Legal System

As a civil law country, legislation is a major source of Chinese law. The hierarchy of legislative instruments is roughly as follows:

• the constitution passed by the National People’s Congress (NPC);
• national laws passed by the NPC or its standing committee;
• administrative regulations enacted by the State Council (the supreme administrative body in China); and
• the implementation of administrative regulations issued by ministries and commissions of the State Council, local laws passed by the local People’s Congresses or their standing committees, and regulations issued by local governments. 

Principal Laws Governing the Construction Market

Primary national laws governing the construction sector include:

• the Civil Code of the People’s Republic of China (PRC);
• the Bidding Law of the PRC (2017 Amendment);
• the Construction Law of the PRC (2019 Amendment);
• the Urban and Rural Planning Law of the PRC (2019 Amendment); and
• the Law of the PRC on Environmental Impact Assessment (2018 Amendment).

The Supreme People’s Court (SPC) issued a judicial interpretation on issues concerning application of the law in construction contract disputes on the basis of the Civil Code on 29 December 2020 and the interpretation has been in force since 1 January 2021. 

Moreover, several administrative regulations by the State Council deal with key aspects of the administrative side of construction practice, including:

• the Regulation on the Implementation of the Bidding Law of the PRC (2019 Revision);
• the Regulation on the Quality Management of Construction Projects (2019 Revision);
• the Regulations on Environmental Protection Management for Construction Projects (2017 Revision);
• the Regulation on the Work Safety of Construction Projects; and
• the Regulation on the Administration of Survey and Design of Construction Projects (2017 Revision). 

Various implementation rules of administrative regulation issued by the Ministry of Housing and Urban-Rural Development (MOHURD), the National Development and Reform Commission (NDRC) and other ministries also play a relatively important role, providing detailed and practical rules on construction practice, such as:

• the Provisions on Engineering Projects Which Must Be Subject to Bidding;
• the Measures for the Administration of Bidding for the Construction of the House Building and Municipal Infrastructure Projects; and
• the Measure for the Administration of EPC of the House Building and Municipal Infrastructure Projects.

Mandatory national standards approved and promulgated by the State Council are the technical and detailed support of the law. Enterprises that do not comply with the technical requirements of the publicised standards shall bear civil liability, be included in the creditworthiness records or bear criminal liability. Mandatory national standards must be implemented and play a relatively important role, providing detailed and practical rules on construction practice, such as:

• the Standards for qualification of construction enterprises; and
• the Code of valuation with bill of quantity of construction works.

Model Contracts

There are certain model contracts available for parties to use on domestic projects in the construction market. Although such use is not mandatory, the terms of these contracts reflect a reasonable allocation of risks and capture good practice, so parties usually adopt these model contracts with amendments on specific projects. Alternatively, parties may design bespoke contracts from scratch or may use the FIDIC (International Federation of Consulting Engineers) forms with amendments on some projects involving unique or foreign elements. 

These model contracts are jointly issued by MOHURD and the State Administration for Market Regulations or the State Administration for Industry and Commerce and may be revised or amended as necessary. The latest versions of some major model contracts are as follows:

• the Model Subcontract Contracts (GF-2003-0213/0214) between a contractor and a subcontractor;
• the Model Engineering Contract for Construction Projects (GF-2015-0209/0210) between an employer and an engineering designer;
• the Model Cost Consultation Contract for Construction Projects (GF-2015-0212) between an employer and a consultant;
• the Model Survey Contract for Construction Projects (GF-2016-0203) between an employer and a surveyor;
• the Model Contract for Construction Works (GF-2017-0201) between an employer and a construction contractor; and
• the Model Contract for General Contracting Projects (GF-2020-0216) between an employer and a general contractor.

Standard Bidding Documents

On 20 December 2011, nine ministries and commissions jointly issued the Short Form of Standard Construction Bidding Documents and the Standard Bidding Documents for Design-Construction Integrated Projects, which took effect on 1 May 2012. For projects that must by law be subject to the bidding process, parties are required to mandatorily use these two standard bidding documents, which include instructions for tenders, bid evaluation and general contract terms.

The employer commissions works in a construction project and is typically the holder of the right to use construction land. An employer may take different forms, such as a variety of companies, institutions and even a natural person, depending on the nature and type of project. 

Rights and Obligations

In general, prior to entering into a contract, the employer has right to determine a suitable project contracting mode and to select a qualified contractor following legal requirements and procedures (if applicable). 

The employer’s rights and obligations vary depending on the nature and scope of the construction contract.

Typically, the employer has the right:

• to appoint its own representatives or entrust an engineer/supervisor to supervise site works and inspect the contractor’s completed works, on the condition that there is no disruption to the contractor’s work; and/or
• to terminate the contract on the basis of illegal subcontracting, etc. 

On the obligation side, the employer is typically required:

• to obtain approval to use the construction land, and to obtain planning approval for the construction land and construction project, as well as the permit for the construction works;
• to assist the contractor with the contractor’s applications for any permits and certificates; 
• to give the contractor right of access to the site, to provide site conditions and information, and basic materials to the contractor; 
• to effect payment as agreed; 
• to organise tests and acceptance of the works upon completion; and 
• to file project documents and records with the local authorities.

