A power player hiding in the Hungarian construction industry: the construction trustee
To deal with the aftermath of the global financial crisis starting in 2008, Hungary introduced the unique institution of the "construction trustee", whose primary aim was to break the chain of debts among contractors and subcontractors in the construction sector.
The purpose of a construction trustee is to ensure that all contractors and subcontractors receive their due payment throughout a construction project, without a contractor absconding with other contractor's fees in the process. The participation of construction trustees thus not only leads to more liquid construction companies, but also safeguards project sustainability. In many cases, the involvement of a construction trustee in a project is mandatory. However, a construction trustee may also be involved voluntarily as a security for the subcontractors and the financing credit institutions. So how did the construction trustee become a power player in the Hungarian construction industry? The answer is simple: It has continuous and exclusive control over the funds and payments throughout the entire lifetime of construction projects.
The construction trustee's main role is to handle the developer's funds to cover the costs of the construction works and the securities granted by the contractors to the developer. Therefore, the construction trustee represents a multidirectional and multilayer guarantee for developers, general contractors and subcontractors alike.
Developers are obliged to involve a construction trustee in a project if the value of the construction works exceeds the currently applicable EU public procurement threshold for construction works, which is EUR 5,548,000 in 2019. For the avoidance of doubt, construction trustees must be involved even if a private project is otherwise not subject to public procurement rules. If the construction works are subject to construction trusteeship, the developer is free to choose among eligible construction trustees. Before commencing any construction works, the developer is obliged to put enough funds covering the construction works into the construction trustee's escrow. The construction trustee is obliged to credit the developer's funds to a separate bank account which will function as the construction trusteeship disbursement account. During the construction works, this disbursement account may only be accessed by the construction trustee.
During the construction works, the construction trustee distributes the developer's funds to the general contractor and, in some cases, directly to subcontractors, monitors the invoicing and payment of contractors' fees within the subcontractor chain, and through various tools ensures that all subcontractors are paid for the completed works.
To ensure payment transparency, the construction trustee monitors whether the general contractor paid all outstanding fees to the subcontractors. If the general contractor does not meet its payment obligations towards its subcontractors, the construction trustee will pay the outstanding fees directly to the subcontractors and simultaneously deduct the subcontractors' fees from the general contractor's fee.
If a construction trustee is involved, developers are obliged to enter into a trusteeship agreement with the construction trustee prior to concluding the respective construction agreement. The construction trustee participates in the construction project until the general contractor's final invoice is settled. If the participation of the construction trustee in a project is mandatory but the developer fails to enter into the trusteeship agreement in due course, the developer is exposed to the risk of being fined and having the project suspended by the building authority.
Once the construction agreement is concluded, the developer is obliged to submit the construction agreement for the construction trustee's review within five business days. At the same time, the developer must ensure that a disbursement account accessible only by the construction trustee exists and that the respective funds for the construction works are available as of the effective date of the construction agreement. The construction trustee's fee must be borne by the developer.
Pursuant to recent changes to Hungarian construction laws, to effectively safeguard the transparency and lawfulness of construction projects, construction trustees may initiate the suspension of construction works at the building authority if the developer fails to make sufficient funds available for the relevant construction milestone on the construction trustee's disbursement account within 30 days. Failing to make sufficient funds available for the construction trustee is a material violation of construction rules. Therefore, if the construction trustee initiates suspension of works based on the above grounds, the building authority will most likely order the project suspended. The general contractor is also entitled to suspend its works for the same reason for 30 days without the ruling of the building authority. If the 30-day suspension expires in vain, the general contractor is entitled to terminate the construction contract.
Based on the above, compliance with construction trusteeship rules is obviously critical to the completion of construction projects in Hungary. Therefore, real estate investors are advised to pay special attention to construction trustees before commencing a construction project.