Indemnity

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Indemnity is a contractual obligation of one party (indemnifier) to compensate the loss incurred to the other party (indemnity holder) due to the acts of the indemnitor or any other party. The duty to indemnify is usually, but not always, coextensive with the contractual duty to "hold harmless" or "save harmless". In contrast, a "guarantee" is an obligation of one party assuring the other party that guarantor will perform the promise of the third party if it defaults.

Contents

Indemnities form the basis of many insurance contracts; for example, a car owner may purchase different kinds of insurance as an indemnity for various kinds of loss arising from operation of the car, such as damage to the car itself, or medical expenses following an accident. In an agency context, a principal may be obligated to indemnify their agent for liabilities incurred while carrying out responsibilities under the relationship. While the events giving rise to an indemnity may be specified by contract, the actions that must be taken to compensate the injured party are largely unpredictable, and the maximum compensation is often expressly limited.

English common law


Indemnity clauses

Under section 4 of the Statute of Frauds (1677), a "guarantee" (an undertaking of secondary liability; to answer for another's default) must be evidenced in writing. No such formal requirement exists in respect of indemnities (involving the assumption of primary liability; to pay irrespective of another's default) which are enforceable even if made orally. [1]

Under current English law, indemnities must be clearly and precisely worded in the contract in order to be enforceable. [2] The Unfair Contract Terms Act 1977 stated that a consumer cannot be made to unreasonably indemnify another for their breach of contract or negligence, though this section was repealed by the Consumer Rights Act 2015 schedule 4 paragraph 6. [3]

Contract award

In England and Wales an "indemnity" monetary award may form part of rescission during an action of restitutio in integrum. The property and funds are exchanged, but indemnity may be granted for costs necessarily incurred to the innocent party pursuant to the contract. The leading case is Whittington v Seale-Hayne , [4] in which a contaminated farm was sold. The contract made the buyers renovate the real estate and, the contamination incurred medical expenses for their manager, who had fallen ill. Once the contract was rescinded, the buyer could be indemnified for the cost of renovation as this was necessary to the contract, but not the medical expenses as the contract did not require them to hire a manager. Were the sellers at fault, damages would clearly be available.

The distinction between indemnity and damages is subtle and may be differentiated by considering the roots of the law of obligations: how can money be paid if the defendant is not at fault? The contract before rescission is voidable but not void, so, for a period of time, there is a legal contract. During that time, both parties have legal obligation. If the contract is to be voided ab initio the obligations performed must also be compensated. Therefore, the costs of indemnity arise from the (transient and performed) obligations of the claimant rather than a breach of obligation by the defendant. [5]

Distinction from guarantees

An indemnity is distinct from a guarantee, which is the promise of a third party to honor the obligation of a party to a contract should that party be unable or unwilling to do so (usually a guarantee is limited to an obligation to pay a debt). This distinction between indemnity and guarantee was discussed as early as the eighteenth century in Birkmya v Darnell. [6] In that case, concerned with a guarantee of payment for goods rather than payment of rent, the presiding judge explained that a guarantee effectively says "Let him have the goods; if he does not pay you, I will." [7]

Distinction from warranties

An indemnity is distinct from a warranty in that: [8]

US contracts

Many private contracts and terms of service in the United States require one party (indemnitor, typically a customer) to pay (indemnify) the other side's costs for legal claims arising from the relationship. They are particularly common in online services. [9]

The US government publishes special Terms of Service, [10] which it has negotiated with many companies, to exclude indemnification for official US government work. US law "is violated by any indemnification agreement that, without statutory authorization, imposes on the United States an open-ended, potentially unrestricted liability." [11] [12] The Attorney General says federal agencies "should renegotiate the terms of service to revise or eliminate the indemnification clause or cancel the [government]'s enrollments in social media applications when their operators insist on such a clause." [11]

State variations

Under US law, interpretation of indemnification clauses varies by state. [13] For example, in California indemnification clauses do not cover certain risks unless the risks are listed in the contract, while in New York a brief clause, "X shall defend and indemnify Y for all claims arising from the Product" does make X responsible for all claims against Y. [13] Indemnity can be extremely costly, since X's liability insurance typically does not cover claims against Y, but X still has to cover them. [14]

In 2017, the Utah Supreme Court said that "By statute, a contractual provision requiring a purchaser of a product to indemnify a manufacturer is 'void and unenforceable' in certain circumstances. UTAH CODE § 78B-6-707." [15]

