Construction Arbitration in Turkey

Turkey’s construction industry

The construction industry is the driving force for many economies across the world, and in Turkey its impact is even more significant. Despite the recent slowdown in economy, the country remains an important regional power and is active in bilateral relations and at international platforms. Being a G20 Member State, Turkey has the 21st largest economy, the 31st largest export economy and the 52nd most complex economy in the world, according to the Economic Complexity Index.

Among a variety of prominent industries that boost the economy such as textile, agriculture, manufacturing and tourism, the field of constriction has long been the powerhouse of Turkey and sustains its position as the locomotive of the economy. Contributions from the construction field are apparent from the figures as the industry’s employment ratio is 8 per cent and its gross domestic product ratio is 10.9 per cent pursuant to most recent indexes.

The Turkish construction industry is not only influential locally, it is also one of the most competitive and dynamic industries worldwide. Thirty-eight Turkish construction companies are ranked on the list of Engineering News Record 2018 Top 250 International Contractors – eight of them ranked among the top 100. Such rankings put Turkey in second place only behind China in terms of the number of contracting companies, which are building projects with the largest volume across the world. Operations of Turkish contractors are spread widely, over 100 countries, the majority of which are in Russia and CIS countries, the Middle East and North Africa.

The Turkish government provides full support to the industry by introducing various incentives with the aim of improving international competitiveness and integrating regional potential to the national economy. Within this scope, a number of incentives such as VAT exemption, exemption from customs duty, tax reduction, social security premium support for contract giver’s share, interest support, social security premium support (employee’s share), income tax withholding, allocation of the place for investment and VAT refund are granted by the Turkish government.

The infrastructural transformation of major cities in Turkey is also one of the reasons for the rise of the construction industry. During 2006–2017, the amount of infrastructure investments totalled US$144 billion in Turkey. The Republic of Turkey Prime Ministry Investment Support & Promotion Agency of Turkey (ISPAT) foresees a rapid increase in the infrastructure and public private partnerships until 2023. According to project calculations by ISPAT, the estimated value of the infrastructure and PPP projects are almost US$325 billion.^[2]

In the light of the statistics of the General Directorate for Infrastructure Investment of the Ministry of Transport, Maritime Affairs and Communication, five major railway projects, 21 port projects and 16 airport projects have been completed in the past 11 years; 21 railway projects and 14 airport projects are pending; and 15 port projects are in tender processes. One of the most recent and largest projects completed is the new Istanbul Airport, which became partially active at the end of 2018 and aims to be the largest airport hub in Europe when fully activated. Other major infrastructure projects in the line in Istanbul are:

• Canal Istanbul Project at a cost of US$15 billion;
• Haydarpas¸a Port Project at a cost of US$5 billion;
• Istanbul Finance Centre Project at a cost of US$4.5 billion;
• Three-Level Subsea Tunnel Project at a cost of US$3.5 billion;
• Ataköy Marina Project at a cost of US$1.5 billion; and
• Haliç Port Project at cost of US$1.4 billion.

Similar projects are being carried out all around Turkey by various governmental authorities.

Further to these, the Ministry of Health is supervising 31 hospital projects, which are to be implemented under the PPP model as well.

As one can derive, the achievements gained in the construction sector are not of spontaneous nature. As well as the government’s support to the industry, the legal framework in relation to construction contracts is also being adapted to the rapidly changing dynamics of the industry. In addition, there is a relatively established case law as to construction disputes, especially owing to the decisions by the 15th Chamber of the Court of Cassation, which has handled the appellate review of construction disputes of all kinds for many years regardless of whether they are contractual disputes or construction arbitration-related issues.

The same goes for the arbitration regime. Although issues such as public policy and national courts’ overstep in enforcement proceedings come to the surface in intervals, overall arbitration is always developing in Turkey. Turkey is also showing the utmost effort to align itself with the rest of the world and become a more pro-arbitration jurisdiction. As the most prominent development the Istanbul Arbitration Centre (ISTAC) has been significantly active in both the domestic and international fields since its establishment in 2015. Furthermore, the government also promotes arbitration as a dispute resolution mechanism by encouraging governmental authorities to choose arbitration in their contracts. In line with the government’s efforts, the Turkish Public Procurement Authority amended the standard contracts annexed to the Regulations on the Implementation of Public Procurements, and, effective as of 19 January 2018, public administrations are now entitled to choose between national courts and arbitration to resolve the disputes arising out of the execution of public procurement agreements regardless of foreign element.

