Commercial contracts and insurance part 1: principal’s indemnity, cross-liability, waiver of subrogation and non-vitiation clauses

It is standard commercial practice for companies to enter into contracts. Contracts are a legal instrument setting out a promise do something in return for something.

Otherwise in the context of risk, contracts ordinarily identify same as between the parties. More specific to insurance, contracts often particularise specific insurance obligations of the parties, and may contain provisions which may prejudice insurance cover.

The purpose of insurance is to transfer risk, and on that basis, those entering into a contract must understand the extent to which their policies cover contractual risk. More importantly, where contractual risk is not insurable, or not covered by a policy, it is important to understand the extent of that risk (commercial risk). Bellrock ordinarily provides our clients with insurance contract review services. We often work with our clients and their lawyers to otherwise close or mitigate against commercial risk.

In this article we traverse four common clauses which are included in most contracts reviewed by Bellrock. These include principal’s indemnity, cross liability, waiver of subrogation and non-vitiation clauses.

Principal’s indemnity clauses are relevant where you are providing goods or services to another party (the “Principal”). They require you to provide cover to the Principal for any liability arising from the goods or products supplied. Should any loss or damage be suffered by the Principal, they will seek reimbursement of costs associated with the loss from you.

In order to ensure you have insurance cover for such indemnity being provided under contract, your policy must extend to provide cover to principals where your service or product has been the cause of the loss.

Such clauses will take many forms. It is vital, when accepting a Principal’s indemnity clause that any such indemnity is limited to the extent that your product or service caused or contributed to the loss. To the extent that the Principal’s actions resulted in the loss, the Principal must remain liable for their proportion of the liability.

This is important to note as often your insurance cover will be limited to your responsibility for the loss incurred, and not provide full indemnity to the Principal (though such cover can be obtained at additional cost if required).

Some contracts will require the supplier to provide that their policies of insurance cover the Principal as if they were an insured party. This is particularly common in construction contracts, but can also be included in lease agreements and supply contracts.

Where such insurance cover is required, it usually relates to third party liability exposures. When a loss occurs, the principal and supplier may incur different and separate liabilities for the incident, including liabilities to each other.

A cross liability clause attempts to resolve this potential conflict by providing cover to each party as if a separate insurance policy was issued to each insured. This will enable each party to be indemnified and defend individually, any claim made against them in relation to the same incident.

It is an important enhancement to a third party liability policy, and as such, is usually included as an express requirement under contract where the supplier is required to provide insurance to their Principal.

Where you enter into regular contracts requiring you to cover the third party liability risk of the Principal, such cross liability clause should be included as part of your standard cover.

Subrogation is a statutory entitlement of insurers that allows them to seek recovery as against parties who cause or contribute to a loss indemnifiable by the insurer, under a contract of General Insurance.

A waiver of subrogation clause intends that the insurer waives that right.

It is often a requirement under contracts where insurance cover is being provided to the Principal under the Suppliers insurance program but can be included in any commercial contract.

It is important to note that by agreeing to such a clause, you are preventing your insurer from seeking to recover claims costs against another party who may have some liability for an incident. This will affect your claims experience, and in circumstances where your policy does not include a waiver of subrogation clause, it may put you in a position where the insurer will not provide full indemnity to you for the loss, because you have prejudiced their position by agreeing to waive the rights to subrogate on their behalf.

Whilst in certain circumstances it is acceptable to agree to provide a waiver of subrogation in favour of a third party, it is important to check that such an agreement wont adversely affect or void the insurance cover prior to contract execution.

The inclusion of a non vitiation clause is intended to ensure that in circumstances where one party (usually the party entering into the insurance contract) has made false or misleading submissions in order to obtain insurance, that such false disclosures do not affect another insured party from being indemnified by the insurance policy. This is otherwise known as a severability and non-imputation clause.

This is particularly important to Principals who are seeking cover under a Suppliers insurance program but have no input on arranging the cover.

Insurance contracts will often contain a clause which allows an insurer to reduce or decline cover in circumstances of misrepresentation or non disclosure when the insurance policy is put in place. The inclusion of a non vitiation clause will still enable an insurer to decline cover to the party who committed the misrepresentation, however the insurer will remain duty bound to provide cover to other “innocent” insured parties. It is important to confirm that your policies include this provision.

In all cases above, the clauses can take many forms within the contract. It is crucial that your contracts are reviewed by your insurance advisor to ensure your cover is adequate and you are not putting your cover at risk by agreeing to provisions within the agreement being signed.

Bellrock provides assistance to clients by reviewing proposed agreements to ensure compliance with your insurance program. If you require advice in relation to commercial contracts please contact us via the form below.