Relations Between the Employer and Other Key Players

The employer and the contractor are parties to the construction contract, the terms of which are contractually binding as agreed. As to actual subcontractors in a scenario of illegal subcontracting, the employer might have legal responsibility to pay them directly, provided such payment is within the employer’s due and payable amounts to the contractor. Depending on modes of project financing, the financier can be the employer, or the employer’s shareholder.

The contractor carries out the works in a construction project and has the principal responsibility for completing the works. The contractor must have corresponding qualifications for undertaking the works and is not allowed to work beyond the scope and level of its qualification(s). Likewise, the company acting as contractor may take different forms but may not be a natural person. Complex projects are commonly undertaken by a joint venture. 

Rights and Obligations

The contractor’s role and responsibilities vary depending on the type of construction contract. The contractor has a typical right to be paid, to seek preferred payments of compensation for the unpaid if the project quality is qualified and to claim for extension of time or costs if delays are caused by the employer. The contractor’s general obligations include:

• executing and completing works within the agreed scope of the work and meeting technical standards and requirements; 
• remedying defects within the defects notification period; 
• assuming warranty obligations within the statutory periods; 
• taking measures to ensure site safety and environmental protection; 
• obtaining permits and certificates as necessary for construction works; and
• co-operating with the supervisor or engineer as entrusted or appointed by the employer. 

Relations Between the Contractor and Other Key Players

If the contractor elects to subcontract part of the works to a subcontractor, the contractor and the subcontractor are both parties to the subcontracting contract. The contractor and subcontractors are jointly liable to the employer for the quality and safety of the works subcontracted.

It is very common in practice for the contractor to subcontract part of the works. Subcontractors are divided into two types: specialist subcontractor and labour subcontractor. A subcontractor is only allowed to undertake works within the scope and level of its qualification. Subcontracting works must also comply with legal and contractual requirements. Specifically, the contractor is restricted from subcontracting the entirety of the works to subcontractors. Illegal subcontracting may trigger the application of a series of legal consequences and the actual constructor may file a lawsuit against the employer directly for the construction project price. 

Rights and Obligations

Subcontractors share similar rights and obligations with the contractor for works subcontracted. A “pay if paid” or “pay when paid” clause is often seen in a subcontractor’s contract, meaning that the subcontractor’s right to payment under its contract may be subject to the contractor’s entitlement to payment under the main construction contract. The legal effects of such clause are in dispute in court practice. Subcontractors have no right to file a lawsuit against the employer directly, unless the contractor is negligent in exercising the creditor’s right that is due or the collateral right related to the creditor’s right, thus affecting the realisation of the creditor’s right that is due.

In traditional construction practice, the employer may raise funds on its own and the financiers would then be banks, financial institutions, shareholders or the employer itself. For government investment projects, the project funds would come from the financial budget of local or central governments. This traditional financial arrangement has changed in recent years and the contractor may also now participate as a financier. By way of example, in the creative PPP+EPC (Public-Private Partnership + Engineering, Procurement and Construction) model, the contractor may participate in project financing and also construction works, acting in the dual roles of investor/financier and constructor.

Rights and Obligations

The financier has the right to supervise the account of the project company, require the employee or the project company to mortgage the construction in progress and pledge the equity. There are many factors to consider in the guarantee setting, including whether the financier’s exercise of power affects the project operation, whether it triggers the termination of the commercial contract, etc. It is necessary to balance the interests of the financier and the project company. To take account supervision as an example, the financier hopes to control income and control dividends so that priority can be given to repayment of excess funds; the employer hopes to retain control and dividends payment. The failure to balance may lead to project cash flow problems, which will adversely affect employers and financiers.

Relationship

Contractors and subcontractors play an important role in the construction of the project, and their credit is also one of the important factors for the financiers to consider whether to provide finance. The financier, the employer, the contractor and the subcontractor form a project team by entering into various agreements and are the relevant parties of the project. By taking into account the interests of all parties, and through sound co-ordination, parties can achieve a reasonable sharing of risks and an amicable resolution of conflicts.

A typical construction contract is formed of several documents, listed below in order of priority:

• contract agreement; 
• particular conditions;
• general conditions;
• technical standards and requirements;
• drawings;
• bill of quantities or budgets; and
• any other documents forming part of the construction contract. 

The scope of the works is firstly described in the contract agreement in a general way. Then particular conditions and general conditions may provide a brief description of the scope of the works by referring to drawings and bills of quantities. Finally, drawings and bills of quantities supply more details. Sometimes, certain project items will be additionally defined in terms of technical standards and requirements. 

In fact, for projects procured through a bidding process, both the employer and contractor may determine and settle the scope of the works in a letter of award and a letter of tender and its schedules. Specifically: 

• the employer may include drawings in the bidding documents, in which the scope of the works is determined;
• the contractor will carefully study these drawings and put issues to the employer for clarification; and
• upon the employer’s clarification, the contractor may prepare responses to the bidding documents, including parts related to the scope of the works. 

Occasionally, a programme and technical specifications are also used to define and determine the scope of the works in practice, while their major focus is about the standard of quality rather than the scope of the works.

