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A collateral warranty is a separate agreement in which a party involved in a construction project, such as a contractor, sub-contractor, or consultant, warrants to a third party that it has complied with its obligations under the main building contract or consultancy agreement.
In essence, collateral warranties gives a third party a direct contractual link to someone who would otherwise owe them no legal duty.
In most construction projects, only the employer (such as a developer) has a contract with the main contractor or consultant. Other interested parties, like funders, tenants, or purchasers, are not part of those contracts. If something goes wrong with the design or build, they cannot sue the responsible party unless there is a collateral warranty in place.
Collateral warranties fill this legal gap by creating a contractual duty of care directly between the third party and the party carrying out the work. However, as with any form of contract, the value of the warranty should be assessed by reference to whether it can be enforced. In other words, would the contractor or consultant or specialist likely be in a position to pay if in breach?
Collateral warranties are typically required:
By funders or banks - to protect their investment during and after the construction phase;
By purchasers - buying the development once built;
By tenants - in commercial leasing situations, particularly for large developments or fit-outs;
In forward funding or forward sale arrangements - where the end user is not the party commissioning the build.
They are commonly required on:
Office and commercial developments;
Mixed-use or retail schemes;
Residential schemes with institutional investment or social housing elements;
Infrastructure and public sector projects.
Collateral warranties may be required from:
Main contractors - typical warranties are given to funders, purchasers, or tenants and cover standard of workmanship, compliance with the building contract, rectification of defects. Warranties also often include step-in rights for funders and obligations not to vary the contract without consent.
Key sub-contractors and specialist suppliers or installers (e.g. M&E contractors, cladding contractors or design consultants) - in favour of employers, funders, or end-users and tend to focus on design obligations, materials compliance, and quality of works, also allowing direct claims for design-related issues that aren’t recoverable from the main contractor alone.
Design professionals such as architects, engineers, or surveyors - warranties generally given to funders and sometimes tenants or purchasers. Will typically cover reasonable skill and care, compliance with statutory duties, and insurance cover, with warranties often closely reflect the consultant’s professional indemnity (PI) insurance terms.
While the terms vary, a collateral warranty typically includes:
A warranty that the works/services will be carried out with reasonable skill and care (or in accordance with the main contract);
An obligation to maintain professional indemnity insurance for a specified period;
Step-in rights – allowing funders to “step into” the employer’s position if the employer defaults;
Restrictions on assignment of the warranty;
Limitations on liability, often reflecting the original contract.
Collateral warranties can create risks and commercial considerations for all parties involved:
For Warrantors (Contractors/Consultants):
Extended liability to third parties they did not originally contract with;
No greater duty or liability clauses - ensuring that the warranties dovetail with the main contract and create obligations either less stringent or no more stringent than the main contract.
Increased insurance obligations;
Potential conflict of interest if multiple beneficiaries have competing demands;
Uncertainty over the duration and limits of liability if warranties are called upon years after completion.
For beneficiaries (Funders/Tenants/Purchasers):
Warranties are only as good as the warrantor’s financial standing and insurance cover;
Delays in obtaining executed warranties can hold up funding, lettings, or sales;
Not all warranties are equal – quality of drafting, scope, and exclusions matter.
Some key areas to consider include:
Scope of duty - the party providing the comfort should warrant it has complied and will comply with its obligations in the underlying contract, including (where applicable) appropriate standards for workmanship, materials, and the relevant skill and care to be exercised in the design of the works.
Fitness for purpose clauses - can potentially impose a higher duty than reasonable skill and care and consequently significantly increase risk and liability for consultants or contractors.
Insurance – appropriate professional indemnity cover which is required which may be limited by value or some other way and therefore either more expensive or not for the warrantor.
Step-in rights - in certain circumstances the beneficiary may want or need to have the right to ‘step-into’ the underlying contract and issue instructions.
Assignment – whether the beneficiary of the warranties can onward assign it's rights to another party in the future (i.e., a future purchaser).
Limitations of liability – such as a cap on liability, exclusion clauses, and/or a net contribution clause
Other forms of security - collateral warranties should be approached as part of the overall risk analysis by relevant parties which may mean a combination of different types of protection for the developer or others, such as a performance bond or letter of reliance, which in turn can impact negotiations over the terms of collateral warranties.
Dispute resolution - clauses in collateral warranties typically mirror those in the main building contract, but not always.
Third party rights allow named individuals or organisations to enforce specific terms of a construction contract directly, without needing a separate collateral warranty, by relying on the Contracts (Rights of Third Parties) Act 1999. They offer a simpler alternative where appropriate, though often with less flexibility in enforcement and negotiation.
The starting point, whether we are acting for the developer, contractor or 3rd party is to look at the overall project, risk, commercial positions and cost/benefit at the beginning of the project/their involvement. There may be little point and/or limited extra protection to be gained in creating more and more legal documents, additional cost and likely delays just to have every form of documentary security possible in place.
We use our construction project transaction and negotiating experience to assist clients, often including developers or contractors on projects of bigger size or complexity than they have dealt with previously, to plan robust and proportionate solutions acceptable to all parties.
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Solicitor - Construction & Engineering
Daniel is a Consultant.
He is a Construction & Engineering law specialist and covers the full span of construction matters across a range of sectors including private wealth, office, living, logistics, hospitality & leisure and energy &am...
