Business Indemnification Laws

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 What Is an Indemnification Clause?

An indemnification clause (also known as a “hold harmless provision”) is an agreement wherein one party agrees not to hold another party liable for legal causes of action in the future. Usually, only one party “indemnifies” the other party. It is fairly comparable to a liability waiver but may be more detailed. The indemnification arrangement may be a distinct agreement, or it may be embedded in a more complete contract (such as an equipment rental contract).

Indemnification, also called indemnity, is an implementation by one party (the indemnifying party) to pay the other party (the indemnified party) for specific expenditures and costs, generally those originating from third-party lawsuits. Indemnification can also cover direct claims, which are claims or causes of action that one contracting party has against the other.

Basically, in an indemnification clause, you are agreeing to insure or protect the other party against loss or reimburse them in case things don’t go exactly as planned. Indemnification clauses can be tailored to the specific needs of the parties in the contract. An illustration of an indemnification clause is where one party leases a bulldozer from another and arranges not to hold the other party responsible for any physical injuries sustained because of the use of the bulldozer during the rental term.

Before signing a contract with an indemnification clause, make sure that you read it very carefully. You may want to have a business attorney review the contract with you to be sure that you understand the legal consequences of signing the contract. The force of the indemnity clause really depends upon how it is worded, and every word counts.

You will want to ensure that the clause is phrased so that your obligation under the agreement is limited to your mistakes or misconduct. If the clause is phrased too broadly, it may create a responsibility you did not intend.

What Are the Features of a Standard Indemnification Clause?

A typical indemnification clause consists of two distinct and separate responsibilities: an obligation to indemnify and an obligation to defend.

The obligation to indemnify requires the indemnifying party to:

  • Reimburse the indemnified party for its expenses and costs
  • Advance money to the indemnified party for its unpaid expenses and costs, such as liabilities, claims against the company, and lawsuits

The duty to defend consists of both:

  • An obligation: The indemnifying party must repay paid defense legal fees and expenses, as well as to make advance payment for outstanding defense costs and fees, and
  • A right: The indemnifying party has the right to accept and retain the defense in the third-party lawsuit. Essentially, this allows the indemnifying party to choose the lawyer and run the lawsuit

What Are the Typical Restrictions on the Indemnifying Party’s Responsibility to Indemnify?

In a well-written contract, the indemnifying party’s duty to repay is limited to damages caused by covered events. Covered events are specific types of events that are listed directly in the indemnification clause. They can vary according to the particulars of the transaction and are subject to negotiation. The most common covered events are lawsuits involving breach of contract, negligence, and bodily injury or death.

Are Indemnity Clauses Enforceable?

As a general rule, indemnity clauses are enforceable. There are some exceptions – for example, a clause requiring one party to indemnify the other for any claim of loss, regardless of who is at fault, would likely not be enforceable, depending on your state.

Additionally, claims for losses that were unforeseeable or improbable as a result of a party’s breach or negligence may not be enforceable. The point of an indemnity clause is to protect parties against damages that are likely or foreseeable at the time of the contract.

When Is a Business Indemnification Clause Used?

Indemnification clauses are standard in many business contracts. Business indemnification clauses are commonly used to protect the executives of a company (like officers or members of the board of directors) from lawsuits brought by the company’s shareholders. In this case, the company indemnifies the officer or director. The company promises that if an executive is sued for something they’ve done for the company’s benefit, the business will take responsibility for the expense of defending that executive’s actions.

Indemnity clauses and indemnity agreements are common in construction contracts and in insurance. In construction contracts, the indemnity agreement attempts to protect the contractor from losses due to negligence. In insurance, an insurance company may agree to indemnify a property owner from losses or damage to the property – thus, the business owner transfers the risk of loss over to the insurance company.

They are also common in agreements that involve the sale of intellectual property rights. The seller of the intellectual property will often agree to protect the buyer against potential liability associated with a copyright infringement suit by a third party.

Is a Release Clause the Same as a Business Indemnification Clause?

Release clauses are not the same thing as business indemnification clauses. Release clauses are agreements in which both parties agree to give up their rights to file a lawsuit against each other over a breach of the contract. Usually, a release clause indicates other dispute-resolution options available to the parties they can use in lieu of a lawsuit, such as mediation, negotiation, or arbitration.

Is Having a Business Indemnification Clause a Good Idea?

Whether you need a business indemnification clause in your contract largely depends on the contract’s circumstances. This clause can be a large financial liability for a party who doesn’t have the resources to protect the other party from lawsuits, as required by the clause.

You will want to keep in mind your resources and finances when reviewing the contract and consider whether you and your company could fulfill the obligations outlined in the contract in a worst-case scenario.

Can I Avoid Having a Business Indemnification Clause in My Contract?

You never absolutely have to sign a contract. Any party to a contract can refuse to sign if it contains a clause they do not want in the agreement. You may be able to negotiate with the other party and have the contract rewritten so that it does not contain the clause or so that the indemnity clause is limited to costs and expenses you would be able to cover.
If you are not willing to sign a contract with a business indemnification clause, you will want to read the contract carefully and ensure there is no boilerplate language – many template contracts include business indemnification clauses.

Do I Need a Lawyer If I Have Questions About a Business Indemnification Clause?

Business indemnification clauses may be difficult to read and understand since they are usually written in legal language. If you have any questions or concerns about signing a contract, it is always a good idea to contact an experienced contract lawyer before you sign.

A lawyer can help you review the contract to make sure the provisions read as you intend and can explain your rights and responsibilities under the contract. A lawyer can ensure your potential liability is decreased by insisting that the contract contain a liability cap (a cap on the amount of money you could be liable for). Another example is if you indemnify someone else, you may want the indemnity clause to be limited to lawsuits founded on physical injuries.

A lawyer can help you determine whether having a business indemnification clause in your contract is in your best interests.

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