Variations by the Employer

The employer generally has the right to vary and often exercises such right via its entrusted supervisor or engineer. With the employer’s approval, the supervisor or engineer may issue a notice of variation to the contractor, which may list items to be varied and may (rarely) include a price for such variation. The contractor may then submit a proposal of costs on the variation to the supervisor or engineer within an agreed period upon receiving such notice. Next, the employer will review the contractor’s price proposal and may negotiate with the contractor to determine the price for the instructed variation. The usual practice is that parties may refer to the unit price of similar work items as prescribed in the construction contract when determining the price of the variation. If unit prices of similar work items are not stipulated in the contract and the two parties cannot reach an agreement on the price of the variation, the parties may refer to the pricing method or standard issued by the local construction administrative department when the contract is signed.

If the employer requests a design variation, the employer must also ask the engineer designer to provide detailed drawings and explanations of such variation. 

Variations by the Contractor

Unlike the employer, the contractor’s right to vary is limited. The contractor is not allowed to vary any part of the works unless the employer has approved this. The contractor has, however, the right to submit reasonable proposals to the supervisor or engineer that may accelerate completion, reduce costs or improve the value of the works, etc. The supervisor or engineer will relay such reasonable proposals to the employer for approval. If the employer approves, the supervisor or engineer will issue a notice of variation accordingly and the same procedure to determine the scope and price of the variation shall apply.

Responsibilities Regarding the Engineering Design

Which parties are responsible for the design process largely depends on which contracting model the parties select. 

In a general construction contracting model, the contractor’s scope of work only covers construction works that are implemented on the basis of detailed drawings and design documents provided by the employer. The employer will separately engage an engineer designer for design works. As such, the employer bears responsibility regarding the design under the construction contract, while the engineer designer is responsible for its design works under the engineer design contract with the employer. Article 805 of the Civil Code provides that the employer will compensate the engineer designer for actual costs on design work resulting from the employer’s change of plan, failure to provide accurate materials or failure to provide the necessary conditions for the design. 

In a general project contracting model (engineering, procurement and construction or design-build), the contractor is responsible to the employer for design work under the contract.

The contractor takes full responsibility for the construction works, including any subcontracting. If the contractor has subcontracted part of the works to a subcontractor, the subcontractor will be responsible for the subcontracted works. The contractor and subcontractor are jointly responsible to the employer for the safety and quality of the subcontracted works. 

The surveyor and designer shall be responsible for the quality of their survey and design. Survey and design documents shall conform to relevant laws, regulations, construction project quality and safety standards, technical standards for construction project survey and design, and the agreement in the contract. The supervisor shall supervise the quality of construction and bear liabilities for the supervision of such quality under the laws, regulations, relevant technical standards, design documents and the contract.

The contractor undertakes overall responsibility for the status of the construction site and such responsibility is mandatory under the law. Relevant articles in the Construction Law of the PRC deal with the contractor’s responsibility in this respect.

• Article 39 provides that the contractor shall take measures to maintain security, prevent danger and fires and may adopt closed management if conditions permit; the contractor must also take protection measures to prevent the construction site from causing damage to adjoining buildings, structures or the operational environment for special works.
• Article 40 provides that the employer will provide materials for underground piping and wiring and the contractor will take protective measures.
• Article 41 provides that the contractor will comply with laws and administrative regulations relating to environmental protection and safety in production and take measures to control pollution and damages caused by various kinds of dust, leaking gas and water, solid waste as well as noise, vibration, etc.

Permits Required for the Construction Process

Normally, to proceed with construction works, the following approvals or permits must be obtained in advance: 

• approval/certificate of the right to use the construction land;
• planning approval for the construction land;
• planning approval for the construction project; and
• a construction permit.

Parties Responsible for Obtaining the Permits

The employer is responsible for obtaining all the listed approvals or permits required by mandatory law, thus all the applications are submitted in the name of the employer. In practice, it is often seen in a construction contract that the contractor is required to assist the employer with obtaining such approvals or permits by acting on the employer’s behalf and preparing the relevant documents.

The contractor is responsible for maintenance of the works until all the works and the site are handed over to the employer upon completion. The contractor’s maintenance work typically includes looking after the site; inspection and examination of constructed parts; and supervision and repair of utility connections and the power supply. Maintenance works are generally included in the contractor’s scope of work in the construction contract. It is rare for parties to enter into a separate contract specifically dealing with maintenance work.

In a typical construction contracting model, the contractor undertakes only the construction work, while other works are undertaken by third parties such as surveyors, designers, suppliers, supervisors, etc. The employer may separately engage an operator to manage the business operation of the project. 

In complex contracting models incorporating project financing, such as BOT (Build-Operate-Transfer), BOOT (Build-Own-Operate-Transfer), F-EPC (Finance + EPC) and PPP-EPC, the contractor, employer and other third parties, such as financial institutions and project companies, may be involved at different stages and to varying degrees in project financing, transfer and operation.

For industrial projects, tests for completion of the works are very common. In a typical construction contract, the contractor may prepare and submit a plan of completion test and the employer, after consulting with the supervisor or engineer, may approve the contractor’s plan of completion test. The contractor will then conduct the test according to the approved plan under supervision by the supervisor and/or the employer.

If the works fail to pass the tests, the contractor shall re-test the works after they have been repaired. If the works fail the re-test, the employer will assume the costs for the tests if such failure is on the employer’s part. The employer may exercise various remedies if such failure is on the contractor’s part, such as requesting the contractor to remedy defects at its own cost, compensate damages caused, exercise rights of set-off, rejection, termination, etc.

