KEY TAKEAWAYS

  • Indemnification helps to provide parties with financial protection from loss or damages that result from another’s actions.

  • Indemnities can be contractual, tortious, or statutory,

  • Indemnities can result in unexpected liabilities and may extend beyond the originally intended scope.

What is Indemnification?

If you have drafted or reviewed a contract, you have likely encountered an indemnification clause, provision, or agreement. These may arise in many contractual settings. In the business world, indemnification is a safety net, providing parties with financial protection from loss or damages that result from another’s actions. This often leads to more desirable business relationships.

 

Definition of Indemnification

Indemnification should not be confused with a warranty or insurance. Unlike the latter, it is not something you purchase; instead, it is an agreement between parties that ensures that one party pays the other for any losses or damage and may require that the other party to pay for a defense of a party. The agreement may be expressed or implied.  The payment for indemnification may come in the form of cash, refund, or replacement. You may also see it as payment for expenses, including attorney fees and repairs.

Contractual Indemnification

A type of indemnification is a contractual indemnification. This legally enforceable agreement holds one party liable for losses or damages from a contract. For this to be enforceable, the contract must be legal. Under the auspices of a contractual indemnification, the injured party can sue to enforce the agreement if a party breaches the contract.  This can lead to a lawsuit about the existence and scope of any indemnity obligations.

Tortious Indemnification

Another type of indemnification is tortious indemnification. This indemnification allows a defendant liable in a tort action to shift some or all of the damages to another party. This typically arises in negligence or product liability cases. 

Statutory Indemnification

Another type of indemnification is statutory indemnification. This type grants corporations the statutory right to indemnify their directors, officers, and employees, protecting them from being personally liable for their employer's actions. 

 

Indemnification Clause

Indemnification provisions are commonly included in contracts. It works to ensure that one party does not bear the financial burden in the event of loss–in particular, when the loss is caused by another company’s services or products. These clauses often provide broad protections to one party, including the right to a defense paid by the other party. These clauses may also include a hold harmless provision.  

These clauses are attractive for members of a company’s Board of Directors and contractors. This protects them against liabilities, losses, and lawsuits that may result from serving on the board of the company.

 

Indemnification Agreements

You may have also come across indemnification agreements. These typically have a narrower scope than a clause. An indemnification agreement may limit specific claims, losses, damages, and liabilities. It may also include where and how to notify the indemnifier about the losses and the time frame to do so. You can find an example here if you need assistance drafting an indemnification agreement. As always, you will want to seek legal counsel in preparing and finalizing an indemnification agreement.

 

How Indemnification Works

Indemnity rules vary by jurisdiction and contract type. However, indemnification typically works like this:

 

  1. A specific event or action triggers the indemnification process. This could be a breach of contract, a lawsuit, or malpractice. 

  2. Next, the indemnified party will be notified that there is a claim of loss. 

  3. Parties may seek legal counsel.

  4. Advance payments may be requested and made.

  5. Parties will reach a settlement.

 

A typical example of indemnification is car insurance. In this type of agreement, the insurance company typically agrees to indemnify the insured against loss or damage. You may also find contractual indemnifications in leases, vendor agreements, and construction contracts.


 

Pros and Cons of Indemnification

 

Including an indemnification in your next contract has many benefits and drawbacks. Let's examine a few.

Advantages 

Disadvantages 

Parties with the security of financial protection from loss or damages.

Indemnities can result in unexpected liabilities and extend beyond the originally intended scope.

Encourages individuals to become board members of corporations.

Indemnification clauses may be difficult to enforce.

Helps to allocate risk between parties.

Disagreements can arise over the interpretation of the indemnification provision.

Legal Considerations

When drafting or negotiating indemnification clauses, statutes, or provisions, ensure the clauses are enforceable, transparent, and fair. You should also ensure that it includes the likely types of recoverable events and damages. Since many indemnification clauses are limited, you want to avoid running into trouble attempting to enforce them.

 

Conclusion

An indemnification can be a great addition to your next contract. Before drafting one, you should determine the type of indemnification that fits your business needs. If you need assistance, you should work with an attorney to add an indemnification to your next contract. 


 

Frequently Asked Questions

What does indemnification mean in company law?

In company law, more often referred to as business law, indemnification refers to the process of a company agreeing to compensate its officers, directors, and employees for certain liabilities or legal costs that arise from the company’s actions.

 

What does it mean to be entitled to indemnification?

Being entitled to an indemnification means a person has a legal right to be compensated against certain losses, damages, or legal costs incurred while performing their official duties.