Legal framework for construction contracts in Turkey

Relevant legislation

There are no standalone regulations with respect to construction contracts. The legal framework for construction contracts and other relevant legal issues are set forth under numerous pieces of legislation:

• the main legislation is the relevant provisions of the Turkish Code of Obligations No. 6098 (TCO), namely, Articles 470–486 under the ‘Agreement for Work’ Section. While these provisions are being applied to all types of agreements for work, they are applicable for construction contracts that fall under the scope of agreement for work. Most of these provisions are not mandatory, and the freedom of contract principle governs the implementation. Usually, construction contracts are drafted in a detailed way and are not silent in relation to the contractual terms. However, in circumstances where the contract is silent, the relevant provisions of the TCO, as the general legislation, and other relevant laws shall apply;
• issues such as the right of construction (superficies right) and ownership following the completion of the construction are regulated under Turkish Civil Code No. 4721;
• Zoning Law No. 3194 regulates all planning activities and structures to be constructed inside and outside municipal boundaries, urban land project areas, cadastral records and boundary conflicts;
• Environment Law No. 2872 governs general binding factors in construction contracts, such as licences and permits, environmental standards and rules that should be obeyed in construction plans and projects;
• in construction works of government institutions, the following laws may also apply depending on the nature of the construction project and contracting governmental authority:
• Public Procurement Law No. 4734 and State Bidding Law No. 2886, which govern tenders of governmental authorities;
• Law No. 3996 on Commissioning Certain Investments and Services within the Framework of Build-Operate-Transfer Model, which is applicable for build-operate-transfer projects and construction works that are based on special know-how and high expense; and
• Law No. 6428 on Construction, Renovation and the Purchase of Services by the Ministry of Health by way of the Public–Private Partnership Model and Amendments to Certain Laws and Decrees with the Force of Law, which is applicable for Ministry of Health’s public private partnership construction and renovation projects.

General characteristics of a construction contract (form requirements and parties)

A construction contract is an onerous, consensual, instantly executional and innominate agreement. Under Turkish law, there are no specific form requirements for the validity of a construction contract; yet, in practice, in particular for large-scale construction projects, the parties often execute written contracts and sometimes in official form.^[3] Parties may either incorporate into their contract internationally recognised forms such as International Federation of Consulting Engineers (FIDIC), the New Engineering Contract (NEC) terms, or agree on their own conditions and terms based on the necessities of the project. Only certain agreements require specific form requirements or specific requirements for validity of certain clauses, such as an arbitration clause.

The parties to a construction contract are the contract giver and the contractor. Under Turkish law, consortiums and joint ventures may also be a party to a construction contract. In general, the contractor is free to subcontract the construction. In situations where the construction contract restricts subcontracting or the work is based on the personal skills of the contractor, such as in cases where the contract giver has special benefit in construction work that will be specifically done by the contractor and not by a third person, or the work includes properties that depend on the contractor itself, the contractor may not subcontract the construction.^[4]

Obligations of the parties

Obligations of the contractor

(TCO Articles 471–474)

In general, the contractor has the obligation and responsibility of performance of the work undertaken. Along with its contractual obligations to perform in compliance with the construction contract, the contractor has the following obligations arising from the TCO:

• the contractor shall comply with the delivery schedule while performing the work;
• damages and expenses that might arise due to delays are under the responsibility of the contractor;
• the performance shall also be in compliance with the required permits and land rights, as well as with relevant health and safety regulations and social security obligations. Liability of the contractor persists for failures regarding breach of such permits and rights;
• the principle of care is essential along with the principle of loyalty while fulfilling this duty. A reasonable standard of care is expected from the contractor, and the contractor shall protect and regard the interests of the contract giver and shall not act against the contract giver’s benefit; and
• according to Article 471/3 of the TCO, unless agreed otherwise, the contractor shall provide its own equipment and supplies, and the expense to accrue therefrom cannot be added to the price determined in the agreement.