A typical completion proceeds as follows.

• Preliminary specialised examinations are conducted by several administrative bureaus such as firefighting, urban planning and lightning protection.
• If the employer considers conditions are ready for acceptance, the employer will convene the surveyor, the designer, the contractor and the supervisor and make a plan for completion acceptance (竣工验收).
• The employer will report to the local authority seven working days before the day of completion acceptance. 
• The employer will organise the completion acceptance. 
• Should the completed works pass the various tests and checks for completion acceptance, all the attendees will sign a report of acceptance. At this point, the employer will confirm acceptance of the completed works. 
• The contractor will hand over all project documents, records and drawings to the employer.
• The employer then files the acceptance report, project documents, records and drawings with the local construction bureau. 

These processes influence each other as follows.

• The completed works can be delivered for use upon passing completion acceptance; completed works that have not undergone completion acceptance or do not pass completion acceptance shall not be delivered for use.
• If the construction project has not been accepted for completion and is delivered for use by the employer, the date of takeover of the completed works shall be the date of completion acceptance.

Defects Liability Period

There are several Chinese words for “defects liability period”, such as 质量保证期, 缺陷责任期, 质量保修期, which often causes confusion in practice, thus “defects liability period” should be clarified in the relevant terms of the construction contract. 

Defects Liability Period Related to Retention Money/Guarantee

Parties are free to agree on a certain time period for the contractor to remedy defects on notice upon completion of the works. There is no mandatory requirement regarding the length of such period by law but an administrative rule suggests that such period is generally one year but shall be no longer than two years. In practice, the defects liability period is often agreed as two years from the date of completion acceptance. Upon expiration of such defects liability period, the employer must return the retention money or release the retention guarantee. 

Defects Liability Period Related to Quality of the Project

The contractor has statutory quality warranty obligations within prescribed minimum periods for different parts of the project by law. These cannot be contracted out but can be extended in the contract. On expiration of such quality warranty periods, the contractor is released from contractual and legal obligations to the employer for the quality of the project, but the contractor may still be liable for personal injury or property loss of a third party caused by the project for reasons attributable to the contractor within a reasonable period of its use. Minimum statutory quality warranty periods for different projects are as follows:

• for an infrastructure project, and foundations and main parts of a house building, the quality warranty period is the number of years of reasonable use as prescribed in design documents;
• for waterproofing works on roofs, toilets, and rooms and outside walls with anti-leakage requirements that should be waterproofed, the quality warranty period is five years;
• for heat supply and air-conditioning systems, the quality warranty period is two heating periods and two air-conditioning periods; and
• for projects involving electric wires, gas, water supply and drainage pipes, equipment installation and decoration, the quality warranty period is two years. 

Remedies Available to the Employer

In the event of any defects in the work of the contractor, the employer may request the contractor to remedy such defects at its own cost within a reasonable time period, or it may entrust a third party with the remedial works at the contractor’s cost. The contractor shall also be liable for compensating for the losses. If the contractor fails or refuses to remedy defects within the defects liability period or quality warranty period, and further, if such breach is so material that the purpose of the contract cannot be realised, the employer may terminate the contract.

Quota Evaluation and Bill of Quantity

Two pricing methods are generally used to establish the contract price in construction contracts: quota evaluation and bill of quantity. 

By using quota evaluation, a party, usually the contractor, applies project quotas and formulations or rules as published by local governments to calculate project costs on labour, materials, equipment, etc, to establish the contract price. Apparently, this method reflects China’s planned economy in the construction sector. 

With China’s transition from a planned economy to a market economy, the bill of quantity has gradually become more and more popular, replacing quota evaluation in establishing the contract price. The bill of quantity refers to a pricing model where the employer provides a bill of quantity and the contractor proposes prices on different items at its own volition, considering its own costs. 

In addition, several other price models are used in contracts; eg, lump-sum price, fixed unit price, costs plus fees, adjusted costs, etc. 

Milestone Payments

Payment by milestones is widely used in construction contracts. The payment schedule providing specific milestones is often a major issue in the parties’ negotiations and is itself a part of the contract documents. The common arrangement of milestones would include an advance payment, progress payment at different construction stages and return of retention money.

Late or Non-payment

The employer’s primary obligation in the construction contract is to pay on time as agreed. As such, late payment or non-payment is the employer’s breach. Almost all construction contracts include relevant terms dealing with late payment or non-payment, such as liquidated damages (eg, a daily rate for late payment), and the contractor’s right to suspend or terminate. 

Depending on the circumstances, the contractor may claim payable amounts together with liquidated damages for late payment. If the contract is silent on liquidated damages, the contractor can also claim loss of interest, calculated based on contemporaneous and homogeneous loan interest rates or the contemporaneous loan prime rate under Article 26 of Interpretation of the Supreme People’s Court on Issues Concerning the Application of the Law in the Trial of Construction Project Contract Dispute Cases (I). If the employer’s late payment or non-payment constitutes material breach, the contractor may suspend works or even terminate the contract on condition that the contractor reasonably urges the employer to rectify such breach in advance. 

