When you think you’re covered and you’re not – insurance and contractual indemnities

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By Stefan Sudweeks, Partner, Serena Li, Lawyer, and Amy Langley, Lawyer

The Issue

Insureds may be required to provide contractual indemnities (for example, as a sub-contractor) and they take out insurance to ensure they are covered in the event of a claim, but this does not mean they are covered.

Contractual indemnities typically require the sub-contractor to indemnify and hold harmless the contractor from any losses, damages, or expenses that may arise, including because of the contractor’s actions or omissions.[1]

There lies the rub. While contractual indemnities can provide valuable protection for parties to a contract, they can also create difficulties when the scope of the contractual indemnity is wider than the insurance indemnity available to the indemnifying party.

The consequence may be that the sub-contractor is contractually liable to a claimant for the contractor’s actions or omissions. Worse still, the sub-contractor may also be contractually liable for the contractor’s legal costs incurred in defending the claimant’s claim. This goes well beyond the sub-contractor’s liability arising from its own actions.

The indemnity granted under an insurance policy usually does not cover contractually assumed liability which the sub-contractor would not otherwise be liable for in tort. This gap means that, despite having insurance, the sub-contractor is liable to pay some or all of the claim itself.

How to address the issue

In dealing with contractual indemnities, Insureds need to:

  1. identify the types of risks that may arise under the contract when they are contemplating or required to give a contractual indemnity;
  2. determine whether the risks that may arise under the contract fall for cover under the indemnity provided by their insurance contract. Put another way, Insureds need to determine whether they would be liable to the pay the claim but for the contractual indemnity;
  3. avoid using “boilerplate” indemnity clauses to ensure that the clause they use reflects, as closely as possible, the extent of cover they have under their insurance policy. This is so that if there is a “gap” between the contractual indemnity and the insurance indemnity it is a risk that the Insured assumes with its eyes wide open;

(a) It may be possible, for example, to define the types of losses or damages that are covered and place limitations on scope of the indemnity. The latter might involve “carving out” loss suffered because of the contractor’s own negligence.

  1. consider whether it ought to incorporate by reference other documents in the indemnity clause to assist the Court in determining the intention of the parties in relation to the scope of any indemnity (for example, documents were used to determine the scope of the indemnity in the GIO General case below).

When the Insurer thinks the claim is not covered under the policy and it is

It is not all doom and gloom for Insureds. The Courts have come to their rescue when it comes to determining the scope of the indemnity under an insurance policy. Arguably the Court’s approach to ambiguous clauses means that the indemnity the Insured has under its policy is generally found to be wider than the Insurer might have intend.

The High Court of Australia has held that the principles applicable in constructing guarantees are ‘relevant’ to the construction of indemnity clauses,[2] but it should be noted that insurers are not treated with the “tenderness accorded to guarantors and indemnifiers”.[3]

The Supreme Court of NSW has said that where the proper construction or ‘apparent width of possible application’ of an indemnity clause is ambiguous, ‘it might be appropriate to construe an indemnity provision contra proferentem in favour of the indemnifier as a principle of last resort.”[4]

So, where there is doubt as to the interpretation of a contract of indemnity, Courts will generally adopt the principle that the provision should be resolved in favour of the indemnifier.[5]

The two cases below illustrate the Court assisting insureds:

  • by demonstrating a reluctance to extend a contractual indemnity to include loss arising solely from the wrongful act of the indemnified party (at least without clear words)[6] ; and
  • to find cover under an insurance policy

Erect Safe Scaffolding v Sutton

In the case of Erect Safe Scaffolding, the first respondent (Mr Sutton) was injured on scaffolding that the appellant (Erect Safe Scaffolding) had provided when working on a multi-storey building site. The second respondent (Australand) was the head contractor on the site who had engaged the appellant.

The trial judge found both Erect Safe Scaffolding and Australand had breached their duty of care to Mr Sutton and that Erect Safe Scaffolding was required to indemnify Australand under the contractual indemnity for liability ‘arising out of’ performing the sub-contracted works.

The question before the Court of Appeal was whether the contractual indemnity clause confined Erect Safe Scaffolding’s liability under the contractual indemnity to loss arising out of its own performance of the sub-contracted works, or whether it extended its liability to cover Australand’s own acts/omissions relating to the works.

