Before ground is broken or hammers are put to nails, well-drafted agreements governed by construction contract law set the essential foundation for all parties involved in the construction project, including owners, contractors, and subcontractors. Those in the construction industry should be mindful of potential gaps in these construction contracts that can lead to delays or construction litigation. One of the most common places that such a gap can present itself is in the insurance that a contractor or a subcontractor is required to obtain for the project.
The foundation of contractor and subcontractor liability insurance is the Commercial General Liability (“CGL”) Policy, which protects contractors from claims of bodily injury or property damage due to an “occurrence” – typically defined in a CGL Policy as “an accident, including continuous or repeated exposure to substantially the same general harmful conditions” – that takes place during the policy period. However, policy exclusions can significantly limit coverage, including:
- Impaired Property Exclusion – No coverage for damage due to a defect in “your work” or failure to meet contract terms.
- Contractual Liability Exclusion – No coverage for liabilities assumed in a contract unless within an “insured contract.”
- Professional Services Exclusion – No coverage for design or consulting errors.
Contractors must carefully review their contracts to ensure they are not accepting liability that their insurance does not cover. This is particularly important when dealing with defense and indemnity provisions, additional insured obligations, and risk of loss allocations.
Defense and indemnity clauses are common in construction contracts, shifting legal and financial responsibilities between owner and contractor (or general contractor and subcontractor) in the event that project-related claims asserted by individuals or entities who are not parties to the construction contract. “Defense” and “Indemnity,” as used in most standard construction agreements, are different things. Defense obligations require the indemnitor to pay the indemnitee’s legal defense costs (including attorney’s fees) . Indemnity obligations require the indemnitor to reimburse the indemnitee or pay on the indemnitee’s behalf for damages resulting from a judgment or fund settlement of the claim. However, Contractual Liability Exclusions in construction CGL policies can leave contractors exposed if they assume broad liability for defense and/or indemnity in a contract. Unless the obligation falls within an “insured contract” (as defined in the policy), the insurer will not cover claims arising from those contractually assumed liabilities. To avoid this gap, contractors should:
- Limit indemnity obligations to third-party bodily injury or property damage (as opposed to direct breach of contract damages for which the contractor may be liable directly to the owner).
- Avoid broad indemnity clauses that hold the contractor responsible for an owner’s negligence.
- Consult with an attorney to verify that indemnity language aligns with state anti-indemnity laws, which may restrict these provisions.
While indemnification is a largely accepted risk in construction contracts, contractors and subcontractors must carefully review the scope of indemnity provisions to ensure that their indemnity obligations are limited to third-party bodily injury or property damage rather than broadly assuming liability for defense and indemnity obligations that are often uninsurable.
Many contracts also require contractors to list owners as additional insureds under their CGL policy. A/I coverage should be limited, however, to liability arising from the contractor’s negligence, to the exclusion of any independent fault or negligence of the owner or other any third parties. Some states, including Louisiana, prohibit requiring A/I coverage for an owner’s sole negligence unless (1) the contract explicitly requires it; and (2) the indemnitee (owner) pays the additional premium for the coverage. To avoid unintended liability, contractors should ensure endorsements clearly define the scope of additional insured coverage and confirm they are not extending protection beyond their work.
Another critical consideration is risk of loss before a project reaches Substantial Completion. Many contracts place the burden of theft, damage, or destruction on the contractor until the owner formally accepts the work. However, the Impaired Property Exclusion in a CGL policy may deny coverage if the issue is related to defective work or failure to meet contract terms. Without proper risk allocation, contractors could be responsible for costly repairs or replacement of damaged work. To mitigate this risk, contractors should:
- Ensure the contract clearly defines when risk transfers to the owner.
- Confirm whether Builder’s Risk Insurance (BAR) or similar coverage is required or needed.
Key Takeaways
To mind the gap in construction contracts, contractors and subcontractors should:
- Ensure that contract language is clear, comprehensive, and specific in a contract that is drafted by experienced legal counsel.
- Consult with your agent/broker/attorney to ensure your coverage aligns with your contractual obligations.
- Verify that contract exclusions do not conflict with your CGL policy.
- Limit contractual indemnity to third-party tort claims (bodily injury or damage to property).
- Ensure Additional Insured obligations are properly structured.
- Make sure that pre-completion Risk of Loss is covered by BAR or other insurance separate from contractor’s CGL policy.
By taking these steps to mind the gaps in construction contracts, contractors and subcontractors can help safeguard their projects from costly complications and ensure smoother collaboration among all stakeholders.
Disclaimer: This material is provided for informational purposes only. It is not intended to constitute legal advice, nor does it create a client-lawyer relationship between Galloway and any recipient. Recipients should consult with counsel before taking any actions based on the information contained within this material. This material may be considered attorney advertising in some jurisdictions.
John F. McCormick
Licensed in Louisiana
jmccormick@gallowaylawfirm.com | 504-525-6802
Tate Martin, II
Licensed in Louisiana
tmartin@gallowaylawfirm.com | 504-525-6802