Advance Payments, Delayed Payments and/or Interim Payments

It is common for a traditional construction contract to include an advance payment and interim payment in the employer’s payment schedule. However, if an advance payment refers to the contractor’s advance payment (ie, the contractor contracts works with its own funds), this would be deemed as the employer’s outstanding payment to the contractor. Furthermore, if the contract is silent on the matter of interest on the contractor’s advance payment, the court may not support the contractor’s claim of interest loss on such advance payment. 

Delayed payment is often regarded in the same light as late payment, as illustrated above in a traditional construction contract. Yet in some creative models of project contracting, delayed payment may be used as a financing tool.

In government investment projects, the parties are not allowed to use the contractor’s advance payment in construction practice or use delayed payment as a project financing tool.

Invoicing is highly regulated in various areas in China and the construction sector is no exception. Invoices are issued on standard forms and printed out through a special tax-control printing machine that connects to the supervision system of local tax bureaus. By this means, the tax authority supervises the authenticity of the invoice and inspects the tax payment status of each individual invoice. 

The service provider or the seller are often the party to issue invoices. In the construction sector, the issuing party is often the contractor. The issuing party is not allowed to delegate the issuing of invoices on its behalf to a third party. 

It is common in construction contracts that parties include invoices as one of the payment conditions; ie, the contractor must issue an invoice against amounts payable and the employer must pay within a certain number of days upon receipt of such invoice, as agreed.

The planning of the construction is done by the contractor and is incorporated into the construction contracts as part of the contractual documents. If the construction contract is concluded via a bidding and tendering process, the planning would be proposed and included in the contractor’s bid documents in response to the employer’s substantive requirements. If the construction contract is concluded via direct negotiation, the planning done and proposed by the contractor would be a key issue for the parties to negotiate. 

The employer may review the planning proposed by the contractor and check whether it is feasible and in line with the overall project plan. Upon the employer’s approval, the parties may include the planning as part of the contract documents. If the planning does not meet the contract requirements or is inconsistent with the actual progress of the project, the employer may directly notify the contractor to revise the planning; if the contractor needs to make changes to the planning, the contractor shall report to the employer for approval in advance.

To safeguard the planning, the contractor will also make the construction organisation and implementation plan, record the actual progress and make the monthly progress report, then put forward the situations that may cause delay and the solutions.

Milestones

It is very common to have milestones in the planning, which often correspond to progress payments; ie, milestone payments. Some construction contracts may include liquidated damages should the contractor fail to meet milestones as set in the planning. For industrial projects, an interim certificate may be used to mark completion of a major milestone.

If a delay occurs, the first thing the parties need to do is identify the cause of the delay. 

• If it is on the employer’s part, the contractor may claim extension of time and reasonable costs as provided in the contract.
• If it is on the contractor’s part, the contractor will not have the right to claim extension of time or any costs. On the contrary, the contractor may need to pay liquidated damages, compensation for losses on delay to the employer and take further measures to accelerate the works to meet the completion date at its own cost.
• If the delay is caused by a force majeure, the contractor shall notify the employer immediately of the occurrence of the force majeure, with proof, and take measures to mitigate the effects. The completion time will be extended accordingly.

Many construction contracts include liquidated damages for delay. In the event of delay on the part of the contractor, the employer may be entitled to claim such liquidated damages, compensation for losses and may request the contractor to accelerate the works at its own costs. If the critical path of the progress is seriously delayed on the contractor’s part, the employer may exercise its right to terminate the contract.

Likewise, in the event of delay on the part of the employer, the contractor may claim for extension of time and actual losses related to time. A serious suspension caused by the employer may trigger the contractor’s exercise of its right to terminate.

Typically, the contractor will submit a notice of delay to the supervisor or engineer, as entrusted by the employer, within a certain period as agreed in the contract. The contractor will usually send this notice together with evidence to prove the occurrence and cause of the delay and its impact on the works. The contractor may also send a claim letter on extension of time and costs shortly after or simultaneously with the notice on delay.

The term “force majeure” is defined in Article 180 of the Civil Code. It is “an objective event which is unforeseeable, unavoidable and insurmountable by the parties”. In a traditional construction contract, parties may repeat the legal definition of “force majeure” and provide some specific circumstances as instances – eg, earthquake, tsunami, plague, rebellion, war, insurrection, riot, etc. 

The parties are generally free to agree in the contract a broader scope of application and relief for similar events, which will generally be given effect. However, in that case, contractual provisions will apply, as supplemented by the force majeure provisions under the law, to the extent relevant to those events that meet the legal definition of “force majeure”. In contrast, in China’s current jurisdiction, courts and arbitration institutions tend to believe that “force majeure” is a natural phenomenon that cannot be avoided by human forces, meaning it is a legal exemption and cannot be exempted due to the exceptions of the parties. Those events being limited or excluded that do not meet the requirement of “force majeure” under the law will be afforded relief and/or entitlement only as agreed between the parties to share the loss of the consequences after the occurrence of the force majeure event.

Principle of “Change of Circumstances”

Risks such as unforeseen ground conditions, a change in the law, fluctuations in the price of materials and labour, etc, frequently occur in construction practice, which may trigger application of the principle of “change of circumstances” at law. 

The principle of “change of circumstances” was first introduced in the Interpretation on Certain Issues Concerning the Application of the Contract Law (II) and is now codified in the Civil Code. 

