Commercial contracts & insurance part 2: beware of “no-fault” indemnity clauses

Entering into contracts for the supply or purchase of goods and services, agreement to lease or construction activities often follows the creation of a legally binding written agreement between the parties. It is important to take the time to review such contracts and to understand any risk implications generally including those resulting from the indemnity provisions within.

Indemnity provisions are often some of the most complicated provisions to negotiate because:
  • They often prejudice you and hence your insurer.

  • They can be drafted in ways which make them difficult to understand.

  • They raise a number of complex legal issues.

  • They can have significant commercial consequences, and therefore need to be understood by all parties to the deal (not just lawyers).

We have observed an increase in the inclusion of “no fault indemnity clauses” in contracts more recently, whereby one party will seek to be indemnified for loss or damage by another party irrespective of fault (or an assessment of liability). Liability policies will generally (in their standard form) only provide legal liability cover to an insured party, and not provide cover for liability assumed under contract or agreement, particularly where the Insured party has agreed to indemnify another party irrespective of fault, or waived their rights in respect of recovering losses against another party who is at fault.

An example clause which contains indemnity irrespective of fault is shown below:

The Contractor must indemnify the Principal against any loss or claim suffered or incurred by the Principal directly or indirectly arising from, or otherwise in connection with:

(a) the Contractor’s activities, including the performance of work;

(b) any breach of contract; or

(c) the project as a whole.

In the above clause the Contractor is required to indemnify the Principal for any loss or claim directly or indirectly arising from the project as a whole. This clause does not require the contractor to be legally liable for the loss or damage, simply that the loss or damage occurred as a result of the project being undertaken. This clause exposes the Contractor to significant (and likely uninsured) risk.

There are steps contractors can take during the course of negotiations to seek to minimise their exposure by way of implementing a ‘writeback’ to the indemnity clause to ensure that any indemnity provided by the consultant is limited to loss or damage due to the faulty or negligent conduct of the contractor. An example of an appropriate writeback is shown below (emphasis added).

The Contractor shall indemnify the Principal against:

a) loss of or damage to the Principal’s property; and

b) claims in respect of personal injury or death or loss of, or damage to, any other property,

arising out of or as a consequence of the negligent carrying out of WUC, but the indemnity shall be reduced proportionally to the extent that an act, error or omission of the Superintendent, the Principal or its consultants, contractor, agent or other third party (not being employed by the Contractor) may have contributed to the loss, damage or injury.

The final paragraph allows the contractor to limit the scope of the indemnity to its principal by limiting its exposure to a “fault” situation and carving out any liability that is attributable to the conduct of the other mentioned parties. Furthermore it allows the contractor to apportion loss on a percentage basis to other responsible parties (or concurrent wrongdoers). The contractor could avoid liability under the indemnity altogether if it can demonstrate that the injury, death, loss or damage has been caused by an act or omission of the superintendent, the principal or its consultants, agents or other contractors.

It is reasonable in contracting for a party to provide an appropriate indemnity to another party for damage as a result of their actions. Insurers will accept that indemnity provisions exist in most contracts to ensure protection of one party for loss or damage caused by the actions of the other contracting party. However where such indemnities extend to all events associated with the work (or the project, loosely defined), regardless of fault it can leave Insureds and Insurers in a position where they may be responsible to pay for losses caused entirely by another party – a significant exposure.

When entering into a contract it is essential to be aware of the potential losses associated with agreeing to indemnify for losses that would not be, absent the contract, your liability. Insurance coverage for liability ordinarily covers the policyholder for liability arising from their own work. We will in this series explore coverage that can be agreed that causes some common assumed liabilities, but the first prudent consideration of anyone who contracts is why they would intend to broaden the scope of liability they are responsible for without considering insurance issues, possible caps on the indemnity, etc.

Bellrock recommends seeking legal advice in relation to all commercial contracts under consideration, and having your risk advisor perform a review to ensure your coverage dovetails with the requirements of the requisite contract.

Bellrock works with a range of third party experts, including legal firms who may assist more broadly on legal elements of contract reviews. For further information or advice relating to insurance cover and contract conditions, please contact us via the form below.

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