Contractual Liability Coverage

Construction contracts usually include many provisions aimed toward transferring legal liability from one party to another. In an agreement between a general contractor and a subcontractor, the sub assumes the general’s liability. The contract does this by inserting an indemnity agreement (also known as a hold-harmless agreement) into the contract’s terms.

The contract may also require the sub to have the general named as an additional insured on its general liability insurance policy. Though not all contracts do this, it is a mistake for either contractor to assume that the insurance company will provide the same protection to the general without an additional insured endorsement to the policy.

Liability Coverage

The standard Insurance Services Office Commercial General Liability Coverage Form specifically excludes coverage for liability the insured assumes in a contract. However, it adds coverage back if the contract is an ‘insured contract,’ as the policy defines the term. The policy’s definition includes hold-harmless agreements where the insured assumes another’s tort liability. That would appear to take care of the sub’s obligations under the contract, but it is not the whole story. The coverage may still contain a potentially large gap for the general.

It is important to keep in mind that, in any liability-insurance claim scenario, the parties fall into three categories: insurance company, insured, and claimant. A claim may involve multiple insureds, multiple claimants, or even multiple insurance companies, but all parties will fall into one of the three categories. If a party is not an insurance company and is not an insured by virtue of an additional insured endorsement, then it must be a claimant. Therefore, a general contractor in this situation becomes a claimant along with all other claimants seeking damages.

The Cost of Legal Defense

While the general contractor may receive the same recovery for damages that it might have received as an additional insured, it might not fare as well regarding the cost of its legal defense. The CGL policy pays for defense costs incurred by anyone who is an insured under the policy, and coverage for those costs is in addition to the policy limits. If the policy has a limit of $1 million per occurrence and an insured is found liable for $1 million and runs up $500,000 in defense costs, the policy pays for both in full. As a claimant, however, the general can recover defense costs only if the hold-harmless agreement with the sub requires the sub to indemnify it for defense costs.

Also, it is likely that coverage for those costs will not be in addition to the policy limits. The ISO CGL policy provides defense in addition to the limits for the general only if all of the following conditions are met:

The sub assumed the general’s liability in an insured contract;

The policy covers the loss;

The sub assumed the general’s defense costs in the contract;

There is no conflict of interest between the general and the sub;

Both parties ask the company to control and conduct the defense and both agree to the same counsel for defense; and

The general agrees in writing to cooperate with the insurance company in the settlement of the claim.

If any one of these conditions is not met, the company will pay the general’s defense costs only until the claim exhausts the insurance limits.

Coverage for defense costs is one of the most important benefits of being named as an additional insured on another entity’s liability insurance. An entity that needs this coverage should require the other contractor to provide the additional insured endorsement. Relying on the contractor’s contractual liability coverage is a major financial gamble.

David W. Griffin Sr. is senior vice president of the Dowd Agencies. He has more than 30 years of experience in the insurance industry. He holds his advisor’s license, as well as the professional designation certified insurance counselor; (413) 538-7444;[email protected]. The Dowd Agencies is a full-service agency providing commercial, personal, and employee benefits, with four offices in Western Mass.