Article 533 of the Civil Code provides that “where the basic conditions of a contract undergo a material change unforeseeable by the parties at the time of contracting which is not a commercial risk after the formation of the contract, rendering the continuation of the performance of the contract unconscionable for either party, the adversely affected party may renegotiate with the other party; and if the renegotiation fails within a reasonable time limit, the party may request the people’s court or an arbitration institution to modify or rescind the contract”.

As a result, in the event of unforeseen circumstances that may substantially change basic conditions at the stage of contract conclusion, one party may propose to renegotiate the contract terms with the counterparty. Should the renegotiation fail, either party may apply for the court or the arbitral tribunal to step in to revise the relevant terms or to terminate the contract on the basis of the principle of fairness.

There is not any clear definition in China’s legislation or sample contract regarding disruption. There is no systematic study or inspection that can establish or measure the market disturbance which leads to disruption or other legal effect, although from practitioner’s view the disruption exists, to some extent in some sub-industry.

Therefore, disruption is not yet acknowledged as a legal element or situation which causes extension or compensation. However, other methods of dealing with the adverse effect can be seen, such as reference to the force majeure or “change of circumstances” principle. A recent example in 2017–2018 occurred when the concrete industry was substantially affected by the environmental protection campaign of the central government, and many contracts referred to the “change of circumstances” principle to find a fair solution rather than introduce the concept of disruption.

General Clauses

Article 506 of the Civil Code provides: “the following exclusion clauses in a contract shall be void: (1) those that cause personal injury to the other party; (2) those that cause property damages to the other party as a result of wilful misconduct or gross negligence”.

It is therefore not possible to exclude liability for personal injury or death to the contractual counterparty and liability for property damages to the contractual counterparty as a result of wilful misconduct or gross negligence. 

Standard Clauses

Under Articles 496 and 497 of the Civil Code, clauses that are “standard” – ie, clauses that one party uses repeatedly in its contracts and which, in the case of the particular contract in question, are included and not negotiated with the other party, would be deemed void where they attempt to exempt the liability of the party who includes them; or where they unreasonably decrease the liabilities of the party that includes them, increase the liabilities of the other party or limit the rights of the other party. 

Besides the legal position for a general contract above, parties to contracts in a specific industry may not contract out of mandatory liabilities prescribed at law. For instance, the contractor must assume statutory quality warranty obligations within the prescribed minimum periods for different parts of a project, which cannot be contracted out in the construction contract.

The concepts of “wilful misconduct” and “gross negligence” are not expressly defined at law. 

However, in practice, the courts have discretion to apply these concepts to cases by considering specific circumstances and the failing party’s expertise. Generally, “wilful misconduct” illustrates a person’s intention where they can reasonably foresee another’s losses owing to their action/breach but they still wish or allow it to happen. 

“Gross negligence” refers to a person’s intention where they are in serious breach of the duty of care and should have foreseen, but fail to foresee, or have foreseen but measures haven’t been taken due to credulity, the losses caused to another by their action/breach. In a Supreme People’s Court (SPC) judgment ((2016) Zui Gao Fa Min Shen 381), the SPC found that DHL Shangdong Company (DHL) failed to deliver a package in accordance with the agreed post-operation procedures and held that DHL’s breach did not reach the threshold of “wilful misconduct” but should be ascertained as “gross negligence”.

Limits/Caps on Liability

Articles 496, 497 and 506 of the Civil Code and their restrictions on exclusions of certain types of liability only apply to absolute exclusions. Generally, limitations of liability are permissible; however, all such limitations are subject to the principles of fairness and good faith, which are also codified in Articles 6 and 7 of the Civil Code. The courts could potentially use these principles to hold that limitations of liability are unfair or in breach of the principle of good faith, and they have the power to step in and adjust such limits. This is well-reflected in the application of liquidated damages. 

Liquidated Damages

Parties are allowed to limit liabilities for their breach by including terms of liquidated damages. However, the court may adjust the liquidated damages on a party’s application if:

• the liquidated damages are significantly higher than the actual losses suffered by the complying party – ie, the liquidated damages are more than 30% higher than the actual losses suffered; or
• the liquidated damages are lower than the actual losses suffered. 

In fact, besides the gap in the amount between liquidated damages and actual losses, the court will also look into other factors, such as the parties’ performance under the contract concerned, the extent of culpability of the relevant party in causing the losses suffered, etc.

As model construction contracts do not adopt indemnity terms in the FIDIC forms, parties using model forms rarely include indemnity terms in the contract. However, if parties elect to use the FIDIC forms for projects involving foreign elements, indemnity provisions relating to personal injury and damage to property (other than the works) during the course of the project will be included in the FIDIC forms. 

Some provisions equivalent to indemnities exist in the Model Contract for General Contracting Projects – ie, provisions that one party shall be responsible to the other party for contractual breach resulting from a third party’s fault, and that one party shall be responsible for any claims on intellectual rights by a third party.

There are no restrictions on the nature and types of guarantees. Bonds, usually on-demand bonds (creating a primary obligation on the bondsman to pay), issued by banks or financial institutions, are commonly used in practice. Occasionally, parent companies may provide guarantees for the performance of subsidiary companies. 

Various guarantees are involved in the process of project construction, such as advance payment guarantee, performance guarantee, retention money guarantee, payment guarantee, etc. 

