TWENTY SIXTH ANNUAL SOUTHERN SURETY AND FIDELITY CLAIMS

Transcription

1 TWENTY SIXTH ANNUAL SOUTHERN SURETY AND FIDELITY CLAIMS CONFERENCE Clearwater Beach, Florida RD TH APRIL 23 & 24, 2015 TYPES OF INDEMNITY PRESENTED BY: Barry S. Rabon Brian R. Gaudet COATS ROSE 2600 South Shore Blvd., Suite 200 League City, Texas Judith Bufler Liberty Mutual Surety

2 Types of Indemnity Although the definition of indemnify as a general concept is fairly straightforward (Black's Law Dictionary defines it in part as "to save harmless"), there are several different forms of indemnity that the surety practitioner rarely experiences. Bond principals, however, encounter indemnity issues in every contract and may not be prepared or comprehend indemnity as that term and concept is used in the surety context. 1. Non Surety But Construction RELATED A. Common Law Common law indemnity is the most restrictive type of indemnity. To establish a cause of action for common law indemnity, a plaintiff must typically plead and prove four elements: (1) that he or she is without fault; (2) that his or her liability is vicarious and solely for the wrong of another; (3) that the defendant is with fault; and (4) that there is a special relationship between the plaintiff and defendant 1. B. Limited Form I will cover the damages I cause Under a limited form indemnity agreement, indemnification is allowable for losses exclusively caused by the indemnitor s negligence. Thus, "any negligence on the part of the indemnitee, either active or passive, will bar indemnification. 2 C. Intermediate Form I will cover the damages we both cause, but not when you are the ONLY cause Intermediate indemnity applies when the indemnitor does not agree to indemnify the indemnitee for its sole negligence, but does agree to indemnify against loss that is caused in whole or in part by the negligence of the indemnitor. Thus, even where indemnitee is almost entirely, but not completely, at fault, the indemnitor is still responsible. 3 1 See Dade County Sch. Bd. v Radio Station WQBA, 731 So. 2d 638, 642 (Fla. 1999). 2 MacDonald & Kruse, Inc. v San Jose Co., Inc., 29 Cal. App. 3d 413, 420 (Cal. Ct. App. 1972). 3 Bradford v Kupper Assocs., 283 N.J. Super. 556 (App. Div. 1995); Sexallus v Muscarelle, N.J. Super. 535, 586 A.2d 305 (N.J. Super. AD. 1991). 2

3 D. Broad Form I will cover your damages even if you are the ONLY cause Broad form indemnity, as its name suggests, provides the broadest protection for an indemnitee and requires the indemnitor to save and hold the indemnitee harmless from all liabilities, regardless of which party's negligence caused the liability. Under this type of provision, the indemnitee is indemnified whether his liability has arisen as the result of his negligence alone or whether his liability has arisen as the result of his co-negligence with the indemnitor. 4 Given that an indemnitor may have no fault, but still be required to hold the indemnittee harmless, it is not surprising that a number of states have enacted antiindemnity statutes that render broad form indemnity provisions unenforceable on the ground that they violate public policy. 5 Further, courts in states without antiindemnity statutes disfavor broad form indemnity clauses by strictly construing the language appearing in those clauses Enforceability Indemnity Clauses Must Be Clear and Specific It is well settled that in order for an indemnity provision to be enforceable it must be clear, specific, and unequivocal. If an indemnity clause is unambiguous, the court will enforce the clause as written. 7 On the other hand, if the indemnification clause is ambiguous or conflicts with other provisions of the contract, courts will construe the contract against the drafter. Thus, if the indemnitee was the drafter, the court may find that the indeninitee is not entitled to indemnification. 8 Accordingly, the language of an indemnification clause in a construction contract must reflect the indemnitor s acceptance of the burden and must express the burden in clear and unequivocal terms. 9 4 MacDonald & Kruse, Inc., 29 Cal. App. 3d 413, 419 (Cal. App. 2 Dist. 1972). 5 See Jankele v. Tex., 54 P.2d 425 (Utah 1936). 6 See e.g., Craig Constr. Co. v. Hendrix, 568 So. 2d 752, 756 (Ala. 1990); Wash. Elem. Sch. Dist. No. 6. v. Baglino Corp., 817 P.2d 3,6 (Ariz. 1991); Ark. Kraft Corp. v Boyed Sanders Constr. Co., 764 S.W.2d 452, 453 (Ark. 1989); Goldman v. Ecco-Phoenix Elec. Corp., 396 P.2d 377, 379 (Cal. 1964); State v Interstate Amiesite Corp., 297 A.2d 41,44 (Del. 1972); Rodrigue v LeGros, 563 So. 2d 248, 254 (La. 1990); Parliament Constr. Co. v Beer Precast Concrete Ltd., 319 N.W.2d 374, 378 (Mich. 1982); Braegelmann v Horizon Dee. Co., 371 N.W.2d 644, 646 (Minn. Ct. App. 1985); Sw. Bell Tel. Co. v J.A. Tobin Constr. Co., 536 S.W.2d 881, 885 (Mo. Ct. App. 1976); Freund v Utah Power & Light Co., 793 P.2d 362, 370 (Utah 1990). 7 Doster. Constr. Co., Inc. v. Marathon Elec. Contractors, No , 2009 WL , at *4 (Ala. Sep. 25, 2009). 8 Chester Upland Sch. Dist. v Edward J. Meloney, Inc., 901 A.2d 1055, 1063 (Pa. Super. Ct. 2006) 9 Estate of A. Williams v S. Ind. Gas and Elec. Co., Inc., 551 F. Supp. 2d 751, 755 (S.D. Ind. 2008) (holding that an indemnification clause, which simply states that a subcontractor shall indemnify a general contractor for any negligence that arises from the job is insufficient to inform the subcontractor that it must indemnify the general contractor for acts of the general contractor's own negligence). 3

