In the “Good Ol’ Days” it used to be that a handshake was all that was needed to conduct business. Today’s environment, however, makes that difficult – if not impossible. Contracts have become more and more complex. Even so-called basic terms and conditions contain provisions that are often counter intuitive and which create liability that you may not have anticipated.
In this multi-part series, we will highlight some of the key contract issues for today’s business owners, including the following topics:
- Insurance Provision Pitfalls to Avoid
- Warranty Language – Does It Fit the Situation at Hand?
- Choice of Law and Choice of Venue – Why It DOES Matter
- The Real Implications of an Integration Clause
We begin the series with the indemnification clause.
As a business owner, the indemnification clause is one that you will encounter with increasing frequency. In the past, these clauses were relatively uncommon in contracts, but they have been forcing their way into contracts more and more often – and are now widely-considered to be a typical or normal provision.
But, What Exactly is Indemnification? And How Does it Affect Business Owners?
In its most basic terms, when you agree to indemnify a person or entity, you agree to protect or restore that person or entity against a specified loss that they may suffer. You essentially step into their shoes. This protection or restoration comes through payment by you – perhaps from your applicable insurance policy – and may also include the repair or replacement of damaged goods or property. Most commonly, indemnification entails Party A agreeing to pay Party B for any losses or damages Party B may suffer (including perhaps the legal fees and costs) if Party B is sued for certain identified circumstances – or sometimes, for any reason.
In this sense, indemnification can best be thought of as a risk-shifting device, where one party agrees to shift the risk of litigation or other loss to the indemnifying party. One example is a commercial lease agreement in which the renter is asked to agree to indemnify the landlord if a third-party sues the landlord because of an incident that occurred on the property, such as a trip-and-fall accident by a visitor.
What are Some Key Features of an Indemnification Clause?
Typically, these clauses will contain phrases containing the words “to hold harmless” or “to secure against loss or damage.” They are usually a standalone provision within larger contracts or terms and conditions, and are usually labeled conspicuously.
Beware of the Obligation to “Defend”
When reviewing indemnification clauses, look for any language imposing an obligation to “defend.” This obligation – created with just a single word – expands the indemnification obligation by requiring that you begin paying the other party’s legal fees from day one of any claim – most notably, before there has been any final determination of liability. In other words, you may end up footing high legal fees and costs for another party that was acting negligently, even if you have done nothing wrong. This is just one example of the risk-shifting power of indemnification.
Scope vs. Length
When it comes to reviewing indemnification clauses, scope – rather than mere length – is the most important thing to consider. A very short, yet broadly-worded indemnification clause may place you at a greater risk of loss than a long, narrowly-tailored clause that addresses very specific scenarios. A specifically tailored indemnification clause, which fairly apportions liability for conduct that may occur in the business context at hand, may not be unreasonable.
Key Questions to Consider
We recommend asking yourself a few key questions: First, “does this indemnification clause instill an obligation upon me that is greater than what the law already provides?” That is, is this provision putting me “on the hook” for something I’m already on the hook for – or does it create a new obligation? One example would be if you were asked to provide indemnification for another party, even if the other party was negligent. This goes beyond any duty generally imposed to you under governing law, and is something to watch out for.
The other critical consideration is, “have I created liability for myself that goes beyond the scope of my insurance coverage?” It is exceptionally important for you to be familiar with the terms and scope of your own insurance coverage in order to evaluate liability.
Before you sign any contract with an indemnification provision, get the assistance of a business attorney with experience in contract review to be sure you are informed about the risks and obligations you are being asked to take on. They may be more than you bargained for!