a Hilb, Rogal and    Hamilton Company
--Partners in Practice--
RISK MANAGEMENT ADVISORY	JANUARY 1996

Indemnification can arise either by operation of law, in what is referred to as equitable indemnity or contribution, or by contractual assumption of liability. This article concerns itself with the imposition of an indemnification obligation by contract.

Your professional liability policy will cover contractual indemnification to the extent that the liability assumed is caused by your negligence in the performance of professional services. This coverage is consistent with your liability in tort, and is common to all standard policies of professional liability insurance. With that foundation in mind, and with the knowledge that you will have to find some way to pay for the liability you have assumed, let's analyze a typical indemnification clause as proposed by clients:

To the fullest extent permitted by law, the Consultant shall hold harmless, indemnify, and defend the Client, its officers, directors, representatives, designees, agents, and employees from and against any and all claims, demands, actions, suits, losses, liabilities, expenses, and costs, including, without limitation, attorney's fees and costs, directly or indirectly caused by, connected with, attributable to, or alleged to be caused by, connected with, or attributable to: 1) the performance of services under this Agreement by the Consultant, its officers, employees, agents, and consultants, 2) willful misconduct by any of them, 3) infringement of any copyright, trade secret, or patent, 4) breach of any term or condition of this Agreement, or 5) violation of any state, Federal, or local law, code, ordinance, or regulation. Excepted from the foregoing shall be only those claims, demands, actions, suits, losses, liabilities, expenses, and costs caused by the sole, active negligence of the Client.

1. "To the fullest extent permitted by law..."

The problem here is that the law governing contracts for construction in most states is more permissive than the coverage afforded by your insurance. The law generally permits indemnification which extends well beyond your negligence. Your legal liability and your insurance fence the field of your negligence, but the law may enforce a fence which encloses that and the field of harm caused by others, as well.

Some laws prohibit indemnification against the consequences of the sole (and, in some cases the sole, active) negligence of others. If there is no harm in your field, you cannot be made to answer for harm in the field of someone else. But, if there is 1% harm in your field, you could be made to answer for the 99% harm in the field of another. Coup is counted on you at 1%.

Since "the fullest extent permitted by law" is inconsistent with where we are headed in our quest for fairness and insurability, these words have no place in your agreement. Take them out.

What does it really mean when you agree to defend as well as indemnify? It means that, long before any legal liability is established, you have an obligation to retain an attorney and mount a defense on your client's behalf. Under most circumstances, this is an obligation your insurer will likely refuse to accommodate. Remember, contractual liability coverage may afford compensation for defense costs once negligence is established, but, absent negligence, there is no coverage.

As a practical matter, the problem may well go away once the specific circumstances surrounding a loss are known. It may not be in your client's interest to pursue your obligation to defend. On the other hand, your refusal or inability to retain counsel on behalf of your client could fuel the fires of the dispute. "Add it to the list" is an appropriate response here, but added fuel is not what is needed in a situation in which the interests of the parties might better be served by putting out the fire.

Indemnify your client against costs of defense attributable to your negligence, if you must (and if your insurance stands behind it), but avoid agreeing to mount that defense if you can. That commitment is likely to be contrary to everyone's interests in the long run.

Indemnification is serious business, far too serious in terms of its consequences for the client's attorney to trivialize it by throwing in the kitchen sink. Who are these fine folks, and why should you stand in their shoes in the event of a loss?

Anyone can be transformed into an agent at any time. "Zap, you're an agent! I designate you" is all it takes. The same holds true for a representative or a designee. Accept this language and you may find you have agreed to indemnify an army of unknown and unwelcome beneficiaries--the construction manager, for example, or the client's nephew, or a trip and fall victim the client would prefer to have you compensate regardless of fault.

Delete these words and all like them. If you encounter resistance, ask for a list of those representatives, designees, and agents your client believes to be appropriate recipients of your largesse. At the very least, you deserve to know who they might be. Nor is it stretching the limits of fairness for you to insist on the opportunity to evaluate, in each and every case, the appropriateness of extending the security of your indemnification to any of them.