• An advance payment guarantee is provided by the contractor in an amount equal to the advance payment.
• A performance guarantee is provided by the contractor to secure its due performance under the construction contract. A performance guarantee is not mandatory. The employer and the contractor shall agree on the method, amount and submission time in the contract. The performance guarantee can be in the form of bank guarantee or guaranteed by a bonding company.
• A retention money guarantee is an alternative to the employer’s retention money. The Ministry of Finance and MOHURD jointly issued an administrative measure on managing the practice of retention money. This administrative measure provides that a retention money guarantee shall not exceed 3% of the final settlement of the project’s total price, though the provisions of this administrative measure are not mandatory.
• A payment guarantee is provided by the employer to secure its payment obligation to the contractor but is rarely used in practice.

For construction projects, the most common types of insurance are construction/erection all-risk insurance and third-party liability insurance, which can be taken out by the contractor or the employer, or both, depending on the parties’ agreement. Construction/erection all-risk insurance provides coverage for property damage; and third-party liability insurance provides coverage for injury, illness or loss to property of third parties or damage claims and is not mandatory. 

Both the employer and the contractor have a mandatory legal obligation, however, to take out work injury insurance for their respective employees. The contractor is further mandatorily required to procure accident liability insurance for employees who engage in dangerous operations.

Taking the Model Contract for General Contracting Projects as an example, one party’s insolvency may trigger circumstances where the other party has the right to terminate the contract by immediate notice without giving advance notice of its intention to terminate.

Risk Allocation Between Parties

Many terms in a construction contract are designed to allocate responsibilities between the parties in respect of certain risks. 

Under Measures for the Administration of General Contracting of House Building and Municipal Infrastructure Projects, major risks allocated to the employer include:

• fluctuation exceeds the range agreed by the parties in the price of materials, equipment and labour compared with the price at base date;
• fluctuation in the price due to a change in the law; 
• unforeseen ground conditions;
• delays and additional costs on the part of the employer; and
• delays and additional costs for force majeure. 

This does not provide a mandatory mechanism for allocating risks but a reasonable mechanism for parties’ reference. Parties may allocate risks considering their specific projects and circumstances but are generally expected to allocate risk in a reasonable manner.

Risk Sharing Between Parties

Risk sharing depends on the mechanism of risk allocation between the parties. Taking the Model Contract for General Contracting Projects as an example, both parties may share certain risks as follows:

• abnormal weather conditions – the contractor shall take reasonable measures to proceed with the works and the employer shall grant an extension of time accordingly; and
• force majeure:
1. the employer bears the cost of damages to permanent works, and the cost of personal injuries and property loss of third parties resulting from such damages;
2. the contractor bears the cost of damages to the contractor’s equipment;
3. each party bears its own personal injury and other property damages;
4. additional costs for the suspension of the works shall be reasonably allocated between both parties; and
5. acceleration costs per the employer’s instruction, and the contractor’s additional costs for caring for and cleaning the site, and remedying the project, shall all be for the employer’s account.

The Employer’s Personnel

In general, the employer’s personnel include the employer’s representative and other personnel sent to the site by the employer. The employer’s representative may act on behalf of the employer within the scope of authorisation. Details and the scope of authorisation of the employer’s representative shall be expressly included in the contract. Should the employer replace its appointed representative, the employer shall notify the contractor in writing within a certain number of days before such change. 

The Contractor’s Personnel

The contractor’s personnel include the project manager and all other personnel sent to the site by the contractor. The contractor is required to submit a report about its project manager, technical manager, construction manager and all personnel on site to the supervisor within a certain number of days after receiving the notice of commencement. In addition, the contractor must provide an employment contract, plus proof of payment of social insurance for its major managing staff on project. 

In particular, the contractor’s project manager must have a corresponding civil engineering qualification. The project manager in a general contracting project is not allowed to act for two projects in the role of project manager or construction manager at the same time. Furthermore, the project manager shall assume lifelong liability for the quality of the project.

The Supervisor

The employer may entrust a supervisor (very often a supervising institution or company other than a natural person) to check and examine the works, review project documents and issue notices on the employer’s behalf within the scope of authorisation. The supervisor may send a supervising director and a supervising engineer to site to act accordingly.

It is very common for the contractor to subcontract part of its works to subcontractors. There are two types of subcontractors: the speciality subcontractor and the labour subcontractor. The contractor must comply with certain legal requirements on subcontracting so that the subcontracting is legal and will not be deemed as void under the law:

• unless the construction contract provides otherwise, the contractor must obtain the employer’s consent before subcontracting;
• the contractor may not subcontract the entirety of its works to a subcontractor;
• the contractor may not subcontract part of its works to an unqualified subcontractor or an individual;
• the contractor may not subcontract its works for the main structure, save for steel structure work;
• a speciality subcontractor may not further subcontract speciality works (subcontracted by the contractor) to another subcontractor, save for the labour works of the subcontracted speciality works; and
• a subcontractor may not further subcontract labour works (subcontracted by the contractor) to another subcontractor.

In general, the intellectual property right belongs to the author of the work. Such work in a typical construction process may be in the form of drawings, working records, technical documents, technique development, communications in texts, etc. The construction work itself does not constitute a work within the concept of intellectual property. 

