Not all indemnification clauses are the same and the choice of language is critical to ensure that you are adequately protected and that your risk expectations are met. Here are some things to consider when negotiating an indemnification clause.
- Losses, Liabilities, Claims and Causes of Action
Although seemingly interchangeable, each word in the phrase “losses, liabilities, claims and causes of action” has and individual meaning and services a particular purpose. Failing to properly include one may result in increased risk and exposure. The term “losses” includes any covered judgments, settlements, fees, costs and expenses. The indemnifying party becomes responsible for a loss only after the indemnified party pays. The term “liabilities” includes debts and other legal obligations. The indemnifying party becomes responsible for a liability when the liability is legally imposed, but before the money is paid. The term “claims” includes damages resulting from a third-party lawsuit. The indemnifying party becomes responsible for a claim at the moment when a party, including any third-party, files a lawsuit. The term “causes of action” includes damages resulting from a right to seek relief. The indemnifying party becomes responsible for a cause of action when the indemnified party’s or a third party’s right to seek relief, accrues.
- Attorney’s Fees
Parties should address attorney’s fees in the indemnity provision, and if relevant, identify whether they are limited to reasonable or out-of-pocket expenses.
- Choosing the Right Nexus Phrase
A nexus phrase is used to describe the series of words that link the list of recoverable damages (losses or liabilities) to the covered events (breach of the agreement or indemnifying party’s negligence). Nexus phrases are critical because they dictate the scope of the indemnity and directly impact the amount of recoverable damages. The indemnified party is going to want to expand the indemnity’s scope of covered, and accordingly, should use a broad nexus phrase like, related to. The indemnifying party is going to narrow the indemnity’s scope of coverage, and therefore, should use a narrow nexus phrases like, caused by, result from, solely result from and to the extent they arise out of.
- Defining the Covered Events of the Indemnity
Covered events generally arise from or relate to the indemnifying party’s breach of the agreement and/or the indemnifying party’s acts or omissions, even if the acts or omissions are not breaches. Covered events generally include two broad categories, direct claims or third-party claims. Direct claims are claims that the indemnified party has against the indemnifying party. Third-party claims are claims that a third-party has against the indemnified party. When drafting an indemnification clause, parties should be mindful that when an indemnity for direct claims is uncapped and covers breach of the agreement, the indemnified party may be able to recover amounts under the indemnity over the agreed on limitation of liability. Accordingly, most indemnification clauses will limit indemnification to cover only third-party claims and address liability for direct claims elsewhere in the agreement.
When agreeing to indemnify another or when insisting on receipt of indemnification from others, avoid navigating the process alone and consider consulting an experienced business litigation attorney to ensure you are adequately protected.