No contract provision other than the payment clause may have more financial impact than an indemnification provision. Depending on its terms, contract indemnification could require a Contractor to pay all damages incurred by an Owner or Architect because of their negligent conduct, even where the Contractor is without fault. And that damage may include the legal cost incurred by the Owner or Architect defending their own wrongful conduct.
Not all indemnification provisions are that drastic, but many come close. The standard indemnification in the AIA General Conditions requires the Contractor to indemnify only if the Contractor, or someone it is responsible for, is negligent. But even under that provision, if the Contractor is found negligent in any degree, it must indemnify the Owner and Architect for all damages, including legal costs, even where the Owner and Architect were more negligent than the Contractor.
Despite the unfairness of an innocent party paying the damages and costs incurred by the party at fault, Massachusetts courts have consistently upheld the most one sided indemnification provisions on the theory that parties to a contract are free to assign the risk of liability among themselves any way they choose. The unstated assumption is that the party who assumes the risk can protect itself through insurance. While comprehensive general liability insurance may cover many indemnification possibilities, especially those involving personal injury, there may be elements of indemnification for property damage excluded from such coverage. And it may not be possible to insure against all potential indemnification liability arising from breach of contract, rather than negligence. Subcontractors are exposed to the same indemnity risks for their part of the work because most subcontracts incorporate the provisions of the general contract; and Massachusetts courts enforce indemnification provisions incorporated by reference just as if they were contained in the subcontract. However, Subcontractors have some statutory protection against the most extreme form of indemnification provisions that Contractors lack. Under Mass. Gen. Laws c. 149, §29C, a contract provision which requires a Subcontractor to indemnify anyone for damage not caused by that Subcontractor is void and unenforceable. Thus, a provision in the general contract that requires the Contractor to indemnify the Owner and Architect for damages irrespective of fault is enforceable against the Contractor; but that same provision, even though incorporated into the Subcontract, is not enforceable against the Subcontractor because it requires indemnification even where the Subcontractor is not at fault, which c. 149, §29C prohibits.
Liability imposed by contract indemnification may have far reaching, and often unexpected consequences. For example, a Contractor who thinks itself immune from liability to an injured employee because it provides workman's compensation coverage could find itself liable for both compensation and common law damages under an agreement to indemnify. An injured employee cannot sue its employer for damages beyond worker's compensation, but he or she can sue other third parties. If that injured employee sues the Owner, and the Contractor has agreed to indemnify the Owner against all claims and damages arising from the work, it is the Contractor who will end up defending the employee's lawsuit against the Owner and paying any resulting damages to the employee.
Another difficult feature of indemnification is the extended period of potential liability. Normally there is a six year period of limitation on claims arising from building construction that begins to run when the project is completed. But the period of limitation on a claim for contract indemnification does not begin to run until the party entitled to be indemnified incurs damages. Now suppose someone sues the Contractor in the sixth year after completion because of damage caused by some defect in the work of a Subcontractor who agreed to indemnify the Contractor; and suppose that person recovers a judgment against the Contractor four years later. In that circumstance, the Contractor could seek indemnification from the Subcontractor up to six years after the judgment. That Subcontractor could find itself defending a lawsuit asserting substantial indemnification damages against it, sixteen years after the project was finished. There are essentially three ways to limit indemnification exposur
. The first is through negotiation. One objective of any contract negotiation should be to resist agreeing to indemnify any party against that party's own wrongful conduct. It is fair to indemnify another for damages you cause. But it is not fair to be compelled to indemnify another against losses caused by that party's own wrongful conduct.
The second is through insurance. Verify with your insurance agent that any potential damages resulting from an indemnification provision in your contract is covered by your liability policy. If it is not, amend either the contract to delete the risk or the policy to assure the risk is covered.
And the third is through subcontract exposure. Make certain subcontracts you issue contain the same indemnification obligation you have assumed, and those subcontractors have insurance that covers their indemnification exposure. But Contractors must keep in mind that any indemnification provision requiring a Subcontractor to indemnify against damages not its fault is void and unenforceable. In that circumstance, the Contractor must rely exclusively on negotiations and insurance to protect itself.
When an unexpected event makes performance of a contract impossible or economically unfeasible, are you obligated to continue performing or are you excused from further performance? If you are not legally excused, then failure to perform is a breach of contract exposing you to substantial damages.
