The Hotel Corporation own the Sheraton Hotel in Edinburgh and engaged Melville Dundas to carry our fit-out works. Arguments arose at its completion as to liability for defects. Receivers were appointed to Melville Dundas. A supplemental agreement was reached dealing with a variety of items, including the payment of the sum of £90,000 once the glazing issued had been resolved. An e-mail of 25 July 2003 stated that the estimated remedial work for the glazing issue was £90,000, and that the amount would not be pursued providing that the contractor diligently pursued the matter with its insurers, consultants and other contractors for whom they had responsibility. There was a long stop date of 31 July 2004, after which date the amount could be pursued.

A claim was made for all outstanding monies, except for the £90,000 relating to the glazing. In respect of the other defects, the Hotel Corporation argued that they were entitled to retain sums due on account of the potential cost of rectifying the defects, and that they were entitled to invoke the principle of the balancing of accounts on insolvency in order to set-off the cost of defect rectification.

Lord Drummond Young held that the sum of £90,000 was independent of the contractual retention and independent of any other debts that might be due between the parties. He concluded that the e-mail was sufficiently clear to indicate that its intention was to exclude the principles of retention and balancing on accounts in respect of the sum of £90,000. The sum of £90,000 was withheld for a special purpose. This was to fund the cost of rectifying the glazing defects.

Melville Dundas argued that if Hotel wished to withhold the money they should have served a withholding notice under Section 111 of the HGCRA. The question arose as to whether the HGCRA applied to the supplemental agreement.

Lord Drummond Young considered that there were two types of supplemental agreements. First, settlement agreements that were independent of the underlying contract, and second, supplemental agreements that determined sums due under the original construction contract. He referred to Humphrey LLoyd’s Judgment in Shepherd Construction Ltd v Mecright Ltd , where the settlement agreement “replaced” the original contract to the extent to which the settlement agreement applied.

In this case, the agreement was independent, as it settled part of the construction contract, and so Section 111 did not apply. In conclusion, the agreement of 24 July 2003 excluded any right of retention against the £90,000. On the proper construction of the agreement, it excluded rights of retention and set-off. Further the amount had been held for a specific purpose.