Parties to the construction contract may include relevant provisions dealing with intellectual property rights. These provisions, in general, would be:

• for drawings and technical documents provided by the employer, all the intellectual property rights belong to the employer and the contractor may only copy and use these documents for the purpose of carrying out the works;
• for documents the contractor makes for the purpose of carrying out the works, the contractor only has the right of authorship and all other intellectual rights belong to the employer, and likewise the contractor may not use these documents for purposes unrelated to the construction works; and
• each party shall be responsible for its own wrongful use of a third party’s intellectual property rights.

Construction contracts generally include various remedies that each party can exercise in the event of failure by the other party to comply with an obligation. Financial remedies, as well as some courses of action, are available to the parties, to name a few:

• damages such as liquidated delay damages for the employer and liquidated payment delay damages for the contractor;
• compensation of any expenses and losses caused to the other party due to violation of law or the contract;
• suspension, as in the employer may prevent progress of unsafe work;
• termination by either party under material breach by the other party;
• the employer’s withholding of payment; and
• the employer’s notice to remedy defects.

Financial remedies in the form of liquidated damages are usually available to the parties. Liquidated damages are designed to reflect the complying party’s loss caused by the failing party’s breach, which could have been reasonably foreseen by the failing party at the time of concluding the contract. Should such liquidated damages be significantly higher or lower than the complying party’s actual loss, the court may step in to adjust such liquidated damages, applying principles of fairness. See 6.3 Limitation of Liability for more details on this point. In model contracts, except for losses caused by fraud, crime, intent, gross negligence, personal injury and other misconduct, both parties’ agreement on the restriction of remedies also includes that the contractor’s compensation to the employer shall not exceed the agreed maximum amount or the contract price.

It is rare to see a sole remedy clause in a construction contract. Should a sole remedy clause be included, it is highly likely to be a limit on liability with a cap figure. Such clause is generally valid and enforceable subject to legal requirements on exclusion and limitation of liability clauses, which are discussed in 6. Liability.

See 6.1 Exclusion of Liability.

Retention Rights

If “retention rights” refers to the contractor’s right to retain works in the event of the employer’s failure to pay, the contractor does not have such a right under the law, but the contractor may claim priority right to compensation. 

If “retention rights” refers to the employer’s right to withhold a certain amount of money as retention money against the contractor’s obligation to remedy defects within the defects notification period, this is a very common right for the employer. As the employer has greater negotiation power than the contractor, it is almost impossible in practice to contractually exclude the employer’s retention rights.

Suspension Rights

In terms of suspension rights, suspension is a common remedy, or at least a protective threat, invoked by the contractor in the event of late or non-payment by the employer or other breach of contract that makes the contractor unable to continue to perform the contract. In a construction contract where suspension rights are excluded, this often means that the contractor has no right to suspend works but has a right to claim compensation as an alternative. There have been quite a few successful claims by contractors relying on such clause, which indicates that this contractual arrangement is held valid by the courts and tribunals.

Termination of a contract is usually triggered by a serious breach of contract, and sometimes only those breaches which lead to frustration of contract may entitle a party to terminate. For example, if the critical path of the progress is seriously delayed on the contractor’s part, the employer may exercise its right to terminate the contract.

It is stipulated by Article 565 of the Civil Code that a notice shall be issued to terminate the contract. However, the party may seek such termination right directly at a court by filing a case.

According to the Civil Code, the result of termination of a contract includes:

• immediately stopping and cancelling the performance of the contract; or
• settling, paying or returning the performed part of the contract.

The termination does not affect the responsibility arising from the previous performance or violation of the contract.

In a more specific situation, termination of a construction contract often leads to the settlement of the already completed part and forces the parties to discern the proportional responsibility of such termination or previous violation of the contract.

In terms of or in a construction-related case, the court of the place where the project is located has exclusive jurisdiction to adjudicate the case. The level of the first instance court is determined based on the threshold of claims and the complexity of the case.

Court System

Generally, the court system is divided into four levels:

• basic courts at district level;
• intermediate courts at city level or equivalent; 
• high courts at provincial or direct-controlled municipality level; and
• the SPC.

Thresholds for Allocating Jurisdiction

There are different thresholds for allocating jurisdiction between the four levels of court. For instance, in a domestic case where both parties reside in Beijing, if claims are over RMB100 million, the first instance of the case will be heard before the intermediate courts in Beijing. As most project claims are high in value, the first instance case will usually be adjudicated before an intermediate court.

Arbitration

In practice, as construction cases involve technical elements, the parties are commonly willing to enter into a written arbitration agreement to resolve disputes before an arbitration institution, such as the Beijing Arbitration Committee and the China International Economic and Trade Arbitration Commission.

Mediation

Mediation also plays an important role in resolving construction disputes, sometimes as an independent process and sometimes as part of the arbitration/litigation process. For the widely known “arbitration-mediation” mechanism, the arbitrator may play two roles in the process.

Dispute Review Boards

Moreover, several arbitration institutions provide a construction project dispute review service and have a panel of experts with legal and technical expertise. This review procedure borrows wisdom from the Dispute Adjudication Board (DAB) and the Dispute Review Board (DRB) in the FIDIC forms. Whether the experts’ review decision has a binding effect is subject to the parties’ agreement in the construction contract. Should the construction contract be silent on this, the review decision shall be binding on the parties according to the review procedure rules.