Whether performance is excused depends on the event that makes performance impossible or unfeasible, and whether that event was contemplated under the contract. If the event was so unusual and unexpected that the parties could not reasonably have foreseen it, and if it is unfair to place the risk of its happening on either party, then the Court may excuse further performance of the contract on both sides. On the other hand, if the risk that such an event could happen was one that the parties should reasonably have anticipated, or if the contract assigned that risk to one of the parties, then the Court normally would not excuse further performance. Known risks assigned by contract will not excuse performance no matter how disastrous the consequence of that risk. There are at least three levels of impossibility including:
Impossibility of Performance:
Where performance becomes physically impossible, further performance would
almost certainly be excused. For example, a roofing contractor would not be in
breach for failing to complete a roof on a building destroyed by fire through
no fault of his.
Frustration of Purpose:
Where the principal purpose of a contract is destroyed, further performance
would probably be excused, absent a contract provision to the contrary. For
example, the roofer who contracts to buy material for use on a building
destroyed by fire may be able to cancel that material contract. While the
purchase of roofing material is not rendered impossible by the fire, the
purpose for which the materials were contracted is impossible to achieve
through no one's fault.
Commercial Impracticability:
Where performance becomes so difficult or costly that the value of the contract
to one party is destroyed, continuing that performance to completion may be
financially impractical. However, despite severe economic consequences, further
performance may not be legally excused unless the direct cause of the
difficulty could never have been foreseen. Absent extraordinary circumstances,
losing money is not a legal defense to a breach of contract action.
Where performance is excused after work has begun, recovery will usually be allowed for the fair value of work actually performed, but not for lost profits on work not done as could be recovered in a breach of contract action. In a recent Massachusetts case, a General Contractor was permitted to cancel a material contract with a supplier because the owner unexpectedly deleted that material for the Project. The court ruled the owner's deletion wholly destroyed the purpose of the contract with the supplier, which excused further performance. The supplier was ruled entitled to recover for material supplied but not entitled to its profit on the remaining part of its contract that was cancelled.
In summary, unanticipated circumstances may excuse a failure to perform
contract work completely but only where:
(1) an unexpected event occurs without the fault of the party invoking the
defense;
(2) that event makes further performance impossible or so difficult or
expensive as to frustrate the purpose of the contract or destroy its value;
and
(3) the risk that the event would occur is not expressly or impliedly assigned
to either party under the contract.
Norfolk Electric Inc., et al. v. Fall River Housing Authority 417 Mass. 207 (1994). Massachusetts' highest court, the Supreme Judicial Court, overturned a lower court order and ruled that Local Housing Authorities statewide must award contracts for the construction and renovation of public housing under the Massachusetts Competitive Bidding statute, even where all funds are provided by the federal government through HUD. Here, HUD's local office had directed the Fall River Housing Authority to ignore state bidding law, including the requirement to obtain filed sub bids,. The Court ruled that direction was improper, that federal funding did not make the Local Housing Authority an agent of the federal government and that federal regulations contemplated compliance with State bidding laws. The Court declared Local Housing Authorities must comply with Mass. Gen. Laws 149, §§44 A-H in awarding contracts for construction and renovation of public housing with or without federal funding.
East Coast Steel v. Ciolfi, 417 Mass. 602 (1994) The Supreme Judicial Court reversed a lower court judgment invalidating a subcontractor's mechanic's lien, and ruled the subcontractor could base its mechanic's lien on an estimated completion date where the subcontract has no definite date for completion. The Court ruled the subcontractor was entitled to estimate a completion date in its Notice of Contract and in any Notice of Extension, without obtaining the general contractor's assent to the estimated date. The subcontractor's right to estimate a completion date was held subject only to the Owner's right to object if the estimated date goes beyond the completion date in the general contract. Here the Owner had not objected to the original or extended completion dates estimated by the subcontractor, and the Supreme Judicial Court held the subcontractor's lien was valid and enforceable.
This
newsletter is intended to provide general information of interest to the
construction industry. It is not intended to provide specific legal advice or
to address fact specific issues. For that you should consult your legal
counsel. Corwin & Corwin LLP assumes no liability in connection with the
use of this newsletter. The Supreme Judicial Court may consider this material
advertising.
©1992-2000 Corwin & Corwin LLP. All rights reserved.