By Scott Laycock, Partner

New South Wales Fair Trading recently announced that the new Strata Schemes Management Act 2015 (NSW) (Act) will come into effect in November 2016. The Act replaces the existing Strata Schemes Management Act 1996. The Act will apply to construction contracts entered into after the commencement of the Act.

The Act will significantly impact developers as it introduces a building bond scheme (note however that the building bond scheme is not likely to commence until 1 July 2017[i]) and imposes inspection and reporting requirements on developers carrying out residential building work where such work is part of a strata scheme and not subject to insurance requirements under the Home Building Compensation Fund[ii]. This will in turn significantly impact contractors as developers seek to back down these obligations.

The defect rectification and bond scheme[iii] is intended to encourage the early identification and addressing of defective building work in strata schemes (that being work which is in breach of the warranties contained within Part 2C of the Home Building Act 1989 (NSW) or work done in such a way that it would constitute a breach[iv]) thereby providing unit holders with additional statutory protection to ensure the timely and appropriate rectification of defects, a process currently known for its lengthy, costly and significantly unfavourable outcomes for lot owners and developers alike.

Once commenced, the Act will require the developer to comply with a number of conditions around defect inspection and further, require payment of a bond before an occupation certificate is issued.

In summary:

1. Developers are to appoint a building inspector (at their own cost[v]) within 12 months of completion of the works[vi] (where the initial period[vii] of the strata scheme ends within 12 months of completion), provide notification of appointment to the Secretary of the Department of Finance, Services and Innovation (Secretary) and receive approval of the appointment from the relevant owners corporation[viii]. In this regard, developers will note that there are express terms in the Act prohibiting the engagement of a building inspector where there is a conflict of interest[ix].
2. Appointed building inspectors are to prepare an interim report identifying defective building work present at the development within a strict period of 15-18 months after completion of the works[x]. As this period falls outside the traditional 12 month defect liability period, developers will need to factor this in to building contracts entered into after commencement of the Act.
3. Owners corporations are under an express positive obligation to provide access to the responsible builder[xi] to carry out any rectification works at the property[xii] to further facilitate the extended defect liability and rectification scheme.
4. Appointed building inspectors are to prepare a final report on the development between 21 to 24 months after completion of the works[xiii] detailing:
   1. any unrectified defective building work identified in the interim report,
   2. any defects in the rectification works carried out pursuant to the interim report; and
   3. a scope of works for rectification for those defects.
5. The scope of works identified in the final report will form the basis for owners corporations to claim against the building bond provided to the Secretary prior to issue of the occupation certificate.
6. Prior to the issue of an occupation certificate the developer must provide a bond of 2% of the contract price[xiv] to the Secretary to secure performance of any rectification work identified in the final report. Under the Act, the bond must be realised or claimed within 2 years from completion of the works or within 60 days of the final report being provided to the Secretary, whichever is later[xv]. The Act requires that owners corporations who have claimed all or part of the bond to use the funds to rectify defective building work identified in the final report[xvi].

As you can see, the Act will require significant amendments to contracts for residential building works that form part of the parcel of a strata scheme. Building contracts will need to be drafted so as to ensure that developers, being those directly responsible for compliance with the reformed strata scheme regulations, are adequately protected. Equally, contractors will need to be aware of and price for the additional risk that developers seek to back down.

Key changes to building contracts may include:

• extension of defect liability periods beyond the commonly used 12 month defect liability period to ensure that contractors are on the hook to carry out rectification of defective building work identified in the interim and final reports;
• passing on the requirement to issue a bond to contractors and amendment to release of security provisions to ensure that 2% of the contract price is retained by developers until expiry of the extended defect liability period;
• additional powers to direct rectification of defective work identified in the interim and final reports in addition to the usual obligations.

You can get in touch with us to discuss the Act in further detail and ensure that your contracts contain the appropriate protections.

[i] Note also that the draft Strata Scheme Management Regulation 2016 which intends to operate in conjunction with the Act has not yet commenced. Part 8 deals with Building Defects.

[ii] s191(1) of the Act states that the Act applies to residential building work (as defined in the Home Building Act (1989)) and work carried out on a building or part of a building, used or proposed to be used for mixed use purposes that include residential purposes.

[iii] Part 11 of the Act.

[iv] s190 of the Act defines defective building work as “(a) residential building work done is such a way that it constitutes a breach of the statutory warranties applicable to the work under Part 2C of the Home Building Act or (b) is building work done in such a way that it would constitute such a breach if the building work were residential building work”.

[v] s54 of the draft Strata Scheme Management Regulation 2016 states that a building bond may be used to “meet the costs of an inspection or a report under Division 2 of Part 11 of the Act, including any fee for the appointment of a building inspector by the Secretary, if the developer of the strata scheme is bankrupt or insolvent and the costs or any fee have not been paid”.

[vi] s194(1) of the Act requires the developer to appoint the inspector, failure to do so must be notified to the Secretary  who may then appoint an inspector for the purposes of carrying out the inspection and preparing the interim and final reports.

[vii] The Act defines the ‘initial period’ as commencing on the date an owners corporation is constituted and expiring on the day that there are owners of lots in the strata scheme constituting at least one-third of unit entitlements, other than the original owner (usually the builder or developer).

[viii] s195(1) of the Act.

[ix] s197 of the Act.

[x] s199 of the Act.

[xi] s206(1) of the Act provides that the builder responsible for rectification works includes employees, agents and contractor’s of such person.

[xii] s206 of the Act.

[xiii] s201(1) of the Act.

[xiv] s207 of the Act.

[xv] s209(3) of the Act.

[xvi] s210(1) of the Act.