Tuesday, December 2, 2008

Indemnities Done Well

Let's face it. Business people can't stand dealing with contract indemnity provisions. Most lawyers aren't particularly fond of them either. Normal people find them extraordinarly confusing. This confusion frequently results in the creation of indemnity provisions that are at best meaningless and at worst can distort the intention of the parties.

In certain transactions, business people may agree that a risk imposed on one party should more appropriately be borne by the other party. When this happens, an indemnity provision is the solution. All indemnities shift risk from one party to another. That is their purpose.

A good indemnity shifts a risk to a party who would not ordinarily be liable for that risk. A poor indemnity purports to shift risk to a party who, in fact, would ordinarily be liable for that risk by law or by contract.

Take, for example, indemnity against breach of contract. Such provisions read something like this: " A indemnifies B against A's breach of this contract." If a contract is breached, the law provides each party with a remedy, namely, the right to sue for breach, recover damages and be made economically whole. In this case, the indemnity generally adds nothing of value to the contract. If B breaches the contract, A can sue B for breach of contract without the indemnity. Thus, no risk has actually been shifted.

But if it doesn't add anything, what's the harm in keeping it in the contract?

An indemnity against breach of contract may be uninsurable. See Indemnification: How to Identify Unacceptable Risks and Get Them Out of Your Agreements by F. David Shipley and David W. Lakamp. Including an indemnity against breach of contract may give an errors and omissions insurer reason to deny coverage that might otherwise have been available. This would not be good for either party.

Moreover, contracts are written, so that judges (who might later be asked to read them) will be able to gleen the intent of the parties. A breach of contract indemnity runs the risk of being construed to mean something unintended. Since the law provides a remedy for breach of contract, there is no need for the parties to agree to indemnify each other for breach of contract. Accordingly, judges are put in the position of either construing the provision to be meaningless (something judges would likely be disinclined to do) or construing that the intent of the parties must have been to provide for some other or additional remedy. The last thing anybody should want (including judges), is putting a judge in a position to guess at what the parties meant.