NEC and restrictions on red diesel – who is going to bear the increased fuel costs?

What's changing?

In the 2020 Budget the government announced that it would be banning most sectors from using rebated diesel ("red diesel"), leading to increased fuel costs as users of off-highway construction machinery are forced to use unrebated white diesel, costing an extra 46.81 pence per litre.

The change is being brought in by new legislation - the Finance (No 2) Bill 2021 ("FB 2021") - which is still working its way through parliament but is expected to become law this year. However (in its current draft form), the restriction on the use of red diesel will not come into force until 1 April 2022.

Will the change be a compensation event under NEC?

X2 is an optional additional clause which parties can select under NEC. If X2 has been selected, then any change in law after the Contract Date is a Compensation Event. If the Option has not been selected, the Contractor/Subcontractor is taken to have accepted the risk of any changes in law and will not be able to recover any increase in costs.

If X2 has been selected, the key question will be when the change in law will be said to have occurred? Whilst the restriction on the use of red diesel is not set to come into force until 1 April 2022, there is a risk that disputes could emerge if parties argue that the law changed at the earlier date when the FB 2021 becomes law, rather than when this specific provision comes into force.

It also needs to be remembered that parties often amend the NEC standard form X2 clause, to exclude any changes in law which the Contractor/Subcontractor should have been aware of prior to the Contract Date, even if the change happens at a later date. Such a clause could prevent recovery of additional costs.

Best way to deal with the change?

So how should you manage this risk going forward? If entering new contracts prior to the FB 2021 being passed, we would suggest parties discuss the matter and try and agree a bespoke Compensation Event, which deals with the change. This will remove any uncertainty and allow the parties to decide when the event is deemed to have taken place – for example the date chosen could be the point when the Contractor/Subcontractor is no longer able to use or procure red diesel.

It also allows the impact of the change to be agreed, i.e., the clause could set out that the Contractor/Subcontractor will be entitled to recover the additional costs associated with using white diesel.

For existing contracts where Option X2 has been selected. The key area for dispute is going to be around when the event should have been notified, both under the Early Warning regime and as a Compensation Event, the risk being that a Compensation Event under Option X2 (as with all Compensation Events) must be notified within 8 weeks of the Contractor/Subcontractor becoming aware that the event has happened.

The safest course of action would be to issue Early Warning and Compensation Event Notices now on the basis the event is expected to happen – rather than waiting until the FB 2021 Act is passed or 1 April 2022. The Compensation Event quotation can include the assumption that the change applies form 1 April 2022 and in the event this date changes, an updated Compensation Event notice can be provided when new or updated information when this becomes available.