4 Judicial Rules There are many varieties of indemnity clauses and not every state deals with them in the same way. Most states limit the application of their anti-subrogation statutes to construction contracts. Although every state differs, a typical definition of construction contract is: Construction contract means a written or oral agreement relating to the construction, alteration, repair, maintenance, moving, demolition or excavation or other development or improvement to land. Many states have judicially-developed rules which may prohibit indemnity as well. For example, in Texas, in order for an indemnity agreement (of any type) to contractually indemnify another for his own negligence, the contract must, within its four corners, specifically set forth that intent. 10 The contract must express that intent in specific terms within the four corners of the contract (express negligence test) and the language must be conspicuous by being in capital letters if it is a heading or in larger or contrasting type or color (conspicuousness test). 11 Public Policy Concerns Place Statutory Constraints on Indemnity Provisions As case law developed enforcing intermediate and broad form indemnification provisions, many state legislatures enacted anti-indemnification statutes. Like the varying forms of indemnification, anti-indemnity statutes vary in reach and scope. They range from prohibiting intermediate and broad form indemnification to permitting broad form indemnification, but only if there is a monetary limitation on the indemnification obligation. Additionally, some states distinguish private contracts and public contracts with respect to the constraints placed on contractual indemnity. These statutes, in whatever form, are primarily based on public policy grounds. 12 The major public policy argument for prohibiting broad form indemnity clauses in the construction industry is that if a general contractor is permitted to shift the financial burden of liability, there is less incentive for a general contractor to take measures to make a construction site safe. 13 Therefore, to increase workplace safety, some state legislatures have made it unlawful to include broad form indemnification provisions in construction-related contracts. 14 By example, Georgia s Code provides that a construction contract which purports to require that one party to such contract or agreement shall indemnify, hold harmless, insure, or defend the other party to the contract or other named indemnitee, including its, his, or her officers, agents, or employees, against liability or claims for damages, losses, or expenses, including attorney fees, arising out of bodily injury to persons, death, or damage to property caused by or resulting from 10 Ethyl Corp. v. Daniel Constr. Co., 725 S.W.2d 705 (Tex. 1987) (known as the Ethyl Rule). 11 Dresser Industries v. Page Petroleum, 853 S.W.2d 505 (Tex. 1993). 12 Id. at Id. at Id 4