This is not necessarily a make or break proposition, at least not in states where the protections of privity have long since been swept away. If the balance of your agreement to indemnify is limited to the consequences of your negligence, and if representatives, designees, or agents of the client are damaged by your negligence, you are likely to have legal liability for those damages, and your insurance is likely to respond.

You might ask yourself, nevertheless, whether you are willing to put your deductible on the line, undertake obligations with potentially serious consequences, and concede significant negotiating leverage in the event of a loss--all for the benefit of some third party with whom you have no contractual relationship, from whom you receive no consideration, and who you do not even know. Probably not.

Attorneys are overly fond of absolutes. Otherwise, they would stop using "of every kind, nature, and description" as if it were punctuation. Absolutes leave room for argument where clarity is the only appropriate goal. You know by now that where you have to be when your negotiations are over does not include "any and all" losses, nor does it include "claims, demands, actions, or suits." It includes only those damages for which you are legally liable.

Losses, liabilities, expenses, and costs are damages for which you could be legally liable if they are caused by your negligence. Even attorneys' fees may be construed to be damages in some states, and, where not, your limited contractual liability coverage may well respond. But claims, demands, actions, and suits, in and of themselves, are not damages, and the mere fact that they occur may or may not have anything to do with your negligence.

This is not a make or break proposition, either, but clarity of intent finds offense in these words and the absolutes which precede them. Best they be deleted.

This phrase is clearly at odds with one of the four characteristics of indemnity which counts no coup. Your responsibility under the common law ends with proximate cause (a direct consequence of your negligence), and your indemnification should end there too. This is chaff. It should not pass through your principled thresher.

Hold it! You are not in a position to assume responsibility for 100% of any loss to which you may have contributed in some way. Nor, absent negligence, are you willing to spring forward and start throwing money around in response to each and every allegation of wrongdoing that may come along.

You are not negligent until you are found by a court or forum of competent jurisdiction to have been negligent. It follows that you cannot insure against costs incurred by someone else as a result of mere allegations of negligence on your part. Even if you are found to have contributed to a loss through your negligence, your insurance will respond only to the extent of that contribution. The contribution of others is their problem, and the language of your agreement to indemnify should be as clear on this point as you are. Delete these words.

There is a serious omission here, and by now you know what it is. The word "negligent " is missing. Without it you will find yourself responsible, not just for losses for which you are legally liable, but for losses arising out of anything that might be related to the services you perform.

You can safely agree to accept responsibility for the consequences of your negligent performance, but only at great peril can you agree to accept responsibility for losses of any kind which may somehow be associated with your existence on earth. The distinction: Liability for losses which would not otherwise be yours. It is here that you will want to limit the scope of your indemnification agreement to the consequences of your negligence, and you can easily do so by inserting "negligent" in front of the word, "performance."

What about your agents and consultants? By virtue of your position in the line of fire, you may well be legally liable for their negligent acts, errors, and omissions under a theory of vicarious liability--just as the client may be liable for yours by virtue of having contracted with you in the first place. This explains the client's interest in your indemnity agreement. It also explains your insurer's interest in the Certificates of Insurance you obtain from your consultants, and it argues for passing the obligations you assume under your contract through to them. If you keep those obligations within the maximum limits of fairness, there should be no problem with this.

If you are willing to extend indemnification for your negligence (harm inadvertently caused), why is it unfair to extend indemnification for harm intentionally done? This is presumably something you can control, and the case from your client's point of view would seem more compelling for intentional harm than for negligence.

Your reluctance is due to the absence of insurance for either damages or defense costs arising out of harm intentionally caused, but that will not be persuasive to your client. Any argument you might have against indemnification for willful misconduct probably must spring from the general unfairness of wild western courtrooms, where anyone can sue for anything and say the most outrageous things in the process of doing so. You might frame your argument like this:

"I cannot pay all the bills to support the vagaries of the legal system we have in place. I buy insurance for the bulk of my risk, but if some cockeyed plaintiff alleges that I practice my sacred trust in a way to intentionally hurt another as a tactic to embarrass me or pressure me into an unjustified settlement, I decline to compound my problem by taking on the cost of defense of clients, their officers, directors, employees, agents, designees, friends, acquaintances, and playmates of their children. That plays into the hands of the unscrupulous who would claim intentional harm to gain a choke hold on me. If you think I would intentionally harm another soul, then we have a great deal more talking to do. Sorry, but there are limits. This is one of them."

