Puzzling Out the Laws

Construction contracts routinely contain indemnity agreements. These agreements are essentially a promise: One party (the indemnitor) agrees to defend, indemnify, or hold harmless another party (the indemnitee) for acts or omissions relating to the construction project.

Prior to the enactment of anti-indemnity statutes, general contractors (indemnitees) would routinely require subcontractors (indemnitors) to add the general contractors as additional insureds on their commercial general liability (CGL) policies and promise indemnity even for the indemnitees’ own negligence. Such an agreement was a “take it or leave it” scenario—agree to the indemnity provision or leave without the job. In addition to the inequities created, most southern state legislatures have declared that certain types of indemnities not based on fault are against public policy and invalid. Several southern states have also determined that providing additional insured coverage for the general contractor’s own negligence is also against public policy.

States treat indemnity agreements in one of the three following ways:

1. The state does not have an anti-indemnity statute.
2. The state has an anti-indemnity statute that prohibits an indemnitor from indemnifying an indemnitee for the indemnitee’s sole negligence.
3. The state prohibits an indemnitor from indemnifying an indemnitee for any of the indemnitee’s own negligence, sole or partial.

The Construction Contract

The construction anti-indemnity statutes apply only if the contract is a “construction contract” as that term is defined. Most of the southern jurisdictions broadly define the term “construction contract.” For example, the New Mexico legislature defined “construction contract” to mean:

“‘...a public, private, foreign or domestic contract or agreement relating to construction, alteration, repair or maintenance of any real property in New Mexico and includes agreements for architectural services, demolition, design services, development, engineering services, excavation or other improvement to real property, including buildings, shafts, wells and structures, whether on, above or under real property.”

NMSA 1978, § 56–7–1(E) (2005).

Scope of Indemnity Permitted

Fifteen states have enacted legislation for construction contracts that prohibits broad form indemnity agreements—i.e., indemnity agreements that purport to indemnify a person against their sole negligence. In other words, if the indemnitee is 100% at fault, an indemnification agreement purporting to indemnify the indemnitee will be held invalid. However, such an indemnification agreement in a construction contract is valid so long as the indemnitor is at fault to any degree, even 1%. Arkansas falls within this group.

Twenty-eight states have enacted broader legislation barring indemnity for both sole and partial negligence. In these states, the indemnitor cannot be held liable for the indemnitee’s negligence, no matter what the degree. Louisiana, Oklahoma, New Mexico, and Texas fall within this group. These states have determined that it is against public policy to require a non-negligent party to be responsible for an act or omission for which it was not at fault. The concern is that an indemnitee may not act as carefully if it knows it might not be responsible for its liability.

Additional Insureds

Parties to a construction contract can also transfer risk by agreeing that one party (usually the subcontractor) will name the other (typically the general contractor) as an additional insured on its CGL policy. Additional insured status provides rights to the general contractor under the subcontractor’s insurance coverage.

General contractors operating in states that prohibit one party from indemnifying another party for that party’s negligence may try to circumvent the prohibition on indemnification for one’s own negligence by requiring the subcontractor to name the general contractor as an additional insured on the subcontractor’s insurance policy. This strategy is based on the concept that additional insured coverage is different from indemnity and that agreements to procure insurance will not be subject to limitations otherwise applicable to indemnity agreements.

While Arkansas is one of the states that precludes only broad form indemnity provisions, Arkansas’ statute expressly provides that an agreement within a construction contract to name a party as an additional insured does not violate the statute.

In addition, of the 28 states that prohibit indemnity for sole and partial negligence, 18 include an insurance “savings” clause, establishing which types of insurance contracts are saved or not affected by the anti-indemnity statute.
Of these 18 states, 10 of them have express restrictions in their anti-indemnity statutes on clauses requiring a party to provide coverage for the additional insured’s negligence. New Mexico, Oklahoma, and Texas fall within this group. Oklahoma and New Mexico have anti-indemnity statute exceptions relating to project-specific insurance.

Duty to Defend

Another issue that arises with anti-indemnity statutes is how the statutes impact a party’s and insurer’s duty to defend. A few statutes specifically provide that an agreement to indemnify or defend another for its own negligence will be declared unenforceable as against public policy. However, other statutes do not specifically address the obligation to defend as part of an agreement to indemnify.

The duty to defend is separate and distinct from the duty to indemnify, with the duty to defend being broader in three ways:

1. The duty to defend generally extends to every claim that arguably falls within the scope of coverage.
2. The duty to defend one claim usually creates a duty to defend all claims.
3. The duty to defend typically exists regardless of the merits of the underlying claims.

Because the duty to defend is distinct from an indemnification obligation, it is possible that the duty to defend can survive even when an indemnity agreement is struck down as violating an anti-indemnity statute. However, depending upon the language of the specific statute, there may be a valid argument that the subcontractor or subcontractor’s carrier has no duty to defend the general contractor when the general contractor is being sued for its own negligence because this would be in violation of the statute’s prohibition of no defense of the general contractor’s own negligence.

Common Law Requirements

If a construction contract is valid under a state’s anti-indemnity statute, or falls within a statutory exception (e.g., employee injury in Texas), the construction contract may still not be enforceable if the indemnity provision does not meet common law requirements. For example, prior to the Texas anti-indemnity statute, a contractual indemnity clause providing for broad or intermediate form indemnity had to satisfy the two subparts of the Fair Notice Doctrine: the express negligence rule, and the conspicuousness test. The intent of the Fair Notice Doctrine is that the indemnitor is put on notice that it is agreeing to indemnify the indemnitee for its own negligence.

The express negligence rule provides that parties seeking to indemnify the indemnitee from the consequences of its own negligence must express that intent in specific terms. Ethyl Corp. v. Daniel Constr. Co., 725 S.W.2d 705, 708 (Tex. 1987). The intent of the parties must be stated within the four corners of the contract.
The conspicuousness test mandates that the indemnity clause appear on the face of the contract so that it attracts the attention of a reasonable person when viewed. Dresser Indus., Inc. v. Page Petroleum, Inc., 853 S.W.2d 505, 508 (Tex. 1993). This requirement can be met by a heading being printed in capital letters or by text printed in larger or other contrasting type (e.g., bold print).

Construction Claims Seeking 
Defense and Indemnity

When a new claim comes in from a subcontractor for its general contractor’s indemnity and additional insured claim, the claims professional should engage in the following analysis: First, the professional should determine which state law applies to the contract and policy (possibly multiple states). Next, the professional should evaluate if the contractual provision is valid under the applicable state’s common law (e.g., the Fair Notice Doctrine under Texas law).

The professional should then determine if the state’s anti-indemnity statute is applicable, i.e., whether or not the contract was entered into after the statute’s effective date. Then, the professional should determine the validity of the indemnity provisions under the state’s anti-indemnity statute, including the applicability of any exceptions/exclusions (e.g., single-family homes in Texas or project-specific insurance in Oklahoma) and severability.

After that, the professional should assess the existence, scope, and validity of the contract’s additional insured provision (including primary/non-contributory language). Finally, the professional should assess the availability and scope of the additional insured coverage under the policy’s terms to determine the carrier’s exposure. Following such steps will ensure a thorough evaluation of the validity of any such indemnity and additional insured claims.