The Appeal Court held that Australand’s liability to Mr Sutton arose from its own failure to ensure an adequate site safety regime. It was this negligent act that caused the loss and not any act or omission of Erect Safe Scaffolding in its performance of the sub-contracted works.

Because of this finding, the scope of the contractual indemnity was confined. The loss did not “arise out of” the performance of the works.

GIO General

The case of GIO General arose from an incident where a worker (Mr McDonald) was injured whilst working at a coal mine that was operated by the respondent, Centennial Newstan Pty Ltd (Centennial). Labourforce, a subcontractor that employed Mr McDonald, was engaged by the primary contractor (Advantage) for the supply of labour for Centennial. Mr McDonald claimed damages against Centennial, Advantage and Labourforce.

Centennial sought indemnity from GIO General under a policy issued to the Advantage.  The District Court of NSW found that Centennial was liable to Mr McDonald and that GIO General had to indemnify Centennial under the Advantage policy of insurance.

GIO General appealed the decision, claiming that the policy did not include cover for Centennial’s own negligence. The appellant’s argument was based on the wording in the indemnity clause of ‘caused by or arising out of an occurrence in connection with “your” business’ and the term You/Your/Insured in the policy, which included the wording ‘but only to the extent required by such contract or agreement’.

The issue before the NSW Court of Appeal was whether the agreement between Centennial and Advantage was to be interpreted as requiring Advantage to take out insurance that would cover Centennial for liability arising from its own negligence.

The Appeal Court found that Centennial was entitled to coverage under the GIO General policy based on the terms and conditions of the agreement between Centennial and Advantage. Consideration was given to the Agreement itself, as well as the Standard Conditions and Site Regulations that were referred to in the contract containing the indemnity clause.

Gleeson JA addressed GIO General’s submission that the insurance clause in the agreement was required to be construed in the same manner as in Erect Safe Scaffolding, in which McClellan CJ said:[7]

“The approach taken in each of these decisions is that, in the absence of express words, the obligation under an insurance clause in a contract which is provided to support an indemnity clause will not require the subcontractor to maintain insurance against loss occasioned by the head contractor’s negligence.”

Gleeson JA said this was merely an observation as to approach, rather than a statement of principle, which was qualified by the need to have regard to the express words of the clause under consideration.[8]

Regarding the words of the contract, his Honour determined that the special insurance requirements in the GIO General agreement/s were intended to provide cover beyond the scope of indemnity afforded under the standard conditions of the contract. Reading all provisions of the standard conditions, special insurance requirements and indemnity clauses together, his Honour concluded that the approach taken in Erect Safe Scaffolding was not determinative of the construction to be given to the relevant clause in GIO General.[9]

Conclusion

It’s good business practice to carefully consider the scope of any contractual indemnity you might be asked to provide and to determine what liability that may attach to you under any contractual indemnity is covered under your, or anyone else’s, insurance policy.

[1] See Sunbird Plaza Pty Ltd v Maloney (1998) 166 CLR 245 at 254 (Mason J)

[2]Andar Transport Pty Ltd v Brambles Ltd (2004) 217 CLR 424; [2004] HCA 28 (‘Andar v Brambles’) at 437 [23].

[3] Certain Underwriters at Lloyds of London v Allianz Australian Insurance Ltd [2018] VSC 735 at [63], quoting Todd v Alterra at Lloyds Ltd (2016) 239 FCR 12, 22 [40] (Allsop CJ and Gleeson J).

[4]Woolworths Group Ltd v Twentieth Super Pace Nominees Pty Ltd [2021] NSWSC 344 at [26].

[5] Referred to as the doctrine of strictissimi jurisAndar Transport Pty Ltd v Brambles Ltd (2004) 217 CLR 424 (‘Andar v Brambles’) at 433-437; [2004] HCA 28 at [17]-[18], citing Ankar Pty Ltd v National Westminster Finance (Australia) Ltd (1987) 162 CLR 549 at 561 and Chan v Cresdon Pty Ltd (1989) 168 CLR 242 at 256.

[6] Erect Safe Scaffolding (Aust) Pty Ltd v Sutton [2008] NSWCA 114 and GIO General Ltd v Centennial Newstan Pty Ltd [2014] NSWCA 13.

[7] Erect Safe Scaffolding at [166] (McClellan J), quoted in GIO General at [135]-[143].

[8] GIO General  at [136]-[137], quoting Erect Safe Scaffolding  at [5], [154].

[9] GIO General  at [143].

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