When it comes to the issue of subcontracts, essentially it should be noted that subcontractors are not a third party of the main construction contract. Unless provided otherwise in the main agreement, the contract giver does not have any obligation arising from the contract between the contractor and the subcontractor. However, in case of a failure to pay social security payments of the employees, the related amount might be directly claimed from the contract giver in accordance with Article 12/6 of Social Security Act No. 5510. The contract giver may give recourse to the contractor for the reimbursement of the payment. The contractor has the liability of services, equipment and material payment to each subcontractor, and the contractor should notify the contract giver at the occurrence of any dispute. It is the contractor’s duty to ensure that the subcontract is consistent with the terms and conditions of the main contract.

Obligations of the contract giver

(TCO Articles 479–481)

The main duty of the contract giver is the payment of the price. The parties may freely determine the payment method of the contract price, for example, as lump sum or as unit price under the agreement. For the lump sum, the payment is previously fixed as an exact amount. Even if the work costs more than the agreed fixed price, or more work is required to complete the project, the contractor has to complete the work undertaken and cannot request more than the amount agreed. In order to balance the parties’ rights and obligations, Turkish law provides that in case of unanticipated and unforeseeable conditions, upon a request by the contractor, the court might exceptionally decide to raise the lump-sum price or terminate the contract depending on the specifics of each case. The contract price may also be determined as a unit price, or in other words as a bill of quantity. The TCO states that in circumstances where the consideration price is not previously determined, it will be fixed based on the work and expenses undertaken by the contractor.

In cases of partial performance, as a rule, pursuant to Article 484 of the TCO, provided that the consideration of the partial work is paid and all the damages of the contractor are compensated, the contract giver may terminate the contract. In return of the partial payment, the contract giver may request delivery of partial work performed by the contractor.^[5]

General conditions for validity of an arbitration clause under Turkish law, and arbitrability of construction contracts

Conditions for validity of an arbitration clause

Under Turkish law, validity of arbitration clauses are regulated under Turkish Civil Procedure Law No. 6100 (CPL), which applies to domestic arbitration proceedings and Turkish International Arbitration Law (IAL) for disputes involving a foreign element. Both laws are mostly based on the UNCITRAL Model Law on International Commercial Arbitration. According to Article 412 of the CPL and Article 4 of the IAL, as a condition for validity, arbitration agreements must be in writing and an agreement shall be deemed in writing if it is contained in a document signed by the parties or in an exchange of letters, telex, telegrams or other means of telecommunication, or in an exchange of statements of claim and defence in which the existence of an agreement is alleged by one party and not denied by another.

Another essential element for the validity of an arbitration clause is the parties’ clear and precise intention to arbitrate their disputes. According to established practice of the Court of Cassation, an arbitration clause must be clear and precise; in other words, the parties’ consent to arbitrate must be clear and most specifically there must not be an optional choice of court proceeding.^[6] The 15th Civil Law Division of the Court of Cassation has established this approach by the rendering consistent decision for years and recently rendered a judgment to consolidate its previous decisions in 2017.^[7]

The other conditions for the validity of an arbitration clause under Turkish law are that:

• the arbitration clause should relate to an existing relationship;^[8] and
• if a contract containing an arbitration clause is signed by a representative of a party, the proxy given to the representative should include an express authority for the representative to sign an arbitration clause on behalf of such party.^[9]

Further to the above, regarding general conditions for the validity of an arbitration clause under Turkish law, additional conditions may be required in relation to an arbitration clause contained in a contract executed by a governmental authority. This is because, in principle, all the contracts of a governmental authority are considered as administrative contracts and administrative contracts cannot contain an arbitration clause unless otherwise provided by laws. Therefore, disputes arising from administrative contracts may only be resolved by administrative courts. To this effect, it is important to check whether any relevant legislation allows a governmental authority to execute a contract that contains an arbitration clause.

Arbitrability

There are limits to arbitrability under Turkish law. According to Article 1 of the IAL and Article 408 of the CPL, disputes regarding rights in rem (real rights) on immovable properties in Turkey and disputes that are not subject to the will of both parties are not arbitrable.

