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Op-Ed: Drafting Fair and Reasonable Construction Subcontract Clauses

August 21, 2018

Overview

Now that the construction market is booming, many subcontractors are pushing back on some of the more burdensome subcontract clauses – specifically, general indemnification clauses that require subcontractors to “defend, indemnify and hold harmless” a general contractor from lawsuits, disputes, injuries, property damage, claims, demands … and the list goes on and on. Consider the following tips intended to help general contractors understand subcontractors’ concerns regarding indemnification, and draft and negotiate fair and reasonable indemnification clauses.

What is the proper scope of an indemnity obligation?

The purpose of an indemnification clause is to contractually shift the liability and financial burden for damages suffered by a third party to the party that is at fault. Many indemnification provisions we have seen will take this too far and attempt to shift all financial burden and liability to a subcontractor regardless of fault – including instances when the general contractor is solely at fault.

Many states, including Oregon and Washington, have enacted laws prohibiting a general contractor from requiring a subcontractor to indemnify the general contractor for damage caused “in whole or in part by” the general contractor. Thus, if a general contractor’s subcontract currently requires its subcontractors to indemnify it from “any and all claims or disputes arising from general contractor’s sole negligence,” it will not be enforceable.

A simple general indemnity could be: “Subcontractor shall indemnify, defend and hold harmless General Contractor from any third-party claim or damage for personal injury and/or property damage arising from the negligence or willful misconduct of Subcontractor.”

Note that there are other more narrowly-tailored indemnification clauses in most subcontracts that relate to hazardous waste, intellectual property infringement, claims of lien, or other specific issues or disputes that might arise on specific types of projects. The foregoing information relates to “general” indemnification clauses – not those narrowly tailored and specific indemnifications.

A “mutual” indemnification does not have to be so bad

Many subcontractors are asking for a mutual indemnification obligation from general contractors – they want the same indemnification benefit the general contractor is receiving. Many general contractors might balk at even the notion of a mutual indemnification. The issue, however, is that in today’s market, some subcontractors have the upper hand because there is more than enough work to go around. They have the luxury of telling a large general contractor “no” if that general contractor is not willing to concede on a reasonable or mutual indemnification provision.

We have seen this dynamic play out a lot recently. To keep subcontractors from walking, consider a mutual indemnity provision. At the end of the day, a mutual indemnification clause will simply mean that each party is accepting risk for its own conduct – a principal both parties can typically support. A reasonable mutual indemnity could even be proposed in standard subcontracts to demonstrate the firm is fair and reasonable.

Insurance coverage often a concern for subcontractors

When evaluating an indemnity obligation, subcontractors typically consider their level of insurance coverage, knowing that the obligation may be insurable. This is an important consideration for general contractors as well. For example, an indemnity claim based on a subcontractor’s negligence is often insurable; however, a claim based on a subcontractor’s intentional misconduct or breach of contract is not. For this reason, it is important for both parties to consider the subcontractor’s financial health and the potential effect of an indemnity claim that may not be covered by insurance.

General indemnification provisions do not have to be deal killers in subcontracts. The purpose of an indemnity should be to shift the financial burden and liability to the party that is actually at fault. It should not be used as a sword to put a subcontractor in a position where it must consider bankruptcy because it cannot afford an onerous indemnity obligation. Then nobody wins. Indemnity obligations should be drafted in such a way that you could live with if it were mutual.

The best practice is to consult one’s attorney regarding any changes or proposed changes to subcontracts, so he or she can evaluate the impact of changes to the overall contract. Additionally, it is never a bad idea to have an attorney review contracts every couple of years to ensure that they are up to date with the ever-changing law and any exposure to the company can be evaluated.

Column first appeared in the Daily Journal of Commerce on August 21, 2018.

The information in this article is intended for informational purposes only and is not intended to serve as legal advice regarding specific matters nor should it be construed as a legal opinion. Use of this material does not establish an attorney-client relationship between you and Schwabe, Williamson & Wyatt. The information should not be used to replace the advice of a licensed attorney.

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