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Statutory security devices in construction contracts in France and Germany, a challenge to the parties´ freedom of contract favoured by the FIDIC terms

By Rechtsanwälte Dr. Götz-Sebastian Hök und André Jahn

In the past standard forms for international construction contracts did not include any type of security device covering compensation claims of the contractor. It took until 1999 when the new editions of the FIDIC forms were published, to change this. To the pleasure of all contractors clause 2.4 (Red Book) now provides:

The Employer shall submit, within 28 days after receiving any request from the Contractor, reasonable evidence that financial arrangements have been made and are being maintained which will enable the Employer to pay the Contract Price (as estimated at that time) in accordance with Clause 14 [Contract Price and Payment]. If the Employer intends to make any material change to his financial arrangements, the Employer shall give notice to the Contractor with detailed particulars.

However, much higher standards have been achieved under German and French law. In both countries the contractor (architects and engineers as well) can either demand that the employer grants a mechanics´ lien in the form of a mortgage on the parcel of land upon which the buildings are erected (see § 648 section 1 German Civil Code) or such a mortgage is imposed upon this land by statue (art. 2103 French Civil Code). Of course both types of security devices are only available if the substantive law applicable to the contract is either French or German law.

Moreover, even stricter rules can be found in § 648 a German Civil Code and in art 1799-1 French Civil Code. Under the German provision the contractor may suspend all his duties to perform until the employer has found a bank that is willing to stand surety for the employers´ debt. This regulation and its French equivalent are mandatory. The parties can not contract out of them. This is a big issue for foreign employers especially for those who are not familiar with German and French law.

So, how works the statutory mechanism of German law? 

According to § 648 a paragraph 1 German Civil Code contractors for all buildings or external installations or parts thereof except for public building contracts or those for the erection of single family dwelling homes can demand from the employer a security for works done and to be done (German Supreme Court in BGHZ 146, 24, 31) including ancillary claims such as interest. The contractor can do so by setting a reasonable period of time during which the employer has to find a surety, usually a financing bank, and by declaring that he will refuse to perform after this period has expired. Security may be demanded up to the probable amount of compensation under the main contract or a subsequent supplementary contract plus ancillary claims. The latter are estimated at 10% of the major compensation claim. However, it is sufficient if the surety reserves the right to revoke the security in the case that financial circumstances of the main debtor, namely the employer, materially deteriorate. This revocation is effective only in respect to compensation claims for works not yet completed at the time the revocation is received by the employer (German Supreme Court in BGHZ 146, 24, 35)

The security device can be in the form of a guarantee or other promise to pay for the employers´ debt made by a credit institution or credit insurer authorised as such within Germany. However, the credit institution or the credit insurer only has to pay to the extent that the employer acknowledges the contractor’s claim or after the contractor has obtained a money judgment against the employer and the conditions for enforcement of this judgment are met.

On the other hand the contractor has to bear the usual costs for providing this security up to a maximum rate of 2% of the amount secured annually. This does not apply if the security has to be extended because the employer raises defences against the contractor’s compensation claim, typically major defects, and these defences turn out to be unfounded.

The claim to provide a security in the form of a mortgage under § 648 section 1 German Civil Code is excluded in so far as the contractor has obtained a security for his claims under sub paragraphs (1) and (2) of § 648 a German Civil Code.

The consequences of a failure to comply with § 648 a German Civil Code are drastic. The general rule is that a court will treat the parties as if the contract had been terminated. The rights of the contractor are regulated in §§ 643 and 645 section 1 German Civil Code. Under these provisions the contractor may even be entitled to compensation for all losses incurred as a result of his reliance on the validity of the contract.

Aware of this employers might be tempted to avoid these disadvantages that German and French law impose upon them by agreeing that e.g. English law, under which these statutory rights are unknown, shell govern the contract. However, contractors who do so should be aware of the fact that art. 1799-1 French Civil Code is a part of the French “ordre public”. This means that art. 1799-1 French Civil Code will be applicable even if the proper law of the contract is English law. The only way out to avoid this provision is to combine the choice of law clause with a jurisdiction clause in favour of the English courts as well. But even this does not entirely ensure that the rights under art. 1799-1 French Civil Code will not apply. Concerning German law there is no court decision holding that § 648 a German Civil Code is a part of the German “ordre public”. However, our answer is clearly: Yes.

The bottom line of all of this is this: the German and the French legal systems are much more advantageous to contractors than common law jurisdictions. Not only France and Germany have statutory provisions as the ones outlined above, in Switzerland and Turkey similar provisions are in force, which entitle the contractor to demand that the employer grants a mortgage on the land where the site is located.

The FIDIC forms do not exclude these statutory security devices currently in force in the abovementioned countries at all.

LAW OFFICE Dr. Hök, Stieglmeier & Kollegen
Contact: Advocate Dr.Götz-Sebastian Hök
Otto-Suhr-Allee 115,
10585 Berlin
Tel.: 00 49 (0) 30 3000 760-0
Fax: 00 49 (0) 30 513 03 819
e-mail: kanzlei@dr-hoek.de

WARNING: the material contained in these notes is a simplified guide to some of the major topics in German construction law. It is not intended as a substitute for legal advice on individual transactions, and does not necessarily stand on its own. Whilst the contents are believed to be correct, the author cannot accept any responsibility for errors or omissions.

Contribution online since Sunday, March 20th, 2005     
Last updated Monday, March 21st, 2005     
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