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Presentation ─── September 2013. Disallowance Under the NEC. ICES Seminar. Section One. NEC and Disallowed Costs Overview. Contract Overview. The NEC is now in its 3 rd edition as has been with us for over 20 years

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Disallowance Under the NEC

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Presentation Transcript
section one
Section One
  • NEC and Disallowed Costs Overview
contract overview
Contract Overview
  • The NEC is now in its 3rd edition as has been with us for over 20 years
  • There is considerable debate over how it works and how it will be interpreted by the Courts as there remain very few cases on it
  • This is a highly sophisticated form of contract with complex ideas and methodologies
  • As with most standard forms you see a wide variety of amendments
contract overview1
Contract Overview
  • Just looking at the main form ECC
  • You can have disallowance in the subcontract and even the professional services contract but that is less common
    • Why?
  • Disallowance is only relevant to those Main Options based on cost recovery (C, D and E)
basic principles of disallowance
Basic Principles of Disallowance
  • Disallowance is intended as a means of ensuring that there is no overpayment for sums which are not properly due
  • It forms part of the calculation of the Amount Due which therefore becomes part of the payment notice
  • As part of the calculation of the Amount Due it is for the Project Manager to ascertain
  • It is not part of a payless notice
  • Disallowance should be specific identifiable sums for specific identifiable reasons
disallowance in context
Disallowance in Context
  • The “cash” options contracts are intended to be low risk for the contractor
  • They are intended to give keener prices and more transparency on costs
  • However, disallowance used incorrectly can cause significant cash flow problems for a contractor
  • A low risk contract can very quickly become high risk because there is no margin or supply network for a contractor to hide behind
section two
Section Two
  • Contractual Framework for Disallowance
clause 11 2 25
Clause 11.2(25)
  • Definition of Disallowed Costs
  • Costs which the Project Manager decides
    • A changed decision is a Compensation Event (60.1(8))
  • There are 8 basic reasons for disallowance, some used much more frequently than others
  • Grouped today into five categories
    • Accounts and records
    • Sums which shouldn’t have been paid
    • Correcting defects
    • Failure to follow procedure or give early warning
    • Things not used to provide the works
accounts and records
Accounts and Records
  • “is not justified by the Contractor’saccounts and records”
  • There should be a statement from the Employer somewhere on what accounts and records are expected, probably in Works Information
  • Very rarely set out explicitly and in detail
  • Should be agreed at an operational level as early as possible to make interim payments functional
sums which should not have been paid
Sums which should not have been paid
  • “should not have been paid to a Subcontractor or supplier in accordance with his contract”
  • This would include any designer and is intended to prevent gratuitous payments
  • Care needed when finalising and settling an account to make sure the settlement is in accordance with the contract
  • If delay damages could have been levied then a disallowance may arise if they were not taken
  • A Project Manager should not need to re-assess the subcontract payments but he could
  • This can cause problems where the Project Manager does not have access to the terms of the Subcontract
correcting defects
Correcting Defects
  • “correcting Defects after Completion” and “correcting Defects caused by the Contractor not complying with a constraint on how he is to Provide the Works stated in the Works Information”
  • Intended to encourage early identification and correction of defects
  • It is the “cost of” that is relevant so there has to be a cost actually incurred, an assessment of possible cost is not appropriate to the disallowance although it can be under 45.1 in assessing the defect
  • This clause is often amended as Employers do not like the idea of paying for the correction of any defective work which shifts the risk balance
early warning and procedure failures
Early Warning and Procedure Failures
  • “was incurred because the Contractor did not follow an acceptance or procurement procedure stated in the Works Information or give an early warning which the contract required him to give”
  • The first part of this test is wide and would include all interim and final testing and commissioning
  • There is cross over with the defect provisions
  • Works Information would include any from the Contractor and process it may have given at tender
  • The second part focuses on early warnings and needs to be read in conjunction with 16.1 for when early warning should be given and 61.5 which allows compensation events to be valued at a lower level
not used to provide the works
Not Used to Provide the Works
  • “Plant and Materials not used to Provide the Works…resources not used to Provide the Works”
  • Plant and Materials are permanent not temporary items
  • Provide the Works is very broadly defined
    • To do all the work necessary to complete the works in accordance with this contract and all incidental work, services and actions which this contract requires
  • There is an allowance for wastage and reasonable utilisation, in the Project Manager’s assessment
section three
Section Three
  • Practical Issues in Disallowed Costs
disallowed cost dc practical management