5 the sole negligence of the indemnitee, or its, his, or her officers, agents, or employees, is against public policy and void and unenforceable. 15 Similarly, Florida Statute voids broad form indemnity clauses which purport to require indemnification for damages caused by the actions of the indemnitee unless the contract contains a monetary limit on the extent of indemnification which bears a reasonable commercial relationship to the contract. Attached at Appendix 1 is a summary of Anti-Indemnity Statutes in the 50 states and Washington D.C. 3. Standard Form of Contractual Indemnity Provisions An indemnity provision is one of, if not the most, commonly used provisions in a construction contract. For that reason, it is contained in all of the standard form industry contracts; namely, the AIA A , 16 Consensus DOCS and EJCDC C Insuring the Indemnity Risk There are two critical issues that a construction practitioner must address when drafting indemnification provisions. First, the provision must be enforceable. Second, the prevision must be insurable. As described above, there are four types of general indemnification provisions: common law, limited form, intermediate form and broad form. Since many states have anti-indemnity statutes which render intermediate and/or broad form indemnification provisions unenforceable as a matter of public policy, a thorough understanding of the applicable state law is critical, because if the indemnification provision is unenforceable then it may also be uninsurable. 19 In order to insure the indemnification obligation, indemnitors purchase contractual liability coverage under a Commercial General Liability ("CGL") policy. As an added protection, indemnitees often require indemnitors to name them as an additional insured on the indemnitors policy. Some states, however, not only prohibit intermediate form or broad form indemnification, but also prohibit parties from 15 Georgia, Ga. Code Ann (b) 16 The AIA Family of Construction Documents are prepared by the American Institute of Architects ( AIA ) and are probably the most widely used family of construction documents. Information about the AIA can be found at 17 The ConsensusDOCS were developed by a coalition of twenty-three leading industry organizations representing owners, contractors, subcontractors, designers and sureties. One of the primary sponsors was the Associated General Contractors of America ( AGC ). Information about the ConsensusDOCS can be found at 18 The EJCDC Documents are prepared by the Engineers Joint Contract Documents Committee ( EJCDC ) and are issued and published jointly by the (1) National Society of Professional Engineers, (2) Consulting Engineers Council, (3) American Society of Civil Engineers, and (4) Construction Specifications Institute. Information about the EJCDC can be found at 19 See Mid-Continent Cas. Co. v. Constr. Servs. and Consultants, Inc., 2008 WL (S.D. Fla. 2008); Allianz Ins. Co. V. Goldcoast Partners, Inc., 684 So. 2d 336 (Fla. 4th DCA 1996). 5

6 shifting this risk to the indemnitor by naming the indemnitee as an additional insured Surety Indemnification A. Common Law Suretyship is an indemnity product. This means that if the surety pays a claim, on behalf of the principal, it is entitled to reimbursement by the principal or indemnitor. This concept is based in common law and the industry has developed tools to supplement its ability to collect the funds due to a surety company. Common law allows the surety to be reimbursed for its paid loss resulting from a principal s default. Common law does not grant the surety any other rights. Thus, the surety requires general indemnity agreement to expand its common law rights contractually. Payment of the premium, demand for collateral before any payment by the surety, assignment of rights to property and equipment, exclusive right to adjust and settle claims, and joint and several liability of all indemnitors are but a few of the key additional rights the surety receives that are not granted under common law. A surety bond is a contract that when issued provides the surety with certain rights that have been granted under common laws established through precedents originating from the English Statute of Frauds. In general terms, the surety s common law rights divide into three categories: rights of exoneration... rights of reimbursement (or indemnity)... rights of subrogation. 21 The right or doctrine of exoneration "involves the surety's pursuit of relief requiring its principal to perform the obligation for which it is primarily responsible...." The surety s right of reimbursement is the principal's common law obligation to make the performing surety whole to pay back its losses. The surety s subrogation rights, or the right to stand in the shoes of other parties to promote the surety's own protection and to preserve funds necessary for the surety's reimbursement, are among the surety's most important and flexible rights See e.g. Ky. Rev. Stat. Ann (2008) ( A general provision in [the covered agreements] which requires a party to provide liability coverage to another party as an additional insured, for such other party's own negligence or intentional acts or omissions is against public policy and is void and unenforceable ) 21 Marilyn Klinger, George Bachrach, Tracey Lee Haley, eds. The Surety's Indemnity Agreement, Law and Practice, 2nd Ed., Chicago, ABA Publishing, 2008, pp. 9, 10, 11, and Ibid., p. 9 6

