Initial Comments on the AIA A313 – 2020 Warranty Bond

Category | Briefing Papers

Mark Becker and Colin Bruns are attorneys with Fabyanske, Westra, Hart & Thomson, PA and focus their practice in construction related matters. Mark can be reached at 612.359.7620 or mbecker@fwhtlaw.com. Colin can be reached at 612.359.7665 or cbruns@fwhtlaw.com

In October 2020, the AIA released a new form: the AIA A313-2020 Warranty Bond. The bond provides Owners with an assurance that the Contractor’s warranty obligations will be performed in accordance with the terms of the underlying Construction Contract. This briefing paper outlines several key points relevant to Contractors, Owners, and Sureties.

What it Does

The Warranty Bond bonds over the Contractor’s contractual warranty for a period of 2 years, with longer periods that can be specified by the parties. The duration of the Warranty Bond is limited to 2 years even if the bonded contract provides for a longer warranty period.

The Warranty Bond provides for the Surety’s performance of the Contractor’s warranty obligation after the Owner provides a series of required notices to the Contractor. The Owner must provide the Surety and the Contractor a written notice of intent to declare a default, afford the Contractor a chance to remedy the issue within a “reasonable time”, and then provide subsequent written declaration of default to the Contractor and Surety if the issue is not resolved.

Under the Bond, the Surety is to remedy the default. Notably, the bond form also requires the Surety to pay “additional legal and design professional costs resulting from the Contractor’s Default.” The Surety’s total liability is limited to the penal sum of the Warranty Bond.

What it Does Not Do

The Warranty Bond does not cover warranties provided by the Contractor’s suppliers and manufacturers. This presents an issue as to whether the Warranty Bond applies to suppliers and manufacturer warranties that the Contractor is required to honor by virtue of the applicable Contract Documents. A reasonable argument can be made that the Contractor’s separate and derivative warranty to be responsible for supplier warranties would be covered by the Warranty Bond.

The Warranty Bond does not increase the Contractor’s warranty obligations under the bonded Construction Contract. Whatever the warranty is in the Construction Contract, that is the warranty that is bonded by the Warranty Bond. A bad warranty of limited scope for the Owner will not be made better or broader by the Warranty Bond.

When to Use It

The Warranty Bond provides extended coverage for warranty work that is often not covered by performance bonds. Thus, the bond may be used in conjunction with, or independently from, payment and performance bonds.

Additionally, the Warranty Bond may be used as a supplement or, in some circumstances, an alternative to CGL insurance to cover damages caused by a breach of warranty. CGL insurance is not always available on condominium projects or residential projects due to multi-family or residential exclusions. For such projects, the Warranty Bond might be an important risk management tool.

Finally, most contracts have an implied warranty of workmanlike performance, and residential projects may have statutory warranties implied by law (i.e., Minn. Stat. 327A, or MCIOA warranties). The Warranty Bond form does not contain explicit language as to whether it extends to implied or statutory warranties. A reasonable argument can be made that implied or statutory warranties are considered part of the Construction Contract and thus should be covered by the Warranty Bond.

Warranty Bond vs. Performance Bond

The form of the Warranty Bond resembles the AIA A312 Performance Bond, but it includes some unique aspects.

Under the Performance Bond, the Surety is liable for the Contractor’s performance of the Construction Contract, which may include the correction of defective work under the Contractor’s warranty obligation. For example, the AIA A201-2017, General Conditions of the Contract for Construction § 3.5.1 provides that “[t]he Contractor warrants to the Owner and Architect that materials and equipment furnished under the Contract will be of good quality and new unless the Contract Documents require or permit otherwise. The Contractor further warrants that the Work will conform to the requirements of the Contract Documents and will be free from defects[.]” A Warranty Bond Surety is likely responsible for correcting such defective work under this provision if it is included in the Contract Documents.

Additionally, §12.2.2.1 of the A201 requires the Contractor to correct any work that is found not to be in compliance with the Contract Documents within one year after the date of Substantial Completion. Whether the Surety is obligated to perform such post-completion corrective work is less clear. Because an Owner may not terminate the Contractor once the contract has been substantially completed, Sureties often take the position that their obligations under a performance bond conclude at substantial completion.^[1] Some courts, however, have interpreted performance bond language to extend the Surety’s obligations beyond substantial completion to the expiration of the post-completion warranty period provided in the bonded contract.^[2]

Whether a Surety will be held responsible for post-completion warranties will ultimately depend on the applicable jurisdiction and the specific language of the bond. If the Surety is responsible for post-completion warranty work under a Performance Bond, the benefits of the Warranty Bond may be diminished as there would be duplicative coverage for the warranty both under the Performance Bond and the Warranty Bond. If there would be duplicative coverage, a question arises as to why this new Warranty Bond is being offered. Perhaps it is an attempt by the surety industry to limit liability under typical performance bonds for warranty work by offering a clear alternative for warranty coverage for which an additional premium could be charged.