Disallowed Cost [DC]Practical Management

DC Review at Tender

Managing DC at Contract Commencement

Managing DC during the Contract

Common Issues

Cost risk under the Contract

dc review at tender

DC Review at Tender

Contractor Paid PWDD

PWDD = Defined Cost + Fee

Defined Cost = Actual Cost - DC

DC allowance in the Fee

DC allowance % in Fee?

managing dc at contract commencement

Managing DCAt Contract Commencement

Agreed Protocol

DC Register – Unique Reference

PM Notice

PM Particulars

PM / C Review Meeting


Agree / Disagree

AllowableCost / DC

managing dc during the contract

Managing DCDuring the Contract

Risk Register

Driven by Early Warnings

Add 3 columns with a tick mark (pencil)




managing dc during the contact

Managing DCDuring the Contact

Accounts & Records

Orders & Invoices Matching

Labour & Plant Allocation Sheets

Material Delivery Notes

Plant on / off Hire Notes

Major Material Reconciliations

Staff Timesheets & Expenses

managing dc during the contract1

Managing DCDuring the Contract



Subcontract Order

CEs – The Works & Domestic Issues

DCs – Back to Back Provisions

Agreement if different Option

managing dc during the contract2

Managing DCDuring the Contract


Raising and closing out NCRs (Before Completion)

Where Defects are DC – Timely and Proper Agreed Resource based records to be signed off by PM.

common issues timely dcs

Common IssuesTimely DCs

When should DC be crystallised?

When the cost is incurred?

Anytime before the final assessment of the Contractor’s Share?

Assessed monthly by PM?

Assessed Quarterly by external audit team?

common issues timely dcs1

Common IssuesTimely DCs

If the DC is levied several months after incurred – what are the implications?

Subcontractor account settled

Cost could have been reduced

Has the Contractor’s position be prejudiced by the late DC?

common issues timely dcs2

Common IssuesTimely DCs

If DC is levied several months after incurred – what does the contract say?

Can it be an allowable cost one month and then DC a later month?

Clause 50.5 allows the PM to correct any wrongly assessed amount due in a later payment certificate.

common issues timely dcs3

Common IssuesTimely DCs

What is the Contractor’s Remedy?

The Party alleging the certificate is wrong bears the burden of proof.

Clause 51.3 allows interest to be paid on the correcting amount.

Persuade or adjudicate


common issues dc and pain gain relationship

Common IssuesDC and Pain Gain Relationship

Standard contract states P/G impacted on certificate at completion.

That could expose Employer to recover a debt.

Amended contracts impact P/G when PWDD exceeds the Prices

common issues dc and pain gain relationship1

Common IssuesDC and Pain Gain Relationship

Experience / history has shown that interim assessments of DC higher when P/G assessed at completion to offset debt risk.

Impact on certificate is significantly different – with 50:50 P/G its 50p in the £1 but with DC £1 for £1.

common issues specific v general

Common IssuesSpecific v General

PM must identify specific items of cost and identify how they fall within the definition of Disallowed Cost.

PM cannot take a view as to the overall level of Defined Cost or take a view as to the economy or efficiency that should have been achieved.

common issues dc or pain gain risk share

Common IssuesDC or Pain/Gain Risk Share

Matters of efficiency and economy are the subject of the pain/gain risk share.

Procurement losses are the subject of the pain/gain risk share.

Misunderstanding between lump sum fixed price contracts and pain/gain risk sharing contracts.

cost risk under the contract

Cost risk under the Contract

Contractor is paid Defined Cost regardless of the level of Defined Cost.

Exception is Disallowed Cost

These are specific items of cost defined in the Contract

They are not related to the level of Defined Cost

The PM decides disallowed cost in interim payments

Pain/Gain (Contractor’s Share) is a separate and distinct mechanism which is related to the level of PWDD (Defined Cost + Fee) compared to the Target (Prices).

The risk is shared

It is a calculation after Completion (Standard)

section four
Section Four
  • Questions

David Gibson


d+44 (0) 207 182 4062


Rob Horne


d +44 (0) 207 423 8616

e rhorne@trowers.com