How to Deal with Tariff Impacts on Construction Projects

The Situation

Tariffs are taxes that governments charge on items being imported from other countries.
For many decades, the world has been moving to remove trade barriers between
countries, establishing free trade agreements with no tariffs being assessed on items
moving between countries. The increased globalization of commerce means that
frequently items purchased in one country were either entirely made in another country
or at least some component was made elsewhere. Now we are seeing a new era of
tariffs being used by the US government as an economic tool, with fast-paced changes
in tariff rates. These changes make it difficult to anticipate the final cost of materials or
equipment purchased outside of the country. While this issue has been primarily in the
USA, the ripple effects mean that any country may be impacted.

Construction projects often involve the procurement of materials and equipment
sourced or fabricated outside the country. Examples include steel, piping, lumber, and
specialty equipment. Depending on the combination of changing tariffs and timing of
deliveries, construction projects can experience significant cost impacts that are difficult
if not impossible to anticipate. Impacts can even include schedule delays if tariffs result
in reduced trade impacting ability to get finished goods.

Owners and contractors both need to be knowledgeable about these potential impacts
and how to deal with them if they arise.

Know Your Contract

Both owners and contractors need to review their contracts for their construction
projects to understand how the contracts may address this issue.

Both owners and contractors need to review their contracts for their construction
projects to understand how the contracts may address this issue.

Specific Tariff Language: Does the contract include specific language as to who is
responsible for payment of any tariffs on items imported from other countries? Is the
contractor responsible or the owner? If the contract is silent on tariffs, it may be
addressed in language associated with payment of taxes.

Responsibility for Taxes: Who is making the purchase? Depending on the contract
and/or subcontracts, the contractor or subcontractor is typically considered the
purchaser of the material or equipment and therefore responsible for payment of any
taxes associated with the procurement. However, some contracts have the contractor
acting as an agent for the owner, such that the owner is responsible for the payment
and associated taxes. Note, even if the project is exempt from sales tax, that will
typically not apply to tariffs, but a lawyer should be consulted in this instance.

Change in Laws or Regulations: Does the contract have specific language indicating
that the contractor is entitled to an adjustment if there is a change in laws or regulations
that apply to the project? This is a common clause in contracts, but the wording can
limit the remedies available to the contractor. Also, there is a question as to whether a
tariff qualifies as either a law or regulation? Most, if not all, of the tariff fluctuations in the
USA have been by executive order and not by the passing of a law or government
regulation.

Force Majeure: If nothing else, can a change in the tariffs be considered a Force
Majeure event? Most contracts have Force Majeure clauses that say the contractor is
entitled to some sort of adjustment if an event occurs that is entirely outside the control
of the contractor, and it is impacted. The clause may limit adjustments to time only but
may also include cost.

Contractor Actions

If a contractor intends on seeking compensation for impacts due to changing tariffs, they
need to take certain steps to support a change order.

Understand your contract – Contractors need to review their contracts to understand
their obligations under the contract and what risks were allocated to them. They need
to determine what, if any, clauses provide entitlement for adjustment for cost and other
impacts that result from changing tariff rates.

Give notice as soon as possible – Even if the impact has not been realized yet,
contractors should give notice to owners as soon as possible of the potential impact of
tariffs. This notice helps protect the rights of contractors under the contract and offers
owners as much time as possible to work with the contractor on mitigation strategies.

Offer alternatives – Contractors should always offer alternatives to owners whenever
possible to help avoid or mitigate the impacts of tariff (or any other event for that
matter). If the contractor can provide alternative sources that avoid the tariffs, that may
be preferable. Also, a contractor may be able to adjust the schedule to help avoid tariffs
if they are not scheduled to take effect for some time.

Document impacts – In the event the tariff impacts are realized, the contractor needs
to thoroughly document the impacts to help support its cost and/or schedule impacts.
The contractor should demonstrate that its original contract amount included the
appropriate cost for any tariffs that were applicable at the time the contract was signed.
The contractor would then need to demonstrate the actual tariffs paid or how the final
cost of the product was impacted

Owner Actions

Likewise, if an owner needs to respond to a contractor’s change order request due to
tariffs, they need to take certain steps to address these impacts.

Understand your contract – Owners often have the impression that they have
transferred all risks to the contractor when they signed the contract. The reality is
usually different. The owner is still responsible for certain impacts depending on the
terms of the contract. The owner needs to review the contract, as well as reviewing any
clauses cited by the contractor, to understand what entitlement the contractor may have
under the contract for tariff impacts.

Work with the contractor – Owners should be proactive in working with the contractor
to minimize the impacts of any tariff rate changes, even if the contractor has to bear the
cost. It is part of being a good partner and will promote a good working relationship with
the contractor. Some possible mitigation strategies can include the following considerations:

• Expedite shipping – If a contractor is allowed to expedite shipment of an item, they may be able to avoid tariffs before they go into effect. The cost of the expediting may be far less than the tariffs at the end of the day.
• Alternative sourcing – Some owners have specified specific materials, equipment, or suppliers in the contract. If the owner is willing to entertain alternative sources, tariff impacts can be minimized or even avoided altogether.
• Design – Though typically redesigning aspects of a project can take time, it can be an option to redesign some limited aspect of a project that then supports using materials or equipment not subject to tariffs.

Be reasonable in reviewing requests – When the contractor submits a change order
request, be reasonable in the evaluation of the request. The contractor didn’t ask for
the tariff changes and probably could not have reasonably anticipated any such
changes.

Conclusion

Owners and contractors need to understand their contract to address any project
impacts due to tariff changes. They also need to work together to minimize the impacts
to help ensure the project is completed as close to the targets as possible.