There has been much written about (and cautioned against) the use of letters of intent over the years. It is perhaps a testament to the attention letters of intent have been given that the courts have seen very few cases recently where the parties are governed, or said to be governed, by them.

It is not my intention to repeat what are perhaps now trite warnings over the use of letters of intent in place of entering into formal contractual arrangements — although, there is no harm in repeating it, if just once. There is, however, one aspect in respect of them which has had less practitioner attention than perhaps it ought; the impact of the payment provisions of the amended construction act on the payment arrangements under letters of intent.

Given the recent prolificacy of payment related construction cases reaching the courts, it may be only a matter of time before the applicability or otherwise of the payment provisions of the act, intertwined with the complications of letters of intent, comes before the courts.[1]

It is not uncommon for letters of intent to include a cap on the amount payable to the contractor for the duration of time the letter is intended to cover. This should be relatively straightforward, particularly where there is an agreed schedule of rates or priced activities list, along with a clear scope of works and programme for the contractor to adhere to. In an ideal world (where the use of letters of intent is unavoidable), the scope of works, time period and cap are reasonably well aligned and the fully executed contract is entered into before either party has the opportunity to start raising concerns.

However, as is too often the case, the parties do not agree on the terms of the final contract and letters of intent continue to be issued and re-issued, or worse elapse, leaving a void as to how the relationship is governed. As time goes on, the likelihood of disagreements increases. And the chances are they will relate in some way or form to payment.

Assuming that the work authorised under a binding letter of intent is for a period of at least 45 days, it seems to me that the letter of intent could be construed as a construction contract for the purpose of the act, entitling the contractor to periodic payments.

The implications of this could be quite significant for both parties. If and to the extent the payment terms of the letters of intent do not comply with the amended act, then the relevant provisions of the act (and scheme) would apply. As such, a contractor under a lump sum/capped letter of intent could be entitled to periodic payments for the work done, even if the letter of intent did not anticipate this — and the total payable in respect of such payments would not necessarily equate to the cap.

This not only places an administrative burden on the parties by needing to be alert to the importance of preparing compliant and timely payment (and pay less) notices at regular intervals, but it also opens up the question as to how much the contractor is entitled to. As it is unlikely the parties would have agreed the amounts of the periodic payments (as these were not anticipated), such amounts are implied by the provisions of the act and scheme. The key phrase in the scheme in analysing this is ‘the contract price’, as it is this which sets the upper limit of the amount payable. It is defined as:

The entire sum payable under the construction contract in respect of the work.

An employer may argue that this means the agreed capped figure set out in the letter of intent — a position which, arguably, accords with common sense. However, as the construction contract is subject to all of the payment provisions of the act (to the extent that the letters of intent payment terms are non-compliant), section 111(1) cannot be overlooked. This requires the employer to “pay the notified sum.” In the absence of any valid payment or pay less notice from the employer, such sum is the amount notified by the contractor (by means, usually, of payment applications). If the employer has not been administering the applications as closely as the act requires, then the sum total of the periodic notified sums may exceed the cap in the letters of intent. The contractor may have some force in arguing that these become the entire sum payable by the employer.

The obvious way to avoid this risk is to ensure that, if a letter of intent is absolutely necessary, its payment terms are compliant with the amended act, and administered as such. Failing that, the employer (or its contract administrator) must not take undue comfort from any capped figure in the letter and be alert to any interim/periodic payment applications made by the contractor. Failure to respond timely and comprehensively with payment and/or pay less notices runs the risk of the letters of intent cap being dislodged by the sum total of the notified sums.

This article was first published in the Construction Law Review 2016.

For more information on any construction law issue, please contact Edwina Acland on 020 7405 4600 or email email hidden; JavaScript is required.

[1] In Allen Wilson Shopfitters v Mr Anthony Buckingham (2005) EWHC 1165, HHJ Peter Coulson QC (as he was then) commented upon this issue, but this was before the amendments made to the 1996 act by part 8 of the Local Democracy, Economic Development and Construction Act 2009 and was an adjudication enforcement case and so the judge declined to review the correctness or otherwise of the adjudicator’s decision on the matter

This article is for general awareness only and does not constitute legal or professional advice. The law may have changed since this page was first published.