Contracts Drafting Four: Indemnification
Hey! It’s Shaunt of the Oozoonian Law Corporation here bringing the fourth article in the contract drafting series. This one’s about indemnification clauses and how an indemnification provision in a contract could serve to help or hurt you.
An indemnification clause, generally, shifts the financial burden of loss or litigation between the parties. These types of clauses can be very broad or very narrow in scope.
The indemnification clause in our sample PSA reads as follows:
“Seller shall indemnify and hold harmless Buyers from any and all claims arising out of, alleged to arise out of, or in any way relating to the sale, function, or use of the …..”
The third article in the Contract Drafting Series explained attorney’s fees clauses and how California law provides that even though a contract entitles only one party to recover attorney’s fees that the clause is interpreted as reciprocal (that either party is entitled to recover attorney’s fees if that party is deemed the “winner” of the lawsuit). However, indemnification clauses are not reciprocal and will be enforced according to the terms of the contract.
Therefore, only the Buyers are entitled to indemnification by the Seller. The Seller is not entitled to indemnification unless there is a contract provision somewhere else in the contract that provides Seller with indemnification.
Okay, so what does it mean?
If the Buyers are ever sued because the item of the contract causes damage to a third party, the Seller has agreed to compensate the Buyers for their financial losses from that claim.
Some indemnification clauses require the indemnifying party to provide for the defense of the claims (including lawsuits) brought against the other party by paying for their defense, including attorneys fees. Other indemnification clauses merely require one party to compensate the other party for the financial losses it has sustained, and not to put on their defense.
Why would you want an indemnification clause?
Imagine the hypothetical scenario where you, as a purchaser, are purchasing a large, heavy-duty crane to assist in your construction project. Although you trust the manufacturer that the crane was built perfectly and won’t malfunction for any reason, you should take care to negotiate an indemnification clause that requires the seller (the crane manufacturer) to indemnify you for any losses you sustain as a result of the crane’s accidental malfunction. Let’s say a screw was improperly screwed into the crane, which resulted in the crane swooping irregularly and also resulting in the crane causing damage to a nearby structure that was not intended to be demolished. The structure is now damaged with a gaping hole and, absent your indemnification clause, you would be responsible to the structure’s owner for the damages the crane caused. However, since you’ve negotiated for an indemnification clause and since you are able to prove that the damage resulted from the crane and the manufacturer’s negligent manufacture of the crane, the seller (manufacturer) would be required, pursuant to your contract, to defend you in the lawsuit and pay for the damages caused to the structure. You can focus on your business and be rest-assured that the manufacturer will take liability and play its role to defend your interests and compensate your losses.
How could it hurt?
You could have been the manufacturer in the scenario above.
Should all contracts have an indemnification clause?
It’s not necessary. But sometimes an indemnification clause could cause an additional sum of money to be passed from one party to the other, or could facilitate trust between the parties. Granted, if you are about to agree to indemnify the other party, you should exert effort to anticipate the potential financial consequences prior to signing.
Shaunt Oozoonian
Oozoonian Law Corporation
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