Part 2: Indemnification Clauses | Key Takeaways in 2021 Construction Contracting

Construction workers on site

As the end of 2021 draws near, we continue to reflect on the notable contract provisions we encountered throughout the year. While no one can predict for certain what 2022 has in store, it’s worth taking a few minutes to review trending issues and lessons learned so we can begin the new year with a broader understanding of risk allocation and payment safeguards. Given that the issues of 2021 will likely continue into 2022, including tightening budgets, unpredictable supply chains and labor markets, and the lingering pandemic, now is the time to take a hard look at the indemnification clause.

So, without further ado, our countdown continues with Part 2 of our four-part construction contracting series, where we will examine the indemnification clause, an often misunderstood and underutilized tool for shifting risks and obligations to another party.

What Is an Indemnification Clause?

Indemnity clauses are common in construction contracts and require one party to indemnify (i.e., defend, hold harmless, and reimburse) the other party to the contract against certain expenses and losses. Sometimes an indemnity clause may require the indemnitor to indemnify other third parties outside of the contract. For example, a general contractor may be required to indemnify the owner as well as the architect, even though the architect is not a party to the agreement between the owner and general contractor. Quite simply, an indemnity clause shifts risk from one party (the indemnitee) to another (the indemnitor).

What Does an Indemnification Clause Look Like?

Indemnity provisions vary greatly from construction contract to construction contract, but they are usually identified as one of three categories: “broad form,” “narrow form,” and “intermediate form” indemnification clauses. At one end of the spectrum, under the broad form indemnity category, the indemnitor agrees to be liable for all damages incurred by the indemnitee, even where the indemnitee’s own negligence caused the damage. At the other end of the spectrum, often referred to as a narrow form indemnity provision, the indemnitor agrees to be responsible only for losses or harm it actually caused. An intermediate form indemnity clause lies somewhere in the middle, like when the indemnitor is not bound to indemnify for the indemnitee’s sole negligence but is bound to indemnify for all damages to which it partially contributed, even when its contribution was minor.

The following are examples of broad form, narrow form, and intermediate form indemnification clauses: 

  1. Broad Form Indemnity Provision: Subcontractor shall defend, indemnify, and hold harmless the Contractor from any claims, damages, and losses arising out of the performance of this Contract.
  1. Narrow Form Indemnity Provision: Subcontractor shall indemnify the Owner for damages arising out of the performance of the Work, but only to the extent caused by the negligent acts, errors, or omissions of the Subcontractor.
  1. Intermediate Form Indemnity Provision: The Contractor shall indemnify and hold harmless the Owner for all damages, losses, or claims that arise as a result, in whole or in part, from the negligence, error, omissions, or failure to perform by the Contractor, his employees, or his agents.

The interpretation and enforceability of the example provisions above are dependent on the law of the jurisdiction controlling the construction contract.

When Are Indemnification Clauses in Construction Contracts Enforceable?

Most states have enacted anti-indemnity statutes that restrict, modify, or prohibit certain types of indemnification provisions in construction contracts. However, rules as to the enforceability of indemnification clauses vary significantly from state to state and differ based on contract type.

As an example of how anti-indemnity statutes can differ from state to state, consider Colorado’s statute alongside Idaho’s statute. Under Colorado’s narrow form anti-indemnity statute, an indemnitor in a construction contract cannot be held responsible for damages caused by the indemnitee or by the indemnitee’s agents. Colorado Revised Statute § 13-21-111.5(6). Further, where the indemnitor is partially responsible for damages, the indemnitor is only responsible for the percentage of fault attributed to it or to its agents and subcontractors. The Colorado anti-indemnity statute applies across multiple construction contracts, including contracts on public and private projects and contracts to design, plan, or supervise construction projects, with a few express exceptions including property owned or operated by railroads or water and sanitation districts.

In contrast, Idaho’s intermediate form anti-indemnification statute only prohibits agreements to indemnify the indemnitee against liability for damages arising out damage caused by or resulting from the indemnitee’s sole negligence or the sole negligence of its agents or employees. Idaho Code § 29-114. Under the Idaho anti-indemnity statute, an indemnitor’s responsibility to pay where several parties contribute to damages is not apportioned based upon the indemnitor’s contribution to the damages. Thus, an indemnitor who has agreed to indemnify the indemnitee for damages resulting, in part, from its own negligence, may be required to pay all damages, even if it only caused a small percentage of those damages.

Unlike Colorado and Idaho, a small handful of states lack anti-indemnity statutes entirely, including states like Alabama, Maine, North Dakota, and Vermont. Where there is no judge created law saying otherwise, in these states, broad form indemnity clauses may be permitted.

There are no uniform rules governing indemnification clauses across the country, and the law can vary significantly from one state to the next. Thus, it is important for contractors and subcontractors that perform work in different jurisdictions to review and understand the anti-indemnity statutes that apply in each state where they are performing work.

How to Effectively Use Indemnification Clauses in Construction Contracts

In 2021, more than ever, it was important for contractors and subcontractors to identify risks on their project and effectively utilize indemnification clauses, along with other contractual tools, to mitigate such risks. In 2022, ideally, parties will determine what expenses and losses each party is in the best position to control, and then shift risk accordingly.

To that end, here are a few quick tips to consider when faced with an indemnity provision:

  • Consider if you can financially bear the risk being transferred, and even better, whether the indemnity provision can be limited to transfer losses that are insurable. For example, an indemnity provision that seeks to shift the loss of injury or property damage on site can be mitigated by obtaining coverage for such losses through a commercial general liability policy. Be cautious about agreeing to an indemnification clause that shifts risks not covered by your insurance and that you cannot financially bear yourself.
  • Similarly, ensure that parties providing indemnity to you have the financial means to perform their indemnity obligations.
  • Attempt to mirror or match the indemnity clauses for your upstream and downstream relationships to ensure the chain of privity is preserved, and you’re not left holding the bag.
  • Tie the trigger language of the indemnity provision to fault as opposed to the mere occurrence of a specified event.
  • When in doubt, seek advice from your legal team, as well as from your insurance agent, during negotiation of the indemnity provision.

When negotiating an indemnity provision, contractors and subcontractors should think carefully about the scope of the provision and the risks they are being asked to assume or asking another to assume. If thoughtfully drafted, indemnity provisions can be an effective tool to deliberately shift specific risks on a project, resulting in a more fair and economical sharing of costs. If ignored, however, they are fertile ground for taking on unintended costs and burdens. 

Up Next: Part 3

Stay tuned for Part 3, which we’ll publish on December 21, 2021. In Part 3, we’ll dive into COVID-19 Related Clauses.