In principle, disputes arising from construction contracts are arbitrable under Turkish law. Nevertheless, the Court of Cassation decided that, although relevant to a construction contract, disputes in relation to cancellation and registration of title deed are not arbitrable.^[10] In another dispute regarding division of flats in a construction that has been done on the basis of a construction contract in return for flats, the Court of Cassation decided that the dispute was not arbitrable because it related to title deed registration.^[11] Consequently, as it is established by the practice of the Court of Cassation, construction disputes that relate to land registry (i.e., registration, revocation of a right, etc.) are likely to be considered as subject to exclusive jurisdiction of the national courts.

Multi-tier arbitration clauses in construction contracts

Construction contracts are, by nature, complex contracts and tend to be made even more complex by the involvement of additional parties, especially government authorities and depending on the scale of the project. As one can anticipate, the more complex a construction contract becomes, the more multifaceted disputes arise throughout the implementation and after the finalisation of the project. In large-scale construction projects that are built in Turkey, parties often have disputes but only a small number of these disputes end up in arbitration. In practice, Turkish contract givers and contractors have familiarised themselves with pre-arbitration procedures such as engineer, dispute adjudication board (DAB), mediation, etc., and the successful exhaustion of these procedures, as well as the parties’ efforts to avoid disputes, positively affect the number of disputes that proceed to court or arbitration proceedings.

The Turkish Court of Cassation has dealt with the issue of multi-tier arbitration clauses on different occasions. The High Court approached the issue from validity perspective and examined the effect of multi-tier dispute resolution clauses on the validity of the arbitration clause, and as a result decided that multi-tier dispute resolution clauses are valid under Turkish law. It is the parties’ right arising from their contract to first wait for the exhaustion of the pre-arbitration procedures.^[12]

In a decision dated 17 December 1987, the 15th Civil Law Division of the Court of Cassation discussed the effect of a multi-tier path on the validity of the arbitration clause. The Court came to the conclusion that if parties apply to mediation, reconciliation, engineer or another expert to settle their disputes but fail to find an amicable way, then they may commence arbitration as a last resort. The fact that the parties apply to pre-arbitration procedures before arbitration does not impede the validity of the arbitration clause. In principle, the Court of Cassation looks for an undisputable will of the parties to refer their disputes to arbitration. As stated above, the clauses that provide the parties with the options to litigate or arbitrate are deemed invalid by the Court of Cassation. On the other hand, according to the Court of Cassation, multi-tier arbitration clauses that enable the parties to apply to mediation, engineer, etc., before arbitration do not jeopardise the will of the parties to arbitrate.^[13]

In a Commercial Court decision that was approved by the Court of Cassation, the Commercial Court stated that:

as stated in the agreement, the dispute shall firstly be referred to the engineer before initiating arbitration proceedings and settled by the engineer. After the engineer delivers his decision, the parties can apply to arbitrator if they desire to do so. However, this provision does not invalidate the arbitration clause. Regardless of the parties’ application to the engineer, the dispute shall be ultimately resolved by arbitrators. The pre-arbitral procedure [recourse to engineer before arbitrator] and the decision given by the engineer are not binding for the parties. The dispute should be resolved by the arbitrator as the relevant clause [application to the engineer] does not invalidate the arbitration clause.^[14]

In a case regarding extending the duration of a construction contract executed as per the FIDIC Red Book (1987), where the Turkish courts had competence to hear disputes arising from such contract, the Court of Cassation decided as follows:

it is a known fact that under FIDIC Contracts claims for time extension are subject to strict form requirements and the request for time extension can be examined in case the form requirements are complied with. Besides, as per Article 287 of Code of Civil Procedure, the Clauses 44, 53 and 67 of the contract are accepted as an evidence agreement between the parties … This being the case, the first claims of the plaintiff should be examined and evaluated as per Articles 44 and 53.3 of the contract, and the claims where one submission was made should be considered as per Articles 53.4 and 67 of the contract.^[15]

In this case, the Court of Cassation acknowledges that in the event the parties agreed to finally settle their disputes by arbitration, the relevant clauses for referring to the decision of engineer are considered as conclusive evidence for the judicial authority rather than a step before arbitration or litigation. This is because the engineer, who is provided for by the FIDIC conditions of contract, undertakes a task to try to overcome technical and similar difficulties that may arise due to construction, as an official mediator or intervener incumbent without the title of arbitrator.^[16]

Enforcement of arbitral awards

Foreign arbitral awards

The main piece of legislation on the enforcement of arbitral awards in Turkey is the New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards dated 1958 (NY Convention). An arbitral award resolved in a contracting state would be enforceable in Turkey under the NY Convention. In addition, International Civil and Procedural Law No. 5718 (Law No. 5718), provisions of which are parallel to those of the NY Convention, applies if the award is issued in a non-contracting state of the NY Convention.

