Professional and General Liability Indemnity Proving Too Much for Subcontractors

By: | June 23, 2020

Antony Aylett is US Professions Team Leader at specialist insurance provider, CFC. He is responsible for managing a team of underwriters providing US brokers with insurance solutions for professional firms ranging from architects and engineers to oil and gas consultants to staffing agencies and accountants. Antony can be reached at [email protected]

There is an unmistakeable trend impacting many small- to midsize-enterprises (SMEs) at this time. In order to win lucrative contracts, they need to “sign on the dotted line.”

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This means that many SMEs are being forced to sign up to demanding client contracts that can expose them to a mountain of legal liabilities and hardly seek to protect them at all.

Some SMEs appreciate the need for short- and long-term benefits of having comprehensive insurance coverage, while others are happy enough if their insurance appears to meet the needs of the contract in front of them.

Unfortunately, those that purchase the bare minimum may not fully understand their true risk exposure, making them vulnerable should they fail to meet the deliverables or scope of services specified.

This Is a Serious Issue that Needs Addressing.

Typically classified as having less than 500 employees, SMEs are often viewed as the heartbeat of both emerging and developed economies.

In the United States, almost 30 million SMEs have accounted for nearly two-thirds of net new private sector jobs in recent decades. These companies are of vital importance for the growth of the United States economy and will surely have a vital role to play in shaping the economic recovery from the COVID-19 crisis.

In an ideal world, a professional services business should be buying an insurance policy that meets their exposure alongside the contractual indemnification requirements of their hiring client.

However, over recent months, there has been a noticeable increase in the number of businesses buying insurance solely to meet contractual agreements.

But What Is Behind This Direction of Travel?

Just to secure even a small part on a job, it appears that SMEs and independent contractors have little choice but to sign up for remarkably stringent contractual requirements with their often much larger hiring client.

And it’s not just SMEs facing this difficult balancing act. There is a growing trend towards employees of these larger enterprises being forced to reclassify as independent contractors; these contractors are subsequently required by the hiring client to carry insurance limits that often mirror or are close to the insurance limits the client carries themselves.

While this may act as a safety mechanism for the hiring client if a claim were to arise — spreading the risk between them and the contractor — it can also be fraught with legal risk due to the contractual terms and conditions the independent contractors sign up for.

SMEs often have to sign up for indemnification agreements that are against them or at best, mutual, as they wish to take on the job.

Should they sign these conditions, there are a couple of potential policy restrictions to watch out for. There could be contractual liability exclusions and some professional liability wordings may have a liability of others exclusion, which can exclude any loss arising from the unfavorable or mutual hold harmless provision that they’ve agreed to.

It’s not unreasonable to link this trend of ever-more stringent contractual requirements to another — the rising costs of insurance claims resulting from increased litigation, more plaintiff-friendly legal decisions and a broader definition of liability.

This is particularly potent in the form of bodily injury claims and has become a particular issue in the construction and energy industry.

It’s not uncommon for an insured having to defend a suit for just being in the wrong place at the wrong time, which can incur considerable costs to defend and ultimately indemnify.

An Example from the Energy Sector

This can occur across most professions, but here is an example from the energy sector:

An explosion occurs at an oil and gas rig where the insured had been providing advice over the past month; in due course, it is brought into a lawsuit due to the incident injuring a worker of the principal it had contracted with.

While the insured had not been onsite for a number of weeks, it was sued as all parties agreed to sign indemnification agreements in favor of the rig operator. Looking at this with the eyes of a commercial insurer or broker, this is a bodily injury claim and would therefore fall under the general liability policy.

However, the question to answer is, how did this bodily injury claim arise?

Was it due to negligent advice provided by a contractor that was being implemented on site, leading to the incident occurring? If yes, all of a sudden, this looks more like a professional liability claim — so what happens if the insured does not have errors and omissions cover in place? Would this loss go uninsured?

SMEs find themselves caught between a rock and a hard place. Their options to negotiate with the demands of the client are limited; if they don’t agree to the client’s often heavy contractual requirements, then given the challenging economic environment right now, it’s likely that a competitor will.

It can distract a business from where its true exposure lies, and being asked to agree to contractual demands to hold up to between $5M and $10M of either professional liability or general liability — or even both — can make the cost of insurance financially draining.

This clearly doesn’t make it easy for insurance brokers with professional service businesses as clients — after all, it’s their responsibility to ensure clients have the most appropriate cover for their businesses and not simply the insurance required to meet the needs of a contract.

It’s extremely important, therefore, to understand where the client’s risk exposures truly lie and whether providing just a general liability policy, regardless of the limits demanded by a contract, would leave a gaping hole in the level of protection the client is afforded.

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It is important to remember that having only a general liability policy in place will not cover an insured if it faces a claim for negligence in the advice provided — whether that is a financial loss or a claim that causes bodily injury from this advice.

Likewise, failing to perform the deliverables asked on time or to the client’s satisfaction could be deemed a breach of the contractual terms and conditions, so the exposure cannot be ignored.

These are both valuable coverages highlighting the importance of a professional liability policy in place. Operating without this could be financially devastating for the insured’s business if a claim were to arise.

It’s a challenging environment for both SMEs and their brokers as they try to ensure they are providing the appropriate level of coverage they need, at a price the client can afford — that has to be the ultimate goal. &

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