7 B. Contractual Indemnity (the GIA) The primary purposes for securing an application or a general indemnity agreement are to contractually expand the surety s rights to take action and to expand the duties of the indemnitors to the surety, beyond the three basics rights provided by common law. While each surety company has its own agreement form, there are certain basic contractual rights that most will include: The obligations of the indemnitors are joint and several. Thus, the surety has the legal right to sue one or all of the indemnitors for the full amount of the loss and, unless stated otherwise, the obligation of each is for the full amount of the loss. The right to be held harmless against loss, costs, and expenses of whatever nature. The right to be held harmless from any liability. Under the legal doctrine of Quia Timet, the surety has the right to enforce the provisions of the agreement, even though the surety has paid no loss when they have reasonable grounds for anticipating that their rights are or may be in jeopardy. 23 In other words, the surety has a reasonable belief that the principal cannot or will not perform its obligations in accordance with the underlying agreement and there is impending liability. The right to demand collateral in the event of impending liability. The sole right to settle claims, including the affirmative claims of the principal against others that relate to the bond obligation. The right of access to the indemnitors books and records. Provision for termination by indemnitors. Most include a provision that release of one indemnitor does not affect the joint and several liabilities of all other indemnitors. The right to file the agreement as a U.C.C. filing in order to perfect claims. The right to require the Indemnitors to pay all premiums and charges of the surety with respect to bonds which it issues on behalf of the principal. Providing that the rights of the surety pursuant to the agreement are in addition to its legal and equitable rights at law. Definitional provisions, such as those defining the loss to include counsel fees and consultant fees and those defining surety to include co-sureties, reinsurers and any sureties issuing bonds on behalf of the principal at the request of the named sureties. The right to establish that the surety need not notify the Indemnitors of the release of security, collateral and/or an indemnitor. The right for the surety to refuse to provide any bond even where it has already furnished the bid bond for an anticipated contract, and confirming 23 Ibid., p

8 that the surety need not provide notice as to any changes in any bond or contract. The right to establish that the agreement of indemnity shall continue to apply to all bonds theretofore or thereafter issued on behalf of the principal without notice to the Indemnitors and that the indemnity agreement may only be terminated as to future bonds if such bonds are issued more than thirty days after notice is received by the surety and the surety did not issue bid bonds or consents of surety for such bonds prior to the expiration of that thirty day period. The right for the surety to be designated as attorney-in-fact to exercise all rights and powers of the Principal. Basic Rules for Proper Preparation Each surety will have its own set of instructions and guidelines for securing applications and indemnity agreements. There are some basic rules that apply for all: Take the agreement at the right time. An indemnity agreement is a legal contract and is subject to the doctrines of contract law. For a contract to be legally binding there must be consideration given for the promises being made. And because the consideration must be bargained for, the consideration is required to be given after the bargain is made or simultaneously with the bargain. When the surety takes an indemnity agreement, the subsequent execution of the bond is the consideration for the promise of the indemnity. Unfortunately, in many situations, sureties and agents find themselves taking an indemnity agreement after the bond is executed. Doing so without substantive proof from each of the indemnitors that signing of the agreement was a pre-condition to execution of the bond may invalidate the indemnity. The legal term for this situation is past consideration. Take the agreement from the correct parties. Preparing the agreement for signatures using the exact legal names of the companies or persons involved in the indemnity prevents any discussions to the contrary if the surety must file the agreement in a court action. Authenticate the signatures. Having signatures notarized is a common requirement. By notarizing a signature, a duly commissioned notary public is certifying the authenticity of the signature. Thus, in theory, a properly notarized signature is likely not a forgery absent a fairly elaborate fraud on the notary. 24 Protect the agreement. It is important that no extraneous notes or alterations be placed upon the original agreement. Under no circumstances should a bond number or note related to a specific bond be added to a general indemnity agreement, as the argument could be made that the agreement was signed to cover only that bond. 24 Ibid., p. 61 8

