Subcontracting under UAE Law

By Ahmed Ibrahim, Partner, Fenwick Elliott

Subcontracting is common in the modern construction industry. It would almost certainly be unmanageable for one contractor to deliver a construction project, especially if the project involves a certain level of complexity, without contracting third parties having various expertise and capabilities to carry out specific portions of the works. On the other hand, from the project owner’s perspective, it does seem more desirable to engage one main contractor who remains responsible for all other subcontractors. That being said, it is not surprising that the main players in most construction projects are the project owner (client/employer), the main contractor and subcontractor(s). This interactive chain naturally gives rise to a number of contractual and legal issues. This paper aims at considering these issues under the UAE law.

The UAE Civil Transactions Code allows the main contractor to subcontract the whole or part of the works to a third party without the need to obtain a permission from the employer, unless otherwise stipulated in the contract, or, if the performance of the works depends on the personal competence of the contractor. This is provided for under Article 890(1) of the UAE Civil Transactions Code. However, in practice, employers tend to have a sort of control over the main contractor in subcontracting the works and the selection of subcontractors. The degree of such control varies. The contract may restrict the scope of subcontracting by way of prohibiting subcontracting the whole of the works. This provision is quite common in standard forms of contract, for example Clause 4.4 of the FIDIC Red Book 1999 states that “[t]he Contractor shall not subcontract the whole of the Works.” The contract may further require the main contractor to obtain the prior consent of the employer or the engineer to engage a proposed subcontractor if that subcontractor is not nominated by the employer. In this respect, it may be advisable in some instances to ensure that the contract contains a provision that “… [s]uch consent shall not be unreasonably delayed or withheld […]”1

The subcontractor may be nominated by the employer (nominated subcontractor) or selected by the main contractor (domestic subcontractor). In both cases, the subcontract agreement is to be concluded as between the main contractor and the subcontractor. Hence, there is no direct contractual relationship between the employer and the subcontractor. As a result: i) the subcontractor is not contractually liable towards the employer for delayed delivery or defective works; and ii) the employer is not contractually liable towards the subcontractor for the payment of its entitlements under the subcontract agreement. These two issues will be dealt with in turn.

Subcontractor’s Liability to the Employer

Privity of contract is a well-established doctrine under the UAE law. The subcontractor being not a party to a contract with the employer, it is not under any contractual obligation towards the employer or the subsequent owners in the normal circumstances. The construction agreement between the employer and the main contractor may not impose an obligation on the subcontractor unless such obligation is accepted by the latter.2

In practice, employers may require the subcontractors to provide a collateral warranty that the employer can rely upon to seek the subcontractor’s direct liability for defective works. A collateral warranty is enforceable under the UAE law. It is deemed a unilateral act according to Article 276 of the Civil Transactions Code; thus, the subcontractor is bound by its terms according to Article 278 of the same Code. A collateral warranty typically contains provisions for the assignment and step-in rights to ensure that the employer may assign the obligations set out in the warranty to other beneficiaries such as subsequent owners or tenants.

Regardless a collateral warranty is provided or not, according to Article 890(2) of the Civil Transactions Code, the main contractor remains liable to the employer for the subcontractor’s performance. In many cases, the UAE courts emphasized that the main contractor remains contractually liable for the acts or defaults of the subcontractor even if the subcontractor in reality performed the employer’s instructions during the course of the project.3

In the case of a nominated subcontractor, the general rule is that the main contractor’s liability remains in place since Article 890(2) referred to above does not draw a distinction between nominated subcontractors and domestic subcontractors. However, there might be a defence ground to the main contractor by way of attacking the element of causation that is a prerequisite for the establishment of the contractual liability.

