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Understanding Defense, Indemnification and Coverage Clauses in Subcontractor Agreements

Nearly every subcontractor agreement used in the construction industry contains defense, indemnification and coverage clauses. These clauses are extremely important for the protection of the general contractor, yet most contractors do not understand how these provisions work.

In fact, many contractors use the terms defense, indemnification and coverage interchangeably, when in reality they are different legal provisions. Here is an overview of the mechanics of defense, indemnification and coverage clauses in a construction contract.

Indemnification

An indemnification clause, or hold harmless agreement as it is otherwise known, is essentially an agreement wherein the subcontractor accepts the obligation to pay the contractor (or anyone else named in the clause) for any future liability that might arise. It is common for a subcontractor to agree to indemnify the general contractor for the subcontractor’s own liability, not the liability of the general contractor.

That being said, some contracts include very broad indemnification clauses that seek to have the subcontractor indemnify the general contractor for any liability “arising out of” the subcontractor’s work. Depending on the state, such overbroad provisions might not be enforceable. An indemnification provision can include payments of actual damages to a third-party, defense costs and attorney’s fees. One main key to indemnification is that the provision generally does not kick in until money, in the form of a settlement or judgment, is due and owing.

Duty to Defend

The duty to defend is not the same as an agreement to indemnify. A duty to defend requires the subcontractor to actively defend the claim or lawsuit. In other words, the contractor would “tender” its defense of the claim to the subcontractor who would be required to obtain and pay for counsel to actively defend the claim. Defense and indemnification clauses are oftentimes included in the same clause but the obligations are able to be separated by the courts.

To further clarify the distinction, if a contractor has a defense and indemnification agreement with a subcontractor, and a lawsuit arises, the subcontractor would have to hire a lawyer and assume the defense of the contractor. If a judgment is awarded, the subcontractor will also be obligated to indemnify the subcontractor and pay the judgment. In the event that the case is successfully defended and no settlement or judgment exists, the subcontractor would have nothing to indemnify, but would have still paid for the defense of the case.

Coverage

Insurance coverage is thought of by many contractors as part of the defense and indemnification trifecta. Coverage issues often get lumped into defense and indemnification agreements when, in fact, they are completely separate agreements. When a contractor requires a subcontractor to provide insurance coverage and to name it as an additional insurance under the subcontract’s policy, the contractor is actually obtaining coverage under the policy.

Insurance coverage is separate from the subcontractor’s contractual obligation to defend or indemnify the general contractor. The insurance coverage gives contractors separate recourse in the event of a claim. Of course, the terms, conditions and exclusions of the subcontractor’s insurance policy will apply to the general contractor.

For example, most insurance polices exclude coverage for work product. If a claim is brought against the general contractor for the shoddy workmanship of the subcontractor, the subcontractor’s insurer would likely deny coverage to both contractors on the grounds that work product is excluded under the policy. However, if the general contractor also had defense and indemnification clauses, the subcontract could still be obligated to provide a defense and/or indemnify the general contractor.

General contractors can limit their liability from negligent subcontracts by understanding and properly including defense, indemnification and insurance coverage clauses in all subcontractor agreements. Subcontractors need to be aware of the obligations that these provisions create and take steps to avoid negligent acts or omissions.

Finally, defense, indemnification and insurance coverage clauses must be properly drafted in order to be enforceable. It is always a wise decision to have an attorney draft or review all construction contracts.

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