In 2012–2014, a New Jersey woman had to pay a lawyer to get out of an indemnity payment for injury at a storage unit. When someone slipped on ice in 2012, while going to a unit, Public Storage sued in court to make the woman who rented the unit pay for the injury. She tried to ignore the case, so state court ruled she must pay. She then retained a lawyer and went to court. In 2014, the US District Court said this specific indemnity clause was unenforceable in New Jersey, because it covered Public Storage's own negligence without explicitly saying so, contrary to New Jersey law (other states differ). [16] A 2013 decision in New Jersey upheld a broad indemnity clause, since it was followed by another sentence, "indemnity agreement is intended to be as broad and inclusive as is permitted by the law of the State of New Jersey". The judge said, "It is true that a consumer, unfamiliar with the laws of New Jersey, would not be able to state with certainty how far the waiver extends". [17]

In 2010, the Colorado Supreme Court required a flower shop to indemnify its shopping center for a customer who slipped on the icy parking lot, through no fault of the flower shop, because the tenant was there to visit that shop, and the shop's lease had a broad indemnity clause. [18]

In 1999, the United States District Court for the District of Wyoming did not require a customer to indemnify a white-water rafting company for injury to his wife, since the wording may have only applied to him and his children, and clauses cannot be enforced in Wyoming to indemnify a company for its own negligence. [19]

In 1979 the Minnesota Supreme Court ruled that a subcontractor must indemnify the builder for damages it caused, according to an indemnification clause in their purchase order. [20]

In 1966 the Supreme Court of California ruled that The Hertz Corporation could not enforce its clause requiring renters to indemnify Hertz' insurer. [21]

With negotiations

Indemnities can be expensive enough to bankrupt a company which pays them: "If manufacturers ... are to survive, they will need liability insurance, as well as favorable contracts with retailers. If you look at a big retailers, such as Trader Joe's or Costco or Walmart or Randalls, very often there will be an indemnity provision providing that, if you want to sell a product in our stores, and if it gets someone sick or if it has to be recalled, and it's your fault, you must pay us back for that." [22]

When a contract is "negotiable", the indemnitor negotiates to control these legal costs. It will not let the indemnified party (indemnitee) overspend, "An arrangement in which the indemnitee makes decisions about how to defend and settle the claim while the indemnitor writes the checks presents a moral hazard. Knowing that its defense and settlement costs are being borne by the indemnitor, the indemnitee may be encouraged to engage a more expensive legal team or pursue a riskier defense strategy than it would otherwise. For this reason, most indemnitors are unwilling to indemnify against claims when they do not control the defense of the claim." [23]

The American Bar Association has published advice on negotiations of construction contracts: that (1) owners try to get contractors to indemnify as much as possible, while (2) contractors (a) only indemnify for their own negligence and (b) "establish a right but not a duty for the contractor to defend under an indemnification claim." [24]

An example of letting the indemnitor control costs is in the case of a contractor for a homeowners association (HOA), where "Contractor shall indemnify, defend (by counsel reasonably acceptable to Association) and hold harmless the Association." [25] Companies and HOAs also use indemnity to protect directors, since few would serve as directors if their risks were not indemnified. [26] Negotiation is important for both parties. "Just about all homeowner association management contracts have a provision which states that the HOA shall indemnify the manager under certain circumstances ... There are several ways the indemnification clause can be drafted and both management and HOA must take into account what protects each the best." [27]

If indemnitors can negotiate a limit on liability in their contract, this limits the cost of a potential indemnity if they "make clear in the agreement that any limitations of liability (whether in the form of caps or exclusions of certain types of damages  e.g., consequential) apply to the ... indemnification." [28]

Without negotiations

When a contract is not negotiable (adhesion contract), the wording often lets the indemnitee decide what to spend on legal costs and bill the indemnitor. [29] Most clauses are quite broad. [29] [30] The following are examples of indemnity requirements from a range of businesses. The last one, Angie's List, limits issues to the user's fault, but decisions and costs are still controlled by the indemnitee (Angie's List).

Insurance

Indemnity insurance compensates the beneficiaries of the policies for their actual economic losses, up to the limiting amount of the insurance policy. It generally requires the insured to prove the amount of its loss before it can recover. Recovery is limited to the amount of the provable loss even if the face amount of the policy is higher. This is in contrast to, for example, life insurance, where the amount of the beneficiary's economic loss is irrelevant. The death of the person whose life is insured for reasons not excluded from the policy obligate the insurer to pay the entire policy amount to the beneficiary.

Most business interruption insurance policies contain an Extended Period of Indemnity Endorsement, which extends coverage beyond the time that it takes to physically restore the property. This provision covers additional expenses that allow the business to return to prosperity and help the business restore revenues to pre-loss levels. [39]

Historical examples

Freeing of slaves and indentured servants

Slave owners were considered to have suffered a loss whenever their slaves were granted their freedom.