9 Third-Party Indemnity A surety may require the indemnity of a person or entity other than the principal if it is determined that the strength of the principal does not support issuance of the bond. Beneficial interest the surety s legal position in an indemnity action - is strengthened if the third-party indemnitor has a beneficial interest in the activities of the principal, such as: An owner A spouse A parent company Legal Entities and Indemnity When securing the legal signatures required on an indemnity agreement, it is important to understand the various legal forms an entity may take. 25 Ibid., p Ibid., p Ibid., p. 40 Individuals/sole proprietorships are the simplest forms, requiring only the signatures of the individual owner. In most cases, sureties will also require the signatures of spouses as all assets are going to be held in joint tenancy. There is no limit to the legal liability of the owner to the surety unless agreed to by the surety. Partnerships of individuals were once a common form of legal entity. They have become less so in recent years as individuals have sought to limit their liability through other forms. The liability of the owner partners is no different from that of individuals. It is unlimited as to creditors. In most cases, sureties will also require the signatures of spouses as all assets are going to be held in joint tenancy. General partnerships may be formed to include not only individuals but other legal entities. Liability becomes more complicated when dealing with general partnerships. While each general partner is individually jointly and severally liable to the surety, corporate partners shareholders and the LLC partner members will not. 25 For signature purposes: Every general partner is an agent of the general partnership for business purposes, and the act of any general partner binds the general partnership unless (a) the general partner in fact has no authority to act for the general partnership in the particular matter, and (b) the person with whom the general partner is dealing had notice that the general partner lacked authority. 26 Limited partnerships are comprised of one or more general partners, who assume unlimited liability, and one or more limited partners, who are liable only to the extent of their capital contributions For signature purposes, sureties may require all limited partners to sign the agreement in addition to an authorized general partner of each of the general partners. 9

10 Limited liability partnerships are formed to extend limited liability to each of the partners. The liability of the partners is not personal and is limited to the value of the partnership's assets. For signature purposes, sureties may require all limited partners to sign the agreement as a limited partner and individually. In addition, the signatures of spouses may be required if necessary to support the underwriting. A limited liability company (LLC) is a legal entity similar to a corporation as to the liability of its owners, but it enjoys the tax benefits of a partnership. LLCs are either member-managed, which is similar to a partnership, or manager-managed, which more closely resembles a corporation. For signature purposes, any member may typically sign on behalf of the member-managed LLC. The managers must sign on behalf of a managermanaged LLC. Corporations are a common form of legal entity for companies in the United States and for international companies doing business in the United States. The liability of shareholders in a corporation is limited to the value of their investment in the shares of the company. Shareholders have no personal liability for the debts of the entity. The two most common forms of private corporations are the C corporation and the Sub S corporation. The letters refer to the Internal Revenue Code section and relate to the treatment of income for taxes. In the C corporation, profits (losses) are paid by the corporate entity. Provided the profits are retained in the company, there is no personal liability of the shareholders for tax payments. However, if profits are distributed in the form of dividends, shareholders are taxed again on the dividend as regular income. Sub S corporate taxes are paid by the individual shareholders whether or not profits were in fact distributed. The Sub S corporate form of legal entity is typically restricted to closely held corporations, those with a limited number of shareholders. A corporation, as a legal entity, has the capacity to enter into contracts. Thus, a corporation may be a party to an indemnity agreement, either as a principal or as a third-party indemnitor, and its assets may be available to reimburse a surety s loss. A corporation may enter into a contract only on the authority of its board of directors as a whole; a corporate officer generally lacks the authority to unilaterally bind the corporation. 28 The authority of corporate officers to bind a corporation to a contract, and more specifically to bind a corporation to an indemnity agreement, is dependent upon the authorities granted by the corporate charter or by the board of directors as a whole. For this reason, surety companies generally require an indemnity agreement be accompanied by a corporate resolution signed by the corporate secretary, 28 Ibid., p

11 acknowledging that the officer signing the agreement on behalf of the corporation has been authorized by the board of directors to do so. This is particularly so if the indemnity agreement is signed by an officer other than the President or Chief Executive Officer. These officers generally have a presumption to have such authority. 5. Short Form GIA versus Long Form GIA Each surety has its own criteria for accepting Short Form GIAs as compared to Long Form GIAs. In general, the Short Form is used for: 1. Smaller contract amounts 2. one time bonding 3. Infrequent bonding client 4. Expedited need In comparing the language in a Short Form versus Long Form, the Short Form is generally silent regarding: Hold harmless Access to books and records Termination provisions for indemnitor Requirements to pay premiums Definitions of loss Notification of indemnity Requirements as to reimbursement of attorney fees, consultant, co-sureties, reinsurers, etc. Notice regarding collateral release Applicability to future bonds A Short Form GIA is better than no GIA but, due to its lack of specificity, should be avoided if possible , v. 1 11