Indemnity Provisions in Construction Contracts–Asset or Liability?

Construction contracts often contain indemnity provisions. Indemnity provisions generally allow one party to a contract who, if found liable in a lawsuit, may then seek reimbursement from the other contracting party. Indemnity provisions are commonplace in the construction industry, most significantly in contracts between general contractors and their subcontractors. When a developer or general contractor is sued by a commercial or residential property owner, they may seek indemnity, or reimbursement, from the subcontractors, who typically do most, if not all, of the actual work.

Indemnity Rights Can Be Assigned 
However, developers and general contractors are not always the only persons who can end up with indemnity rights. The law allows a person to assign their indemnity rights. While unusual, it is possible for a developer or general contractor to assign his or her indemnity rights to the plaintiff as part of the settlement of the lawsuit. Indemnity rights can be a valuable asset, but they can also be a liability.

Indemnity rights can become a valuable non-cash part of a settlement between a general contractor and a homeowner, for example. In a construction defect action, the homeowner may name the general contractor and certain subcontractors as defendants. The general may then, in turn, sue the subcontractors for indemnity, bringing them into the lawsuit as cross-defendants. If the homeowner settles with the general, he is relieved of liability, but the non-settling subcontractors are not. If, as part of the settlement, the general assigned his indemnity rights, the homeowner basically “steps into the shoes” of the general and may continue the lawsuit against the non-settling subcontractors for additional amounts and also based upon the indemnity rights in the contract between the general and the non-settling subcontracts.

For example, assume a homeowner sues a general contractor for negligence and breach of contract, and the subcontractor for negligence. The homeowner settles his lawsuit against the general contractor for $1.6 Million cash and an assignment of the indemnity rights in the contract. Further assume that the assignment has an estimated value of $200,000. The total settlement amount is thus $1.8 Million. The homeowner then continues the negligence lawsuit against the subcontractor and obtains a $3 Million judgment. At the same time, the homeowner also brings the general contractor’s indemnity action against the same subcontractor (based on the general contractor’s contract with the subcontractor) and the jury awards $1.5 Million. The homeowner’s $3 Million direct judgment against the subcontractor will be reduced by his earlier settlement amount, leaving the homeowner with $1.2 Million in his negligence action. The judgment based on the indemnity provision in the contract will not be reduced. The total judgment for the homeowner is $2.7 Million ($1.2 Million + $1.5 Million), which is less than the $3 Million in negligence damages the jury awarded him. Yet, when the homeowner adds the $2.7 Million judgment to the $1.6 Million cash from the settlement, the homeowner’s total recovery is $4.3 Million, or $1.3 Million more than the jury awarded him. Furthermore, if the assigned contract with the indemnity rights included an attorneys’ fees provision, the homeowner may also be entitled to attorneys’ fees.

Attorney Fees May Be Part Of The Claim
Consider however, that if the homeowner loses the lawsuit, the general contractor would not have been held liable for the work of the subcontractor. Therefore, the homeowner will not prevail on the assigned indemnity lawsuit making the indemnity provision worthless to the homeowner.

Although worthless to the homeowner, the indemnity rights may be quite valuable to the prevailing subcontractor since many contracts contain attorneys’ fees provisions that are also assigned with the contract. Attorneys’ fees provisions give the prevailing party, whichever party that is, the right to reimbursement for reasonable attorneys’ fees. When the lawsuit is based on a contract that contains an attorneys’ fees provision and other non-contract causes of action, the attorney fees can generally only be recovered for the contract cause of action. However, a court may grant attorney fees for the entire lawsuit, not just the contract cause of action, when the legal issues were common to the contract and non-contract causes of action.

Losing Party May Be Forced To Pay Attorney Fees Twice

Consequently, the losing homeowner may be liable for attorneys’ fees both in his negligence action and in the indemnity action against the subcontractor based upon the indemnity provision in the assigned contract. The indemnity provision required the general contractor to be found liable for negligence so that the general contractor could indemnify the subcontractor for the subcontractors’ defective work. In other words, the subcontractor was not liable unless the general contractor was liable. Therefore, when the homeowner brought his negligence and indemnity causes of action, both causes of action were intertwined and the court had discretion to award attorneys’ fees to the subcontractor in defending itself against both the negligence and indemnity claims. This result occurs even though the homeowner was not a party to the original contract.

In conclusion, contractual indemnity provisions can provide protection to developers and general contractors who are later sued for defective work. In the event of a lawsuit, the indemnity rights may be assigned and become part of a negotiated settlement. When accepting indemnity rights, the risks and benefits associated with any attorneys’ fees provision must be considered.