When traditional forms of security for construction projects are not available to cover the risk of contractor default, failure to pay or insolvency, employers may opt for alternative security measures. One form of security is special notarial bonds (SNBs).

While employers often consider SNBs as a last resort form of security, these are worth considering where a contractor is not in a position to offer advance payment guarantees, on-demand bonds, parent company guarantees or similar forms of traditional security.

Contractors often face financial difficulties during construction projects, and the current economic climate is likely to compound this. The financial standing of a contractor may be such that it is unable to obtain conventional security or, if it can, the proposed issuer or guarantor may be unable to meet the employer’s specified minimum credit rating.

In these circumstances, with other avenues closed, the use of an SNB warrants consideration – specifically when the contractor owns moveable assets of value, such as cranes, trucks and specialist equipment.

Weighing up the pros and cons

The advantage of an SNB is that it gives the employer a real right of security over the assets of the contractor, who retains possession of and continues to use them to deliver the project. If the contractor then fails to pay the debt secured by the SNB, the employer can have the assets sold and recover the debt out of the proceeds, in preference to other creditors.

That said, there are reasons why SNBs have tended to be seen as security of last resort. A major one is the administrative burden associated with setting up an SNB, as opposed to a performance bond or advance payment guarantee.

To be valid and enforceable, an SNB must be registered in the Deeds Registry and satisfy stringent requirements. In particular, the assets being secured must be clearly identified in the bond and be readily recognisable to a third party based on the description in the bond – without recourse to extrinsic evidence.

What this means is that the bond must contain details such as the name, make, model, year, serial or registration number and photographs of each asset. Other information that could be included to assist in identifying the assets are details of the locations where the assets will be based from time-to-time, with GPS coordinates for these locations.

Another hurdle is the complicated process that an employer must follow to seize and sell the assets on the contractor’s default. A court application will often be required. This is not the case in the event of insolvency. If the contractor goes into liquidation the liquidator will be entitled to sell the assets and the proceeds, less certain costs, will be awarded to the employer.

Clearly, the time and expense necessary to set up an SNB should not be underestimated. Still, the SNB is a useful tool that provides protection for the employer and flexibility for the contractor in the continued use of the secured assets.