On July 1, 2018, the modernization provisions of the Construction Act came into effect. In addition to various changes to the Construction Act (see issue 2, Winter 2018, of this newsletter), section 85.1 introduced mandatory surety bonds for "public contracts" if the contract price is $500,000 or more. A public contract is defined as a contract between an owner and a contractor respecting an improvement, if the owner is the Crown, a municipality or a broader public sector organization.
In addition to requiring labour and material payment and performance bonds for public contracts with a contract price of $500,000 or more, subsections 85.1(4) and (5) provide a prescribed form for labour and material payment bonds and performance bonds. Further, ss. 22(4) provides a prescribed form for holdback repayment bonds. This article reviews the key provisions of each of these bonds.
Performance Bond
A performance bond is a form of guarantee that the bonded contractor will perform its obligations under the contract. Performance bonds for public contracts are prescribed in Form 32 of O. Reg 303/18.
Section 8 of Form 32 outlines the four conditions precedent for a surety’s liability under the bond, being:
- the contractor is, and is declared by the owner to be, in default under the contract;
- the owner has given notice to the contractor of a default;
- the owner has performed its obligations under the contract; and
- the owner has agreed to pay the balance of contract price to the surety or as directed by the surety.
The “balance of contract price” is defined as the total amount payable by the owner to the contractor under the contract, reduced by any amount deducted by the owner for the owner's direct expenses and all valid and proper payments made to or on behalf of the contractor under the contract.
If the surety accepts liability, the surety may select one of the following options:
- remedy the default;
- complete the contract in accordance with terms and conditions;
- obtain a bid for submission to the owner for completing the contract; or
- pay the owner the lesser of the bond amount, or without duplication, the owner's direct expenses plus the cost of completion of the contract less the balance of contract price (discussed in greater detail below).
The process for making a claim on a Form 32 performance bond is as follows:
- An owner may request a pre-notice meeting with the surety.
This does not constitute a notice under the bond or under the contract and is not a precondition to the giving a notice.
Upon receipt of a request for a pre-notice meeting, the surety must propose a mutually convenient time for a meeting between the contractor, owner and the surety. This meeting must take place within 7 business days of the surety's receipt of the owner's request, unless otherwise agreed to by all parties.
Importantly, the pre-notice meeting is without prejudice and no information provided by a party at this meeting will constitute a waiver or compromise of its rights and obligations.
- An owner may make a demand on a surety by giving written notice to the surety.
Schedule A to form 32 provides the form of notice to be given by the owner to the surety. Several notable statements are included in the form of notice, including a representation that the owner has honoured its obligations under the bonded contract.
In addition, Schedule A includes a list of documents and information which the owner may include with the notice, including, amongst others, a copy of the bonded contract, original and latest schedule, specifications and drawings, reconciliation of all invoices, accounting of all payments made and holdback retained, copies of claims for lien or legal proceeding received on the contract. Although the owner's provision of these documents is optional, the owner is encouraged to provide any information or material that may expedite the investigation.
- Post-notice conference is convened to discuss mitigation work
Upon receipt of a notice, the surety must propose a face-to-face meeting, telephone call or meeting with the owner within 5 business days.
The post-notice conference is convened to discuss what work must be done while the surety is conducting the investigation in order to effectively mitigate the costs the owner will seek to recover under the performance bond (defined as mitigation work).
The owner must allow the surety reasonable access to the work for the purpose of monitoring its progress. Any such mitigation work must be undertaken without prejudice to the rights of the owner, the contractor or the surety under the contract, the bond, or the applicable law.
Costs for mitigation work are to be borne by the owner. The owner may seek to recover this cost from the surety, but must keep separate records of all amounts related to mitigation work.
- The surety acknowledges, investigates and responds.
If the owner delivers a notice prior to a pre-notice meeting, the pre-notice meeting is deemed to be retracted. The surety must promptly initiate an investigation, using its best efforts to determine if the conditions precedent have been satisfied and to determine liability under the bond.
Unlike the previous forms used by the surety industry, Form 32 requires the surety to acknowledge the notice within 4 business days following receipt. To help sureties meet the short deadline, Schedule B of Form 32 includes a template acknowledgement.
The surety must provide the owner its written response within 20 business days after receipt of a notice, unless otherwise agreed to between the surety and the owner. The surety's response must indicate whether the surety accepts liability under the bond or, if the surety is unable to determine whether one or more of the conditions precedent has been satisfied, the surety may propose a process for collaborating with the owner to complete the work.
If the owner requests a meeting to discuss the status of the investigation, the surety must meet with the owner within 5 days following the receipt of the request.
- The owner has a right to do necessary interim work.
During the investigation, the owner may undertake “necessary interim work”, which is defined as actions necessary to 1) ensure public or worker safety, 2) preserve or protect the work under the contract from deterioration or damage; and 3) comply with applicable law.
The owner must give written notice to the surety within 3 business days of the commencement of the necessary interim work.
The owner must allow the surety reasonable access to the work for the purpose of monitoring its progress. Any such necessary interim work must be undertaken without prejudice to the rights of the owner, the contractor or the surety under the contract, the bond, or the applicable law.
Lastly, the surety must reimburse the owner for the reasonable costs incurred in undertaking such necessary interim work.
In the event a surety is liable, the surety must pay the owner's direct expenses, which is broadly defined by Form 32 to include "reasonable professional fees", "reasonable external legal fees", and "reasonable, miscellaneous and out-of-pocket expenses" incurred by the owner to complete the contract which would not have been incurred but for the default of the contractor. In addition, "direct costs" incurred as a result of extended duration of the contract, reasonable costs of necessary interim work and mitigation work, as well as any additional fees agreed to by the obligee, the principal, and the surety, all fall into the definition of "Owner's Direct Expenses".
