Uninsurable Contract Provisions in Client-Drafted Agreements: Indemnification Clauses

If you handed me a client-drafted professional services agreement and gave me only two minutes to assess its insurability – please don’t do this; good contract reviews take time – I’d immediately flip to the indemnification clause.

I’d expect to unearth a host of risks which the design professional cannot control and for which they lack professional liability insurance coverage. The language that often sparks the fiercest battle is a “duty to defend,” e.g., “Design Professional will indemnify and defend Client…” 

This single word obligates the design professional to pay the client’s lawyers and legal costs at the moment a third-party claim arises, whether or not the design professional turns out to have been negligent in the performance of their professional services. This contractual promise is not covered by professional liability insurance, so the design professional is left to fund this potentially staggering expense with their own assets.

Let’s review some of the arguments that clients typically advance in support of this contract language and identify some talking points you might deploy the next time you need to defend your firm against a duty to defend.

If your negligence results in a third-party claim against me, you should pay for my defense. The concern is that the client will end up bearing the financial burden of defending the project’s design, but reality is otherwise. If a third party’s lawsuit against the client implicates the project’s design, the design professional will almost certainly be drawn into the fray; they will either be sued by the third party or by the client via a third-party action. When that happens, the design professional’s professional liability insurer will mount a vigorous defense of the design professional and its design. Although the insurer will not provide a defense to the client, the defense provided to the design professional will help the client defeat claims alleging negligence in the design.

Whether or not you have insurance coverage isn’t my problem. It may not seem to be, but it is. Few design firms have the financial wherewithal to fund a client’s defense in a protracted litigation or arbitration. The protection that the defense duty seems to offer the client may well be illusory.

The contractor is OK with agreeing to defend me. The contractor can add the client as an additional insured on their commercial general liability (CGL) policy, thus entitling the client to a defense under certain circumstances. The design professional can likely do the same on their CGL, but professional liability insurers will not agree to add the client or other entities who are not part of the insured firm as an additional insured on their policies.

Other design professionals have agreed to this provision. They don’t have insurance that covers the client’s defense, either. This means that the client’s defense will be funded, if at all, by that design firm’s assets, which may well prove insufficient.

What contract clauses would you like to see discussed in this column? Please write me at kerger@lockton.com.