When the slaves of Zanzibar were freed in 1897, it was by compensation since the prevailing opinion was that the slave owners suffered the loss of an asset whenever a slave was freed.

In the 1860s in the United States, U.S. President Abraham Lincoln had requested many millions of dollars from Congress with which to compensate slave owners for the loss of their slaves. [40] On 9 July 1868, Section IV of the Fourteenth Amendment dismissed all of the claims that slave owners had been injured by the freeing of the slaves. [41] [42]

In 1807–1808, in Prussia, statesman Baron Heinrich vom Stein introduced a series of reforms, the principal of which was the abolition of serfdom with indemnification to territorial lords. [43] [ self-published source? ]

Haiti was required to pay an indemnity of 150,000,000 francs to France in order to atone for the loss suffered by the French slave owners. [44]

In Peru, Antonio Salinas y Castañeda (1810–1874), a wealthy Peruvian landowner and conservative politician, led the meeting of the main landowners of the country for an indemnity after slavery abolition and ruled the commission who promoted the immigration of Asians to replace former slaves as a workforce during Ramón Castilla government.[ citation needed ]

Costs of war

The nation that wins a war may insist on being paid compensations for the costs of the war, even after having been the instigator of the war.

See also

Related Research Articles

Insurance equitable transfer of the risk of a loss, from one entity to another in exchange for payment

Insurance is a means of protection from financial loss. It is a form of risk management, primarily used to hedge against the risk of a contingent or uncertain loss.

Reinsurance is insurance that an insurance company purchases from another insurance company to insulate itself from the risk of a major claims event. With reinsurance, the company passes on ("cedes") some part of its own insurance liabilities to the other insurance company. The company that purchases the reinsurance policy is called a "ceding company" or "cedent" or "cedant" under most arrangements. The company issuing the reinsurance policy is referred simply as the "reinsurer". In the classic case, reinsurance allows insurance companies to remain solvent after major claims events, such as major disasters like hurricanes and wildfires. In addition to its basic role in risk management, reinsurance is sometimes used to reduce the ceding company's capital requirements, or for tax mitigation or other purposes.

In an insurance policy, the deductible is the amount paid out of pocket by the policy holder before an insurance provider will pay any expenses. In general usage, the term deductible may be used to describe one of several types of clauses that are used by insurance companies as a threshold for policy payments.

In contract law, a warranty is a promise which is not a condition of the contract or an innominate term: (1) it is a term "not going to the root of the contract", and (2) which only entitles the innocent party to damages if it is breached: i.e. the warranty is not true or the defaulting party does not perform the contract in accordance with the terms of the warranty. A warranty is not a guarantee. It is a mere promise. It may be enforced if it is breached by an award for the legal remedy of damages.

Terms of service are the legal agreements between a service provider and a person who wants to use that service. The person must agree to abide by the terms of service in order to use the offered service. Terms of service can also be merely a disclaimer, especially regarding the use of websites.

In finance, a surety, surety bond or guaranty involves a promise by one party to assume responsibility for the debt obligation of a borrower if that borrower defaults. Usually, a surety bond or surety is a promise by a surety or guarantor to pay one party a certain amount if a second party fails to meet some obligation, such as fulfilling the terms of a contract. The surety bond protects the obligee against losses resulting from the principal's failure to meet the obligation. The person or company providing the promise is also known as a "surety" or as a "guarantor".

Subrogation legal doctrine whereby a person is entitled to enforce the rights of another

Subrogation is the assumption by a third party of another party's legal right to collect a debt or damages. It is a legal doctrine whereby one person is entitled to enforce the subsisting or revived rights of another for one's own benefit. A right of subrogation typically arises by operation of law, but can also arise by statute or by agreement. Subrogation is an equitable remedy, having first developed in the English Court of Chancery. It is a familiar feature of common law systems. Analogous doctrines exist in civil law jurisdictions.

Guarantee is not a legal term more comprehensive and of higher import than either warranty or "security". It most commonly designates a private transaction by means of which one person, to obtain some trust, confidence or credit for another, engages to be answerable for him. It may also designate a treaty through which claims, rights or possessions are secured. It is to be differentiated from the colloquial "personal guarantee" in that a Guarantee is a legal concept which produces an economic effect. A personal guarantee by contrast is often used to refer to a promise made by an individual which is supported by, or assured through, the word of the individual. In the same way, a guarantee produces a legal effect wherein one party affirms the promise of another by promising to themselves pay if default occurs.

Liability insurance is a part of the general insurance system of risk financing to protect the purchaser from the risks of liabilities imposed by lawsuits and similar claims and protects the insured if the purchaser is sued for claims that come within the coverage of the insurance policy.