In the well-known decision of the Dubai Court of Cassation in case No. 266 of 2008, the court held that “when the subcontractor is selected by the employer or its consultants, the employer shall be liable for any delay in the performance of the subcontracted part and the main contractor shall not be liable for any delay fines if they can prove that the delay is caused by such subcontractor and the main contractor played no part in the delay.” The grounds of this decision have been debatable as the court provided no specific criteria to disregard the general rule set out in Article 890(2). Thus, this controversial decision is deemed an exception to the general rule that the main contractor’s liability remains in place even so with nominated subcontractors. A main contractor may nonetheless rely upon the above decision as a defence ground in certain cases. For this defence to succeed, the main contractor must properly demonstrate to the court that it has performed its contractual obligations including its supervision duty yet the delay or defective performance could not be avoided for reasons solely attributable to the nominated subcontractor’s fault. There might be a supporting argument for this defence to succeed if the main contractor had no right to object to the nominated subcontractors.4

To minimize its scope of liability, the main contractor – typically if the contract does not provide for a right to object to nomination - may require to include an indemnity clause in the main contract whereby the employer is to indemnify the main contractor against and from the consequences of the nomination.

Employer’s Liability to the Subcontractor

As illustrated above, there is no direct contractual relationship between the employer and the subcontractor. Consequently, the employer is under no obligation whatsoever to the subcontractor. Further, Article 891 of the Civil Transactions Code provides that the subcontractor may not claim from the employer any dues to the main contractor unless it was assigned by the main contractor to do so.

The subcontractor has therefore no option but to seek the payment of its dues from the main contractor. Practical problems occur when the subcontract agreement contains a “pay-when-paid” clause, which is commonly imposed by main contractors. Pay-when-paid clauses are enforceable under the UAE law. The effect of a pay-when-paid clause is that the subcontractor is not able to claim its dues from the main contractor until the latter has been paid by the employer. If the subcontractor brings legal proceedings against the main contractor before the latter has been paid, the court may dismiss the case on the ground of premature filing of the claim.

To reduce the harshness of “pay-when-paid” clauses, the subcontractor may attempt to obtain a direct payment obligation from the employer during the negotiations of the contract. However, in practice, this is rarely acceptable by employers.

In some cases the subcontractor may argue that the non-payment by the employer is solely attributable to the main contractor’s fault. For example, if the main contractor fails to provide the performance bond as required under the main contract. In other circumstances, the subcontractor may argue that the main contractor is in breach because of its failure to pursue its claim against the employer. In this connection, it may be advisable that the subcontractor tries to agree a contractual clause whereby the main contractor will be under an obligation to pursue its claims against the employer to the greatest extent.

Finally, the subcontractor may rely upon Article 247 of the UAE Civil Transactions Code to suspend the performance of the works if not paid. However, this right has to be exercised carefully, particularly in the absence of a contractual right to suspend the performance of the works for non-payment. A subcontractor must seek a legal advice to ensure that the right of suspension provided for under Article 247 can be exercised in their particular case. There are a number of factors that should be taken into consideration in determining whether the subcontractor can exercise the suspension right, this includes for example the proper notification of the main contractor, the successful performance of the subcontractor’s primary obligations under the contract, and whether the payments are certified not.

Conclusions

Subcontracting is permissible under the UAE law and is prevalent in practice. Standard forms commonly provide for mechanisms restricting the scope of subcontracting. Under the UAE law, subcontracting does not create a direct relationship between the employer and the subcontractor. Thus, the main contractor generally remains liable for the timely completion and quality of the subcontracted works. The main contractor may have grounds to defend itself against the liability for nominated subcontractors in particular circumstances. The subcontractor may not claim payments from the employer unless a direct payment obligation exists. Pay-when-paid clauses commonly used in the UAE. However, there are means to limit the effect of such clauses in each particular case.

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• 1. This wording is used in Clause 3.7.1 of the JCT Standard Building Contract.
• 2. Article 252 of the Civil Transactions Codes states that “[a] contract may not impose an obligation upon a third party but it may vest a right to him.”
• 3. See for example the High Federal Court decision in Petition No. 307 of 11 where the court held that the subcontractor’s performance of the employer’s instructions does not qualify to create a contractual relationship between the employer and the subcontractor. As such, the main contractor’s liability remains in place.
• 4. Usually standard forms of contract provide for the main contractor’s right to object to the nominated subcontractors. For example Clause 5.2 of the FIDIC Red Book 1999.