Copyright infringement is one of those wrongs needing no proof of intent, negligence, or any evil behavior save the infringement itself. So are trade secrets and patents. This is truly a problem. There is no place where the borders of anyone's copyright or trade secrets are recorded. One can register a copyright, but it is not necessary to do so in order to claim one. Patents are registered, but you are neither qualified, nor compensated to conduct the legal research which would be necessary for the peace of mind your client would have you guarantee.

Clients can easily argue that, if there is infringement, the loss should not fall on them. They did not infringe--you did. Your argument is this: Where rights are vague and their limits nearly undiscoverable until the court decides who is on the wrong side of them, defending against an allegation of infringement is an everyday risk for everyone. It is not a risk you can reasonably control, and it is not one you can reasonably be expected to assume. Moreover, it may be excluded from coverage under your professional liability insurance policy. Whether it is or not, you will want to delete this obligation. Indemnification for your legal liability arising out of your negligence is the most you can reasonably concede.

Negligence may be difficult to prove, but breach of contract is not. To establish a breach, all an client need do is prove that 1) you owed a duty to perform under your agreement, 2) you breached that duty, and 3) damages were sustained as a result. This is your client's fall back position in the event negligence turns out to be impossible to establish. It is also your invitation to the client to sue you at your expense.

There is great leverage in this, and it flows in a single direction--from you to your client. Your client sues you for breach of contract, and you pay the associated attorneys' fees and costs. Arguably, this is inconsistent with public policy. Public policy generally demands mutuality as a matter of equity where there is an agreement by one party to pay the attorney's fees of another regardless of the outcome of a dispute between the two.

Attorney's fees are the only issue here, for if you are found to have breached your contract, there is a remedy for that in the law. As far as you are concerned, it is neither necessary, nor is it appropriate for you to add your indemnity to that remedy. Absent negligence, your indemnification for breach of contract may be uninsurable; absent mutuality, it is unfair. Delete this language if you can.

If you encounter sustained resistance, you might invoke the public policy argument and propose, as an alternative, to substitute language elsewhere in your agreement calling for the non-prevailing party to any dispute to compensate the prevailing party for costs of defense. There is leverage in this for you, but there is also some risk. Seek the advice of counsel before you pursue this strategy.

You cannot possibly know or even come to know all of the laws, codes, ordinances, and regulations which may somehow have a bearing on your project. Nor, within a standard of usual and customary professional care, is it necessary that you do. Even those you must know about contain inherent conflicts, and they require the exercise of professional judgment in their application to the unique circumstances surrounding each and every project you undertake. Judgments are made, but certainty is unavailable.

This obligation has no place in an indemnity provision. Delete it here. If you must address it elsewhere in your agreement, well and good, but keep this in mind: The most you can reasonably concede is to agree to exercise usual and customary professional care in your efforts to comply with the law.

This applies to all laws, codes, ordinances, and regulations, but it is particularly applicable to the Americans with Disabilities Act and the regulations which have been drafted to implement it. Whether your interpretation of the requirements of this far reaching legislation are accurate or not will depend on legal battles not yet fought. They will be civil rights battles, and coup will be counted on the fields of others. You will have no safe place there unless your responsibility begins and ends with the consequences of your negligence.

Never mind that it may be permissible under the law in most states. You know by now that it is neither reasonable, nor insurable for you to assume 100% of the liability for losses for which you may be only partially responsible. Nor does the distinction between active and passive negligence fall within the boundaries of reason. You cannot insure against the risk that your client may contribute to a loss, regardless whether actively or passively, but your client can. Best you delete these words and leave this risk where it belongs.

In the final analysis, how far can you reasonably go in your agreement to indemnify? Not very far, and certainly not beyond the protection afforded under your professional liability policy. Here is the product of an acceptable revision to the unacceptable provision with which we started:

The Consultant shall hold harmless and indemnify the Client, its officers, directors, and employees from and against losses, liabilities, expenses, and costs, including, without limitation, attorney's fees and costs, caused by the negligent performance of services under this Agreement.