For example, a significant issue for Sureties (and Contractors) is whether Performance Bonds cover extended product warranties. In jurisdictions that hold Performance Bonds may cover this warranty obligation, the Surety’s liability can extend far into the future, which may limit a Contractor’s bonding capacity, as its bond exposure is similarly extended. The Warranty Bond may be the surety industry’s attempt to limit the argument that Performance Bonds cover warranty work by issuing the new form that specifically covers warranty obligations and limits coverage to two years and, by implication, indicates that the Performance Bond was not intended to cover such warranty obligations.

Nevertheless, the Warranty Bond will often provide extended coverage for warranty work as compared with the Performance Bond. The term of the Warranty Bond commences on the date of Final Completion of the Construction Contract and continues for a period of 2 years, unless extended pursuant to the terms of the bond (as compared to 1 year from Substantial Completion if the A201 is used). Additionally, obtaining the Warranty Bond may avoid disputes regarding whether warranty work is covered in those jurisdictions where a Performance Bond surety’s obligations cease at substantial completion. The majority of jurisdictions, however, hold that performance bond liability extends to construction performance problems occurring after substantial completion.

To avoid some of the issues discussed above, it would be beneficial for all parties involved in a project to clarify the Performance Bond’s applicability to warranty obligations and have a Warranty Bond with a finite duration, so all parties understand the length of the Surety’s warranty obligations and the impact on the Contractor’s bonding capacity.

Tricks and Traps

The Warranty Bond has a number of provisions which leave room for interpretation. There are some potential tricks and traps for unwary parties.

First, the prolonged notice period can lead to the parties playing games. For example, if the Owner does not start the notice period well before the term of the Warranty Bond is up, the Owner might not be able to comply with the notice provision to trigger the Warranty Bond in a timely manner. A Contractor and/or Surety could try to stall out the notice process claiming that a “reasonable time” has not elapsed to afford the Contractor an opportunity to cure.

Notably, defective notice is not fatal to a claim under the Warranty Bond, provided the Surety is not able to demonstrate actual prejudice. An actual prejudice standard is typically a high bar that may require the Surety to prove that if it had received timely notice, its payment obligation would have been less or that it would have avoided liability altogether.

Second, under the bond, the Owner may request an extension of the bond term, and the Surety has the discretion to extend or not extend the term by a “continuation certificate or rider” with the new date. If the Surety decides not to extend the term of the bond, it must notify the Owner 30 days prior to the expiration of the term. Failure of the Surety to provide the required 30 day notice could result in the Owner claiming the Surety automatically extended even in the absence of a continuation certificate or rider.

Third, an action under the bond “may” be instituted in any court of competent jurisdiction in the location of the Contractor’s work. If the Construction Contract calls for arbitration, the Owner may commence an arbitration proceeding against the Contractor and commence a separate proceeding against the Surety in court, which could increase the Owner’s cost of pursuing its rights under the contractual warranties. Because the bond covers “additional legal fees,” the Owner may choose to proceed directly against Surety instead of the Contractor to recover those fees.

The Warranty Bond form requires an action under the bond to be instituted within two years after a declaration of Contractor Default. If the Construction Contract includes a longer warranty period, the Owner should be aware of the stricter limitations period included in the Warranty Bond.

Finally, the Warranty Bond covers “additional legal and design professional costs resulting from the Contractor’s Default.” This raises the following questions:

– Whose attorneys’ fees do they pay?
– What are “additional legal fees”?
– In a design-build project, does it include design professional costs to re-design work that is non-conforming due to a design mistake and thus serve as an alternate to professional liability insurance?
– In a design-bid-build project, would the “design professional costs” be the Architect’s expense incurred by the Owner to evaluate repair proposals or inspect the defective and/or repaired work?

Because the A313 Warranty Bond is a brand new form, the courts have not yet had the opportunity to interpret the language of the bond and answer some of these questions. Until they do, parties will should be aware of the issues that may arise under the bond and insist on changes that resolve those potential problems.

Conclusion

The new AIA Warranty Bond provides Owners with an assurance that the Contractor’s warranty obligations will be performed in accordance with the terms of the bonded Contract. The Warranty Bond may be obtained in conjunction with, or independently from, the payment and performance bonds. Whether the Warranty Bond is appropriate for a given project will depend on a variety of factors including the jurisdiction of the project; however, all Owners, Contractors, and Sureties should be familiar this new product and what it does.

[1] See, e.g., Bank of Brewton, Inc. v. International Fidelity Ins. Co., 827 So. 2d 747, 753 (Ala. 2002) (“The clear intent of the [AIA A312] performance bond, taken as a whole, is for [the surety] to serve as an insurer for the completion of the project as a whole. The architect certified the project as substantially complete …. [The surety’s] obligations to [the obligee] concluded upon completion of the project.” (emphasis in original)).

[2] See e.g., Sorensen v. Robert N. Ewing, General Contractor, 8 Ariz. App. 540, 448 P.2d 110, 112–113 (1968) (holding that surety’s performance bond liability was co-extensive with that of the contractor under an AIA Performance Bond, and included even with contractually imposed post completion warranties); Milwaukee Bd. of School Directors v. BITEC, Inc., 2009 WI App 155, 321 Wis. 2d 616, 775 N.W.2d 127 (Ct. App. 2009) (holding a surety liable for performing a 5 year roofing warranty in the bonded contract, because the bond contained no durational limit).

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Initial Comments on the AIA A313 – 2020 Warranty Bond