Late last year we summarised the impacts the safe harbour and ipso facto law reform, brought about by the Treasury Laws Amendment (2017 Enterprise Incentives No. 2) Act 2017 (Cth) (Act), would have on insolvency laws (see here). The Act introduced a stay on the enforcement of ipso facto clauses in construction and other commercial contracts, effective 1 July 2018. As part of the reform the Regulations were passed on 1 July 2018, recognising scenarios where staying the operation of ipso facto clauses is unnecessary or undesirable.
This article provides an overview of the exclusions to the stay on ipso facto clauses under these newly introduced provisions.
The stay on ipso facto clauses
Ipso facto clauses are common in construction and commercial contracts, and enable a party to terminate a contract in the event the other party suffers an insolvency event (usually defined broadly in the relevant contract). The ipso facto stay will apply where:
- a company enters into a scheme of arrangement
- a managing controller is appointed, or
- a company goes into administration.
As a result, the stay will affect a party’s contractual ability to enforce a right, and terminate, modify or suspend the contract. The stay aims to allow businesses to recover from financial distress and undergo genuine restructuring to continue to operate and perform their contractual obligations in hopes of overcoming an insolvency event.
What is excluded from the stay of ipso facto clauses?
The new Regulations broadly exclude the following kinds of contracts, agreements or arrangements from the ipso facto stay:
- arrangements relating to laws and international obligations, such as Commonwealth, State or Territory licences or permits
- arrangements relating to securities and financial products, such as arrangements that are derivatives or for the sale of a business
- complex arrangements between sophisticated parties, such as arrangements involving a special purpose vehicle (SPV)
- arrangements relating to debt and the ranking of creditors, including subordination, flawed asset and factoring arrangements
- arrangements relating to financial markets, and clearing and settlement facilities, such as operating rules of a clearing and settlement facility
- netting arrangements, such as legally enforceable arrangements that support an approved real-time gross settlement system and close-out netting contracts
- novating and assigning rights.
Important exclusions for the construction sector
There are three key exclusions that are relevant to the construction sector:
1. Exclusions for construction contracts
This exemption applies to a contract, agreement or arrangement:
- entered into between 1 July 2018 and 1 July 2023
- for particular works, good or services defined under statute, being:
- building work (within the meaning of the Building and Construction Industry (Improving Productivity) Act 2016 (Cth))
- work to be carried out anywhere in Australia that, if carried out in New South Wales, would be covered by paragraph 5(1)(d) or (f) of the Building and Construction Industry Security of Payment Act 1999 (NSW) (SOP Act) and not be excluded by subsection 5(2) of the SOP Act
- goods or services to be provided anywhere in Australia that, if provided in New South Wales, would be related goods and services (within the meaning of the SOP Act), and
- where the total payments under all contracts, agreements or arrangements for the project for the work, goods or services is at least $1 billion.
2. Exemption for contracts with a SPV
This exemption applies to a contract, agreement or arrangement that involves a SPV and provides for:
- a public-private partnership
- securitisation, or
- a project finance arrangement.
3. Exemption relating to critical works for government
This applies to certain contracts, agreements or arrangements for the provision of essential or critical goods or services to, or the carrying out of essential or critical works for, government. This would cover critical public infrastructure including roads or railways.
Further, the newly introduced exclusions apply to the exercise of the following kinds of rights:
- indemnification rights
- termination rights in a standstill or forbearance arrangement
- right to change the priority in which amounts are to be paid
- rights of set-off and acceleration of such rights
- rights of assignment and novation
- self-executing provisions
- step-in rights
- rights in situations where specified circumstances are met.
The ipso facto law reform is now in force. Organisations entering into commercial or construction contracts should:
- carefully review all contract documentation including template agreements where the ipso facto provisions often remain unchanged
- consider whether the operation of the ipso facto provisions in contracts entered into after 1 July 2018 are stayed under the Act
- consider whether an exclusion under the Regulations would apply.
These new laws make the due diligence around contractor selection more important than ever, particularly in relation to financial solvency.