Risk Transfer Mechanisms
Additional insured or contract indemnitee? What difference does it make?
- Laura B. Dowgin
- September 2020
Commercial contracts, such as construction contracts and leases, often have both insurance procurement and contract indemnity provisions. For example, many project owners in New York require their general contractors to provide additional insured coverage to them as part of the construction contract. In that same contract, the general contractor likely also agrees to defend and indemnify the owner for all liability arising out of the work, to the fullest extent permitted by law. Why have both? These risk transfer mechanisms are distinct and have some important differences and considerations for both insurers and policyholders.
Importantly, an insurer is bound only by the terms of the policy it issued to its insured. It is not bound by the terms of its insured's contracts.
If the general contractor agreed in its contract to provide additional insured coverage to the owner, but the policy itself has no such provision, or if the owner does not satisfy the terms of the additional insured endorsement, the insurer does not owe coverage to the owner. This is so, regardless of what the general contractor promised in its contract. The general contractor may be in breach of contract if it did not obtain the insurance it promised, but such a claim is not covered by a commercial general liability policy.
Thus, when considering whether to accept an additional insured tender, insurers need only consider their own policy language. However, even if an insurer does not owe additional insured coverage, it is prudent to consider whether their policyholder is likely to owe contract indemnification to the entity seeking coverage.
While a breach of contract for failure to procure insurance is not covered, a claim for contract indemnification could be, if the policy's contractual liability exclusion has an exception for insured contracts.
If the insurer has to defend its policyholder against a contract indemnification claim, and ultimately indemnify it for that liability, it may be more cost effective to accept the tender even where there is no additional insured coverage. In that scenario, the basis for agreeing to defend an entity that is not an insured is the fact that the insurer would owe indemnity to its own insured for those defense costs.
An argument can be made then, that this proffered defense should reduce the policy limit. The standard commercial general liability policy also states that the insurer will defend the insured's indemnitees, outside the policy limit, but only if the same defense counsel can represent both and if the indemnitee agrees to cooperate with the insurer (among other conditions that must be met).
Another consideration is the scope of additional insured coverage. While anti-indemnity statutes may prohibit one party from shifting the risk of its own negligence to another, insurance is often an exception. For instance, New York's General Obligations Law Sec. 5-322.1 states that an agreement to indemnify a party for its own negligence is void as against public policy, but it does not affect insurance coverage. Thus, if an owner negligently causes or contributes to an accident, it may not be able to pass all of its liability to the contractor in a contract indemnity claim, but it may be entitled to complete indemnification as an additional insured.
Contract indemnification and additional insured coverage are two different methods to transfer risk that are often seen together. Understanding the differences and how the concepts affect each other will enable parties to make more educated and efficient decisions.
Best’s Review contributor Laura B. Dowgin is a member of Cozen O’Connor and is co-chair of the firm’s Casualty & Specialty Lines Practice Group. She can be reached at email@example.com.