Form 32 does clarify, however, that subject to an agreement to the contrary, the surety will not be liable under the bond for liquidated damages under the contract, any damages caused by delayed performance or non-performance of the contractor (except as provided for in Form 32), or any indirect or consequential damages.
Labour and Material Payment Bond
A labour and material payment bond provides certain guarantees that contractors will be paid for the labour and/or material that it supplies pursuant to a specified contract. Labour and material payment bonds for the specified public contracts are prescribed in Form 31 of O. Reg 303/18.
Form 31 extends protection to subcontractors, sub-subcontractors, unions, and workers trust funds. It also provides a regimented timetable for the submittal and response to a claim. The process under the prescribed labour and material payment bond is as follows:
- As a condition precedent, a claimant must complete and submit the prescribed "Notice of Claim" form within the specified time period;
- In respect of any claims for holdback, the claimant must submit the notice of claim within 120 calendar days of the date in which the claimant should have been paid in full under its contract.
- In respect of any claim for anything other than holdback, the claimant must submit the notice of claim within 120 calendar days of the date on which the claimant last performed labour or provided materials for which the notice of claim was given.
- In respect of any claims for holdback, the claimant must submit the notice of claim within 120 calendar days of the date in which the claimant should have been paid in full under its contract.
- No later than 3 business days after a surety receives a notice of claim, the surety must (a) acknowledge receipt of the notice of claim, and (b) request any information or documentation, from the claimant, required to determine the claimant's entitlement under the bond.
- The surety must provide a position in response to the notice of claim at the earlier of (a) 10 business days (15 business days for claims made by sub-subcontractors) after the receipt by the surety of a notice of claim; (b) 25 business days (35 business days for claims made by sub-subcontractors) after receipt by the surety of a notice of claim; or (c) such longer time as agreed by the parties;
- Amounts not in dispute must be paid by the surety within 10 business days of the surety providing its position to the claimant, except if the surety makes an application to the Court with respect to such amounts.
- Any suits or actions pursuant to a labour and material payment bond must be commenced within one year after the date the contractor last performed work on the contract.
It is also noteworthy that if the subject matter of a notice of adjudication, delivered in accordance with the Construction Act, is "substantially" the same as that contained in the notice of claim, the obligations of the surety under the bond is stayed until the surety receives a copy of the adjudicator's determination or there is otherwise a failure to complete or a termination of the adjudication.
Form 31 also incorporates 4 schedules, which are template forms for a notice of claim for subcontractors and sub-subcontractors, acknowledgement of notice of claim, and surety's position.
Holdback Repayment Bond
The Construction Act requires a payer to withhold 10 percent of the price of the services or materials supplied under a contract or subcontract, plus any amount specified pursuant to a written notice of lien. This obligation is typically fulfilled by a payer remitting not more than 90 percent of a contractor's progress draw (less any amount to satisfy a lien, if applicable). Section 22(4) of the Construction Act is a new provision allowing for alternative methods of retaining holdback, including a letter of credit (Form 4), a demand-worded holdback repayment bond (Form 5), and any other form that may be prescribed. However, at present, Regulation 303/18 does not prescribe any other form.
With respect to holdback repayment bonds, the prescribed form, Form 5, lists the contractor as the principal, owner as obligee and surety company as surety. It requires the parties to fill out basic information surrounding the construction contract, including when it was entered into and a brief description or title of the contract.
The second recital in Form 5 implies that in order to give effect to the prescribed holdback repayment bond, there must be a provision in the contract which allows for it:
AND WHEREAS the Contract allows for the owner to make payments to the Contractor without retaining the holdback, as defined in the Construction Act (the “Act”), in the form of funds;
Making a claim on a holdback repayment bond requires, inter alia, the following:
- Whenever a lien against the holdback in respect of the contract has not expired or been satisfied, discharged or otherwise provided for under the Act but is preserved, the owner may make a demand on the bond by sending a demand letter executed by two officers of the owner (form is provided for in schedule A of Form 5). The demand may include amounts required for security for costs;
- The demand must be received by the surety on or before a period of 120 calendar days from the last date on which a lien arising from the contract could have been preserved under the Construction Act; and
- All demands and notices under the bond must be delivered by facsimile or registered mail to the surety, with a copy to the contractor.
With respect to the requirement that the demand be received by the surety, Form 5 specifies that the demand must be sent by facsimile or registered mail. Sending the demand by email does not comply with the bond form even though the surety is required to provide an email address in the bond. Form 5 also stipulates that the demand must be addressed to the surety and copied to the contractor.
The prescribed form stipulates that a surety’s obligation to pay arises solely upon an owner delivering a demand in the prescribed form to the surety. The surety may not assert as a defence that a default has not occurred, or that the lien is invalid, or that the amount demanded is inappropriate, or that the obligee is in default under the contract. Although Form 5 provides that payment will be made within 10 business days of receipt of a demand, the template demand form (Schedule A to Form 5) includes language that requires payment within 20 business days of receipt of the demand.
Conclusion
Parties involved in public contracts as defined by the Act must be aware of these prescribed bond forms, as they impose requirements and deadlines for submitting and resolving claims. Notably, regulation 306/18: adjudications under Part II.1 of the Act provides for disputes in relation to labour and material payment bonds to be referred to adjudication, with certain modifications. With the adjudication regime coming into force on October 1, 2019, it is even more crucial for those involved in public contracts to understand and incorporate these prescribed bond forms into their project planning, as they may be the subject matter of an adjudication in the future.