, a principal or head contractor may still exercise a right under the contract to terminate or take over the works due to the builder’s failure to perform an obligation.

Due to the complexity of the new law reforms, the Federal Government has allowed considerable time for principals and head contractors to adjust the terms of their construction contracts to align with the incoming limitations.

To find out more

To find out more about how the new ‘ipso facto’ regime affects you, please contact Andrew Chan, Associate, on (03) 8600 8834 or achan@kcllaw.com.au, or Darren Cain, Principal Lawyer and Head of KCL Law’s Building and Construction practice, on (03) 8600 8835 or dcain@kcllaw.com.au.

BACK