Important Aspects of Construction Contracts

Flow-Down Clauses and Incorporation by Reference: Important Aspects of Construction Contracts

Subcontractors should be on the lookout for two important clauses in construction contracts. Flow-down clauses and Incorporation by Reference clauses have the potential to influence subcontractor’s duties, responsibilities and work product on any given project.

Flow-Down Clauses

Flow-down clauses are essentially clauses in a contract that pass duties and obligations from the contract between the owner and the prime contractor to the contract between the prime contractor and the subcontractor. Flow-down clauses act like a mirror to ensure that the obligations in the prime contract are fully reflected in the subcontract.

Often found in contracts for government projects, there are two general categories of flow-down clauses: scope of work clauses and general clauses. In scope of work clauses, the subcontractor has the exact same obligations to the prime contractor as the prime contractor has to the owner. Scope of work flow-down clauses typically are specific in what obligations are passed through to the subcontractor. In a legal dispute involving scope of work flow-down clauses, courts will generally enforce the terms of the clause strictly.

General flow-down clauses typically delegate the terms of the prime contract to the subcontractor. Essentially, the subcontractor’s assumes all responsibilities and obligations that the prime contractor has to the owner for those terms of the prime contractor that apply to the subcontractor’s work. In this more blanket flow-down clause, the subcontractor could be in the position of having to fulfill some obligations that do not apply to its work. General clauses tend to be more ambiguous therefore in legal disputes, courts generally look to the intent of the parties to the contract.

Subcontractors should be aware of flow-down clauses as they can impact subcontractor’s obligations under the contract. Subcontractors also may want to ensure that the flow-down clauses are more pass-through clauses in which there are reciprocal rights in the contract. In this sense, the prime contractor would have the same obligations to the subcontractor that the owner has to the prime contractor. This protection could be in the form of structured payment or performance obligations to the subcontractor. For general flow-down clauses, subcontractors would be better served to spend more time negotiating each individual subcontract to expressly state which clauses in the contract are subject to the flow-down provisions. This provides more clarity on what obligations from the prime contract actually flow down to the subcontract and avoids court interpretation of the intent of the parties to the contract as a whole. Common provisions within a prime contract to apply the flow-down clause to are the specifications, scope of work, methods of dispute resolution, and federal, state and local regulations.

Incorporation by Reference Clauses

Incorporation by reference is a similar contract method to flow-down clauses used to apply the terms of a prime contract to subcontracts. Typically, a subcontract will incorporate the entire prime contract by either listing it as one of the subcontract documents attached to the subcontract or by a specific incorporation by reference clause within the subcontract, stating that the prime contract and all of its terms are incorporated into the subcontract. A less common method, more similar to a flow-down clause is to incorporate specific provisions from the prime contract into the subcontract.

Subcontractors should be aware of incorporation by reference clauses when negotiating and agreeing to a subcontract. In the case of a contract dispute, when the whole prime contract is incorporated into the subcontract courts will generally hold the subcontractor to the terms of the prime contract regardless of whether the subcontractor has actually read the prime contract. This is especially true if the subcontract states that the subcontractor physically received a copy of the prime contract. Many courts do require that the prime contract be in existence before it can be incorporated into the subcontract, therefore a subcontract that has an incorporated by reference date prior to the date of the prime contract will not be enforceable. If agreeing to a subcontract with an incorporation by reference clause, it is important to consider an order-of-precedence provision that will clarify which contract provisions govern in the event that the multiple contracts contain inconsistencies.

It is important for subcontractors to be aware of both of these contract clauses and to consult with their attorneys where any confusion exists to ensure that subcontractor rights are properly protected.

If you have any questions about this or other construction related issues, please contact Justin Hampton with Anderson Jones, PLLC at (919) 277-2541 or by email! Mr. Hampton was assisted by law clerk Joe Morahan with this article.