In order to enforce a foreign arbitral award in Turkey under the NY Convention, the claimant party must seek an enforcement decision from a Turkish court. Principle of revision au fond is accepted by the national courts, in other words the court’s examination of the application is limited to the procedural issues, or requirements, set forth in the NY Convention; thus, the court is not allowed to review or re-examine the merits of the case. Such pro-arbitration approach of national courts has been consolidated with a recent decision rendered by the Regional Court of Appeal. In a recognition and enforcement claim, where the application of law by the arbitrators was in question, the Court stated that no review of the merits could be made, and that no arguments could be heard as to whether the arbitrators had correctly applied Turkish law concepts. The court further reiterated that the action to enforce a foreign arbitral award permits no evaluation or determination as to the merits of the dispute, and that only those grounds enumerated in the 1958 New York Convention can be invoked.^[17]

Moreover, since Turkey is also party to Convention on the Settlement of Investment Disputes Between States and Nationals of other States (the ICSID Convention) the arbitral awards that are rendered under the ICSID Convention may be enforced in Turkey without the necessity of obtaining an enforcement decision from Turkish courts.^[18]

Domestic arbitral awards

The enforcement of arbitral awards issued by an arbitral tribunal sitting in Turkey is subject to two different laws. Provisions of the IAL apply to arbitral awards issued in Turkey with a foreign element or in cases where the provisions of the IAL have been adopted by the parties or the arbitral tribunal. For arbitral awards without a foreign element within the meaning of the IAL, the provisions of the CPL shall be applicable.

As per Article 15 of IAL, only an annulment action (action to set aside) can be initiated against an arbitral award rendered in Turkey. The grounds to set aside the arbitral award mostly resemble those set forth in the UNCITRAL Model Law on International Commercial Arbitration and the NY Convention. Accordingly, an arbitral award can be set aside if the requesting party proves that:

• the counterpart to the arbitration agreement does not have the capacity to sue or the arbitration agreement is not valid according to the law chosen by the parties to apply to the arbitration agreement, or according to Turkish law if the parties did not choose any applicable law;
• the procedure of appointment of arbitrators agreed by the parties has not been followed;
• the award has not been given within the time frame determined for proceedings;
• the arbitral tribunal lacked jurisdiction, or wrongfully declined its jurisdiction;
• the award is not related to the subject matter of the arbitration agreement or the award does not embrace all issues that referred to arbitration, or was made in excess of powers;
• the arbitration proceedings were not conducted according to the agreement of the parties, or, in absence of such an agreement, with the provisions of the IAL, and this default affects the substance of the award;
• the rule of equality of the parties was not complied with; or
• if the court ascertains that:
• under Turkish law, the dispute is not arbitrable; or
• the award is in breach of public policy.

Among the conditions cited above, experience shows that parties often rely on public policy issues in actions for setting aside.

Public policy is a controversial issue in Turkish arbitration practice, as it is in many other jurisdictions, since there is no precise definition of public policy under Turkish arbitration laws. According to the prevailing opinion in the legal writings, the breach of public policy should be explicit^[19] and while determining whether or not there is a breach of public policy, the judge should use his or her discretion to prevent irreparable harm. The judge should use his or her discretion by taking into consideration the specifics of each case. To that effect, the breach of public policy should be explicit and should be evaluated as a norm that is beyond systematic differences.^[20] In general, public policy is defined as the set of rules that determines the fundamentals of a society in respect of political, social, economic, moral and legal issues and that protects fundamental interests of the society.^[21] When it comes to international arbitration, the judge should apply criteria that would suit the practice of international arbitration rather than domestic litigation.^[22]

