Indemnity: What’s the Big Deal?
I was in a deposition recently when the witness was asked to explain indemnity in his own words. Wow, I thought, that’s a question that few people outside the legal profession would be comfortable answering on the spot.
Q: What is indemnity, and why is it such a big deal? At its most basic, indemnity is the concept of protecting another person or company against damages it might owe to a third party. Think of it as an “I’ve got your back” contract. Let’s suppose the Got Your Back Corporation agrees to indemnify you. That means that if you are sued by a third party, Got Your Back Corporation (who in the contract will likely be called the Indemnitor) is agreeing to protect you from a lawsuit. Depending on how the indemnity agreement is written, Got Your Back Corporation may have to pay the legal fees you incur in your defense (referred to as the “defense” obligation), and any judgment you may owe to the person who is suing you (referred to as the “indemnity” obligation).
Q: When might you want an indemnity agreement? Indemnity is important when there is a risk of a third party potentially being injured or damaged and suing you. For example, if you install flooring in a building, and there is a risk that someone might slip and fall walking through the building, you might ask the building owner to indemnify you against claims by third parties who use that building. As another scenario, let’s say you are a building owner, and you hire a contractor who plans to hire subcontractors. You might want your contractor to indemnify you against lien claims that the subcontractors could file if the contractor does not make timely payments to them. Indemnity can come into play when you are brought into a lawsuit through no fault of your own – or you are blamed for someone else’s bad acts.
Q: My contract limits my liability. Why would I consider getting indemnity? Generally a contractual limitation of liability provision is binding on the parties who enter into the contract. A third party who is outside the contract, and who did not agree to limit your liability, can still potentially bring claims for their damages.
Q: What happens if I don’t have indemnity? The risks of not having indemnity can include paying an expensive judgment or settlement out of your own pocket. Even if you are not determined to be at fault, without indemnity protection in your contract, you could incur legal fees to defend yourself against a lawsuit that could last a year or longer. If you can pass that cost on to another party (usually the party who is most capable of preventing the injury or damage), it could be a significant benefit.
Q: Indemnity sounds great. But what if I can’t get anyone to indemnify me? Indemnity language is typically found in commercial contracts for the exchange of goods or services. It can be one of the most important benefits of a contract. However, if the person or company with whom you’re contracting won’t agree to indemnify you, you may be able to get liability insurance to protect you against the same risk. Or you can set aside money to cover potential claims until the statute of limitations expires.
Q: What is the difference between an indemnity provision and other common contract provisions?
- Your contract might contain “release” language. If Got Your Back Corporation were to release you from liability, you would only be protected from direct claims made by Got Your Back Corporation, but not claims by other third parties.
- Your contract might require Got Your Back Corporation to provide liability insurance naming you as an insured. That is certainly very helpful, but only as good as the insurance coverage provided under the insurance policy. For example, if the liability policy does not cover multi-family residential construction, and you are sued for liability arising out of constructing an apartment building, the liability insurer could potentially deny your claim.
Q: How does this work in an insurance context? Indemnity is similar to liability insurance that is provided by a person or company, rather than an insurer. When you make a claim on a liability insurance policy in Washington, the key benefits you’re looking for are (1) a defense (the insurer hiring a lawyer for you and paying them) and (2) indemnity (the insurer paying a settlement or judgment on your behalf). In Washington, it is easier to get an insurer on a CGL policy to provide a defense to you than it is to get an insurer to indemnify you because there are different factors the insurer is required to take into account in determining whether it must provide a defense. That’s a longer discussion under a different topic.
Q: What else should I keep in mind if I have indemnity protection in a contract? Indemnity is only as good as the financial condition of the Indemnitor. If Got Your Back Corporation ignores its indemnity obligations and doesn’t have any money — or shuts down its business, you may have to pay for your own defense and may be unable to collect on a judgment against Got Your Back Corporation for breach of the indemnity agreement. Think about whether Got Your Back Corporation will have the resources to indemnify you.
Q: Is there any specific indemnity language that I need for construction contracts in Washington? Indemnity clauses are often highly negotiated and should be closely scrutinized before signing. For example, does the indemnity clause require you to indemnify someone for all claims arising from your work, or only claims that are caused by negligence? In addition, Washington law restricts the language that can be included in indemnity agreements related to construction contracts. If your construction contract with Got Your Back Corporation requires Got Your Back Corporation to indemnify you against your own “sole” negligence, the indemnity agreement will be unenforceable. Review by an attorney who is familiar with RCW 4.24.115 is important when entering into an indemnity agreement related to construction in Washington.
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