Contractual insurance clauses are valuable risk transfer tools that, if properly drafted, require the other party’s insurer to pay for liabilities arising out of that party’s performance under the contract. Leases, construction contracts, license agreements, and nearly every other type of contract contain some insurance requirement. I review hundreds of contracts each year and consistently find poorly drafted, ineffective insurance provisions. The following are common mistakes and how to avoid them.
1. Inadequate Insurance Requirements
Some contracts only require a party to “carry and maintain general liability insurance during the course of performance under this Agreement” and contain no additional requirements. This language fails to accomplish the goal of every contractual insurance provision: to ensure that an insurance company is there to pay for damages when the contracting party is bankrupt or otherwise cannot pay. Contractual insurance provisions should at least include notice of cancellation, minimum liability limits, and additional insured requirements. The contract should also require coverages specific to the contract, i.e. a contract for professional services should require the party performing those services to maintain professional liability insurance.
2. Inadequate Additional Insured Requirements
A party named as an additional insured on another party’s liability insurance has coverage under that insurance policy for claims arising out of the other party’s performance under the contract. A party can be named as an additional insured for claims arising out of the other party’s “ongoing operations” and, if required by the contract, the party’s “completed operations” as well. Additional insured status is provided by endorsements to the underlying insurance policies. These endorsements typically provide additional insured status “when required by written contract,” so if the written contract does not require a party to be named as an additional insured then the party is not an additional insured even if a certificate of insurance is issued stating that “Certificate Holder is an additional insured.” Contractual insurance provisions for Additional Insured status should at a minimum include the following language:
- Primary. The insurance provided to an Additional Insured is “primary,” meaning that the other party’s insurance will pay first. Some insurance companies will name another party as an additional insured on an excess basis only, meaning that the insurance company will only pay if and when the additional insured’s own insurance policy limits are exhausted.
- ISO Additional Insured Endorsement Forms v. Manuscript Forms. Insurance Standards Office (ISO) publishes Additional Insured Endorsement forms (i.e., CG 20 37). However, many insurers have drafted their own “manuscript” endorsements that are much more restrictive than the ISO forms. Contractual insurance provisions should specify the ISO forms that are to be used to avoid the restrictions and exclusions on the manuscript forms.
- Completed Operations. If liability can arise from an event that occurs after performance under the contract has been completed, then Additional Insured status should be requested for Ongoing and Completed Operations. Otherwise, once performance under the contract ends, the additional insured status ends as well.
- Separation of Insureds. Most insurance policies include an “Insured v. Insured” exclusion that excludes claims by one named insured against another named insured on the same policy. The contract should include a requirement that each party is considered a separate insured so that the insured v. insured exclusion does not apply to claims by an additional insured against the named insured.
3. Impossible Insurance Requirements
Many contracts contain impossible requirements, including the following:
- “Coverage for any and all claims”: No insurance policy will cover “any and all claims.”
- “Coverage without limitation”: Every insurance policy contains limitations.
- “Name contracting party as an additional insured on all policies”: A party generally cannot name another party as an additional insured on professional liability and workers compensation insurance policies.
- “Commercial General Liability Insurance policy with a Combined Single Limit of”: General liability insurance policies are not written on a Combined Single Limit basis: they are primarily written on a per occurrence basis.
- “Insurer must provide 30 day notice of any cancellation”: Insurers can cancel an insurance policy for nonpayment with 10 day notice, and they rarely waive the right to do so.
4. Impractical Insurance Requirements
Some contractual insurance provisions require coverage for nonexistent liabilities. For example, some construction contracts require every contractor to carry pollution liability insurance even if that contractor has no exposure to pollution liability. Similarly, some contracts require extremely high limits of liability even though standard liability limits adequately cover the exposure. These “one size fits all” contracts drive up costs of performance and provide no benefit.
To avoid these common drafting errors, review your contracts with a knowledgeable insurance broker who should be able to provide guidance on the appropriate contractual language, liability limits, and coverages to protect your clients.