Worth the Risk?

A utility contractor faces potentially significant hazards when it accepts the contractual obligation to indemnify a party. It is not uncommon for a utility contractor to fail to properly understand either the complete scope of an indemnification provision or the extent of the financial risk it is allocating to itself via an indemnity provision.

A utility contractor faces potentially significant hazards when it accepts the contractual obligation to indemnify a party. It is not uncommon for a utility contractor to fail to properly understand either the complete scope of an indemnification provision or the extent of the financial risk it is allocating to itself via an indemnity provision. There are various forms of indemnification provisions of which contractors should be aware. Each imposes liability under different circumstances and may or may not be enforceable in a construction setting, depending on state law.

Further, utility contractors may also fail to understand or properly value a contractual requirement to place the other party on its insurance policy as an additional insured. Utility contractors should strive to better understand the risks and costs associated with indemnification provisions and additional insured provisions. A better understanding of these risks and costs will allow the contractor to properly incorporate risk allocation into their valuations and make better informed decisions before entering a contract.

Three Types of Indemnity Provisions

To better understand indemnity provisions, it is helpful to break such provisions down into three general categories: limited form indemnity, intermediate form indemnity and broad form indemnity. In limited form indemnity provisions, the party providing indemnity (the “indemnitor”) indemnifies the party receiving indemnity (the “indemnitee”) only to the extent that losses are the indemnitor’s fault. These losses typically encompass bodily injury and property damage. In essence, each party accepts the responsibility for the losses attributable to their own actions. A utility contractor providing this type of indemnity is generally offering less indemnity and therefore accepting comparatively less risk.

In intermediate form indemnity provisions, the indemnitor indemnifies the indemnitee if the indemnitor is either solely or partially at fault. In other words, a utility contractor offering this type of indemnity accepts liability arising from the other party’s actions, so long as the other party can show that the utility contractor also is at least partially at fault. A utility contractor providing this type of indemnity is generally accepting a higher level of risk than those providing limited form indemnity — but, as in a limited form indemnity scenario, does not bear the risk when the other party is exclusively responsible for the loss.

Broad form indemnity provisions provide the most exposure to an indemnitor. The indemnitor indemnifies the indemnitee regardless of which party is at fault. The indemnity obligation shall arise even if the losses are the result of the other party’s sole negligence. A utility contractor providing this type of indemnity is accepting the entire risk of any loss. Knowing what type of indemnity you are offering, and the risks being covered, is essential to properly understanding and weighing contractual risk.

But Are They Enforceable?

Different states have differing laws regarding the enforceability of various types of indemnity provisions. Contractors that are considering working across multiple states, in particular, should be careful to confirm whether the indemnity provision it is considering is valid and enforceable. This is in part so the utility contractor may better understand the allocations of risks in their contracts and also because an indemnity provision may become uninsurable if the indemnity provision is void or any portion of it is unenforceable.

Generally, there are no state statutes that limit the enforceability of unambiguous limited form indemnity provisions — provisions in which the contractor is indemnifying losses only to the extent those losses are caused by the contractor’s negligence. However, in certain contracts, if an indemnity provision allocates increased liability to a contractor where the other party is partially or exclusively responsible for the loss, there is a greater possibility in some jurisdictions that the provision will be considered void and
unenforceable.

For instance, broad form indemnity provisions in construction contracts (in which the contractor indemnifies against losses that are either partially or entirely the fault of the other party) are restricted in a large majority of states. In fact, all but six states have some restriction on broad form indemnity provisions. A small majority of states also restrict intermediate form indemnity provisions — those provisions in which the construction contractor indemnifies against all losses when the parties share fault. In sum, there are numerous differences between state lines that utility contractors must consider to determine the validity and enforceability of an indemnity provision.

Contractors that are considering working across multiple states, in particular, should be careful to confirm whether the indemnity provision it is considering is valid and enforceable. The Additional Insured Wrinkle

A contractual requirement to add the other party or owner as an “additional insured” is also commonplace for utility contractors. An additional insured provision requires the contractor to add the other party to its commercial general liability (CGL) policy, subject to the terms and conditions of the CGL policy and an additional insured endorsement. Requiring a contractor to add it as an additional insured serves as a possible workaround for a party that would like coverage for its liabilities but cannot get the indemnity it seeks because of state law. By doing so, the other party is again — though not through an indemnity provision — shifting the financial responsibilities for claims against them onto the contractor. They are requiring the contractor to pay higher insurance premiums when a loss is covered under the CGL policy.

Much like state law governing the validity and enforceability of various types of indemnity provisions, state law differs greatly regarding the validity of additional insured provisions. Some states may expressly or implicitly allow such provisions — either by statute or by case law. However, some states have expressly rejected the use of the Additional Insured provision when the same loss could not have been shifted via the contract’s indemnity provision. For instance, the Texas Anti-Indemnity Act specifically voids a construction contract’s additional insured provision to the extent that the provision requires coverage of the additional insured’s negligence.

The indemnity provisions of a contract are complex on a number of levels. These provisions should nonetheless play an important role in a utility contractors’ valuation of a project. The nature of the indemnity obligation, the validity of the indemnification provision according to applicable state law, the requirement to add a party as an additional insured and the enforceability of such a provision are all critical elements of a contract’s risk allocation. A prudent utility contractor should be sure to understand a contract’s risk allocation mechanisms, analyze and value the allocation of these risks and factor these valuations into its business decisions.

Taimur Rabbani, Esq., and Anthony J. Marchese, Esq., are Associate Attorneys at O’Riordan Bethel Law Firm LLP. They focus their practices on government contracts, commercial construction and negotiation and litigation of complex contractual matters.

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