FIDIC

Insolvency and Construction Contracts Under FIDIC — Risk and Protection

Contractor insolvency is a project-ending event. Insolvency of suppliers and subcontractors creates cascading supply chain risks. FIDIC provides mechanisms to manage these risks, but insolvency protection is never complete — contracts, bonds, and trust arrangements must work in concert.

7 min read · Updated 23/05/2026

In this article

1. Insolvency — Definition and Scope
2. Employer’s Right to Terminate for Insolvency
3. Performance Bonds and Security
4. Supply Chain Insolvency Risk
5. Retention and Trust Fund Protection
6. Insolvency Protections in FIDIC

Key takeaway

Insolvency is an automatic termination ground under FIDIC. The employer can immediately remove the contractor from site and call performance bonds to fund completion. However, insolvency of suppliers and subcontractors creates upstream risks that are harder to manage. Performance bonds, retention held on trust, and back-to-back supply arrangements are the primary protections — and they must be in place before insolvency occurs.

1. Insolvency — Definition and Scope

FIDIC Red Book 2017, Clause 15.2 treats insolvency as an immediate grounds for termination. Insolvency includes:

• Bankruptcy, liquidation, or receivership of the contractor
• A court order placing the contractor into administration or winding-up proceedings
• The contractor’s entry into voluntary arrangement with creditors (in some jurisdictions, a formal method of avoiding formal insolvency)
• Inability to pay debts as they fall due (cash flow insolvency)
• Liabilities exceeding assets (balance sheet insolvency)

Unlike other grounds for termination (breach, abandonment, failure to progress), insolvency is not a matter of the contractor’s performance. It is a matter of financial condition. A contractor can be performing the works properly but become insolvent due to financial distress in other parts of its business.

2. Employer’s Right to Terminate for Insolvency

FIDIC provides that if the contractor becomes insolvent, the employer may terminate the contract immediately — without notice or opportunity to cure. This is a strict right: the employer does not have to wait, does not have to give the contractor warning, and does not have to allow time to remedy.

The rationale: if the contractor is insolvent, continuing the contract exposes the employer to significant risk. An insolvent contractor may abscond, may fail to complete, may not pay subcontractors (creating liens on the works), and may not maintain insurance. Immediate termination protects the employer.

On termination for insolvency, the employer takes possession of the site and completes the works. The cost of completion is paid from the contractor’s retention and from the performance bond.

3. Performance Bonds and Security

A performance bond is the primary protection against termination for insolvency. The bond is issued by a bank or insurance company and guarantees that if the contractor defaults or becomes insolvent, the bond will be called and the proceeds used to fund completion.

The bond is typically 5–10% of the contract value and is called upon termination. Example: contract value AED 100 million; performance bond AED 10 million. If the contractor becomes insolvent and the employer terminates, the employer calls the bond and receives AED 10 million. The cost of completing the remaining work is paid from this bond and from the contractor’s retention.

However, bonds are not unlimited. If completion cost exceeds the bond amount plus retention, the shortfall remains with the employer — the bond provides a floor of protection, not a complete guarantee.

4. Supply Chain Insolvency Risk

Insolvency of the contractor is manageable through bonds. Insolvency of suppliers and subcontractors is harder to control and creates cascading risk:

• Supply chain disruption: If a key supplier becomes insolvent, materials ordered and paid for may not be delivered. The contractor bears this risk unless materials have been pre-ordered and secured.
• Lien risk: If a subcontractor is not paid and becomes insolvent, the subcontractor may place a lien on the works (a secured claim). The employer’s rights to the works are then subject to the lien.
• Insurance gaps: An insolvent subcontractor may not maintain insurance on its work. If damage occurs, the contractor and employer may be uninsured.
• Design and warranty loss: If a design consultant or specialist contractor becomes insolvent, warranties and design certifications may be lost, and future defect claims cannot be pursued.

To mitigate supply chain risk, contracts should require the contractor to maintain security over suppliers and subcontractors, to ensure they are insured, and to obtain waivers of liens or security agreements that limit the employer’s exposure.

5. Retention and Trust Fund Protection

Retention (the funds withheld from monthly payments) provides security for contractor performance. If the contractor becomes insolvent before retention is released, the employer can use retention to fund completion.

However, if retention is not held on trust (is simply a debt owed by the employer to the contractor), the retention is part of the contractor’s estate and is available to the contractor’s creditors. In an insolvency, the employer may lose the benefit of retention.

Best practice: retention is held in a separate bank account on trust for the contractor, not commingled with the employer’s funds. On insolvency, the retention is protected — it is not part of the insolvent contractor’s estate — and the employer can use it to fund completion.

6. Insolvency Protections in FIDIC

FIDIC provides several mechanisms to address insolvency:

Insolvency Risk Management and Mitigation

We advise on bond sizing, retention arrangements, supply chain security, and insolvency-resilient contracting. Insolvency is not a performance issue — it is a financial risk that must be managed through contract structure and security.

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