The decision of the General Assembly on the Unification of Judgments of Court of Cassation, which is a binding decision for all levels of Turkish courts, dated 10 February 2012, 2010/1 E, 2012/1 K, sets important guidelines for the courts in determining a breach of public policy and states that:

whether or not the actual consequences of enforcing a foreign court decision would breach Turkish policy public should be evaluated, one should not evaluate the law applied in the foreign court decision and the criteria taken into account in the application of such law ... The enforcement of foreign court decision should be rejected if the consequences that will arise as a result of enforcement would breach Turkish public policy. One cannot examine whether the law applied to the merits of the foreign court decision breaches Turkish public policy ... In most cases, it would be deemed that a breach of a mandatory rule of Turkish law would constitute a breach of Turkish public policy; however, it is not possible to say that all foreign court decisions which violate a mandatory Turkish law rule would also violate Turkish public policy.

In a much-debated decision of the 13th Civil Chamber of the Court of Cassation,^[23] the high court evaluated an appeal that was lodged in accordance with Article 15 of the IAL, and examined an arbitral award that was against the favour of three Turkish governmental authorities. This decision is relevant to parties that sign a contract with Turkish governmental authorities because:

• the arbitral award that was examined in this decision was between a Turkish global system for mobile communications (GSM) operator and three Turkish governmental authorities;
• the place of arbitration was Istanbul. The arbitration was governed by International Chamber of Commerce (ICC) Rules and the IAL;
• the underlying dispute arose from a concession agreement signed between the GSM operator and a governmental authority;
• the arbitral award dealt with whether or not certain income items of the GSM operator fall within the base of the monthly payment that the GSM operator had to make to the state entities in accordance with the concession agreement;
• the arbitrators awarded that the disputed income items did not fall within the base of the monthly payment that the GSM operator had to make to the state entities;
• the state entities filed an action for setting aside the arbitral award on the grounds that the award breached Turkish public policy;
• the local court dismissed the requests of the state entities and decided that there was no breach of public policy; and
• the Court of Cassation, which reviewed the file upon the appeal application, decided that ‘the arbitral award is against Turkish public policy because it is against the characteristics of the concession agreement, the Turkish State’s purpose of generating a continuous income, mandatory rules of law and public interest.’

In reaching this conclusion, the Court of Cassation stated that:

in case there are objections raised by one of the parties in relation to a breach of public policy, it may be necessary to analyse the merits of the arbitral award in part in order to evaluate the public policy issues.

This decision has been severely criticised in the legal writings. It is stated by one of the eminent scholars on Turkish international arbitration practice that:

the issues discussed within the decision relate to the merits of the arbitral award and they are out of scope of the action to set aside. In addition, the use of breach of public policy to review the merits of the arbitral award does not fit the interest which is sought to be protected with the concept of public policy.^[24]

This was not the first time the 13th Division relied on the same reasoning to examine the merits of an arbitral award in part. In the decision dated 9 July 2015, No. 2014/27460 E, 2015/23707 K, in relation to enforcement of a foreign arbitral award (ICC award), 13th Division reversed the decision of the first instance court on the basis that:

in order to determine whether or not the foreign arbitral award, enforcement of which is sought, breaches Turkish public policy, and therefore, to determine whether the award can be enforced in Turkey, the concrete case should be analysed from a tax law perspective. Therefore, the local court had to obtain an expert report from a panel of three tax law specialists.

The Court of Cassation quoted the above-mentioned reasoning in this decision as well. Therefore, the explanations above in relation to public policy in annulment actions also prevail for the public policy criteria in enforcement of foreign arbitral awards as the Court of Cassation applies more or less the same public policy criteria for both proceedings.

Conclusion

Construction is a significant driving force for the Turkish economy and the government puts the utmost effort into maintaining growth in the construction industry, and into fostering it further. Applicable legislation is being adapted in order to keep up with the ever-changing dynamics of the industry. As arbitration is by far the preferred dispute resolution mechanism of both domestic and international actors of construction industry, providing an arbitration-friendly jurisdiction, which is in line with the global trends, is the main objective of both the government and the lawmakers. Despite the controversial decisions referred to above, their number is negligible in comparison to pro-arbitration decisions and the Court of Cassation’s positive approach grows stronger. All in all, it is safe to say that Turkey is rapidly evolving into an international hub for not just construction disputes but for general commercial disputes.

Notes