Protection and indemnity insurance, more commonly known as P&I insurance, is a form of mutual maritime insurance provided by a P&I club. Whereas a marine insurance company provides "hull and machinery" cover for shipowners, and cargo cover for cargo owners, a P&I club provides cover for open-ended risks that traditional insurers are reluctant to insure. Typical P&I cover includes: a carrier's third-party risks for damage caused to cargo during carriage; war risks; and risks of environmental damage such as oil spills and pollution. In the UK, both traditional underwriters and P&I clubs are subject to the Marine Insurance Act 1906.

Directors and officers liability Insurance is liability insurance payable to the directors and officers of a company, or to the organization(s) itself, as indemnification (reimbursement) for losses or advancement of defense costs in the event an insured suffers such a loss as a result of a legal action brought for alleged wrongful acts in their capacity as directors and officers. Such coverage can extend to defense costs arising out of criminal and regulatory investigations/trials as well; in fact, often civil and criminal actions are brought against directors/officers simultaneously. Intentional illegal acts, however, are typically not covered under D&O policies.

Marine insurance covers the loss or damage of ships, cargo, terminals, and any transport by which the property is transferred, acquired, or held between the points of origin and the final destination. Cargo insurance is the sub-branch of marine insurance, though Marine insurance also includes Onshore and Offshore exposed property,, Hull, Marine Casualty, and Marine Liability. When goods are transported by mail or courier, shipping insurance is used instead.

A charterparty is a maritime contract between a shipowner and a "charterer" for the hire of either a ship for the carriage of passengers or cargo, or a yacht for pleasure purposes. Charter party is a contract of carriage of goods in the case of employment of a tramp. It means that the charter party will clearly and unambiguously set out the rights and responsibilities of the ship owner and the charterers and any subsequent dispute between them will be settled in the court of law or any agreed forum with reference to the agreed terms and conditions as embodied in the charter party. The name "charterparty" is an anglicisation of the French charte partie, or "split paper", i.e. a document written in duplicate so that each party retains half.

Unfair Contract Terms Act 1977 United Kingdom legislation

The Unfair Contract Terms Act 1977 is an Act of Parliament of the United Kingdom which regulates contracts by restricting the operation and legality of some contract terms. It extends to nearly all forms of contract and one of its most important functions is limiting the applicability of disclaimers of liability. The terms extend to both actual contract terms and notices that are seen to constitute a contractual obligation.

The Road Accident Fund (RAF) in South Africa, is a state insurer established by statute. It provides insurance cover to all drivers of motor vehicles in South Africa in respect of liability incurred or damage caused as a result of a traffic collision. Liability incurred in relation to property damage is excluded from cover. The Road Accident Fund operates a system whereby the claimant is assigned a percentage of responsibility for the accident, and the Road Accident Fund pays the claimant a percentage of a full settlement based on a percentage that was not deemed to be their responsibility. Insurance premiums are collected by the Road Accident Fund through a levy on motor vehicle fuel.

Professional liability insurance (PLI), also called professional indemnity insurance (PII) but more commonly known as errors & omissions (E&O) in the US, is a form of liability insurance which helps protect professional advice- and service-providing individuals and companies from bearing the full cost of defending against a negligence claim made by a client, and damages awarded in such a civil lawsuit. The coverage focuses on alleged failure to perform on the part of, financial loss caused by, and error or omission in the service or product sold by the policyholder. These are causes for legal action that would not be covered by a more general liability insurance policy which addresses more direct forms of harm. Professional liability insurance may take on different forms and names depending on the profession, especially medical and legal, and is sometimes required under contract by other businesses that are the beneficiaries of the advice or service.

Affreightment is a legal term used in shipping.

In US insurance policies, an additional insured is a person or organization that enjoys the benefits of being insured under an insurance policy, in addition to whoever originally purchased the insurance policy. The term generally applies within liability insurance and property insurance, but is an element of other policies as well. Most often it applies where the original named insured needs to provide insurance coverage to additional parties so that they enjoy protection from a new risk that arises out of the original named insured's conduct or operations. An additional insured often gains this status by means of an endorsement added to the policy which either identifies the additional party by name or by a general description contained in a "blanket additional insured endorsement."

A master service agreement, or MSA, is a contract reached between parties, in which the parties agree to most of the terms that will govern future transactions or future agreements. A master service agreement allows the involved parties to more quickly negotiate future transactions or agreements, because they can rely on the strong foundation of the master agreement for future business, so that the same terms need not be repetitively negotiated, and you only need to negotiate terms specific to the latest deal.

Insurance in South Africa describes a mechanism in that country for the reduction or minimisation of loss, owing to the constant exposure of people and assets to risks. The kinds of loss which arise if such risks eventuate may be either patrimonial or non-patrimonial.

References

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