Protecting a General Contractor from Liability Caused by a Subcontractor

By Andrew Reidy and Seth Lamden

General contractors sometimes face liability for the acts of their subcontractors. The most common ways to protect the general contractor from liability are by indemnification agreements with the subcontractor and with additional insured endorsements to the sub-contractor’s liability insurance. This article examines issues relating to contractual indemnifications and to additional insured status for a general contractor.

The limits of contractual indemnification. Nearly every construction subcontract contains a contractual obligation requiring the subcontractor to indemnify the general contractor for liability stemming from the subcontractor’s acts or omissions. The indemnity obligation typically covers settlements, judgments, and defense costs.

The typical contractual indemnification provision may provide only limited protection for a general contractor. For example, it will not apply to a claim where the general contractor was solely negligent or to a claim where there is no negligence by the subcontractor. Further, a general contractor’s failure to give timely notice of a claim to the subcontractor could result in the general contractors losing its right to indemnity.

Even if a claim falls within the contractual indemnification provision, the indemnification agreement may not provide immediate protection for the general contractor. Depending on the actual language of the indemnity agreement, a general contractor’s right to indemnification for defense costs could arise at the time a claim is brought or only when there is a judgment or settlement in the underlying action. In many situations, a general contractor often ends up paying for its own defense and for any settlement or judgment and then pursuing reimbursement from the subcontractor.

Finally, a contractual indemnification provision is only useful if the party providing the indemnification is solvent. Many subcontractors are not financially stable and may either fail to perform a contractual indemnification or attempt to negotiate paying something less than the full indemnification called for in the contract.

Naming the general contractor as an additional insured. Owing to the problems that arise in connection with enforcing contractual indemnity provisions, many general contractors require the subcontractor to add the general contractor to the subcontractor’s commercial general liability (CGL) insurance policy as an additional insured. This not only avoids the possibility that a general contractor will have to incur significant attorney fees defending itself and/or pursing indemnity, but allows the general contractor to be defended and indemnified by an insurer other than its own. Ultimately, this saves the general contractor from paying increased insurance premiums.

Additional insured endorsements vary in the scope of coverage they provide. Nevertheless, additional insured coverage is valuable to a general contractor, and an indemnification agreement should not be considered to be a substitute for this type of coverage. Some older versions of additional insured endorsements provide coverage to the additional insured to the extent that the claim arises out of the named insured’s work or product. Courts have found that the scope of coverage provided by the term “arising out of” is broad. In general, “arising out of” requires only some sort of causal relationship between the named insured’s work and the additional insured’s liability. Given the breadth of the phrase “arising out of,” additional insured coverage provided by such an endorsement should include coverage for claims for which the additional insured is solely negligent.

One obvious limitation on the scope of additional insured coverage is the policy limits. Generally, the additional insured shares policy limits with other insureds on the policy, and an insurer must treat all insureds equally. Sometimes an insurer is faced with the dilemma of whether it can exhaust remaining policy limits to settle a matter for one insured without violating its duties to other insureds.

A CGL insurer’s duty to defend. An issue that frequently arises is whether a subcontractor’s CGL insurer must defend the general contractor who is not an insured but has an indemnification agreement with the subcontractor. There are two independent ways a general contractor may be entitled to a defense in this situation. First, in some CGL policies, if the indemnitee is entitled to a defense from the subcontractor under the indemnification agreement and if the claim against the general contractor involves liability covered by the insurance policy, the subcontractor’s CGL insurer must pay for the defense of the indemnitee general contractor. In this situation, the defense costs may be treated as “damages” and, therefore, may be subject to the policy limits.

Second, the indemnitee general contractor may be entitled to a defense pursuant to the “supplementary payments” section of the CGL policy if a number of conditions are satisfied, including: Both the indemnitee and the indemnitor are defendants in the third-party lawsuit; the third-party lawsuit seeks damages for which the insured has assumed the liability of the indemnitee in an “insured contract”; the liability assumed by contract is for damages for property damage or bodily injury caused by an occurrence that is not excluded by any policy exclusion; and the indemnitor has assumed the indemnitee’s costs of defense in the insured contract.

Covering a general contractor’s indemnity claim. The insuring agreement of a standard CGL policy obligates the insurer to provide coverage for “all sums that the insured shall become legally obligated to pay as damages because of bodily injury or property damage . . . [c]aused by an occurrence.” A lawsuit by a general contractor for indemnification may fall within coverage as the term “damages” has been construed to include an indemnification obligation. Therefore, a subcontractor’s liability insurance might cover such a claim.

Insurers attempt to limit their liability for certain contractual liabilities. For example, they may eliminate coverage for “‘bodily injury’ or ‘property damage’ for which the insured is obligated to pay damages by reason of the assumption of liability in a contract or agreement.” Some coverage for contractual liability—including agreements to indemnify or hold harmless—remains, however, because the exclusion contains an exception that restores coverage, among other things, for liability assumed in an “insured contract.” “Insured contract” is defined to mean “[t]hat part of any other contract or agreement pertaining to your business. . . under which you assume the tort liability of another party to pay for ‘bodily injury’ or ‘property damage’ to a third person or organization.” Thus, any contract pursuant to which the insured expressly assumes the tort liability of another—including an indemnity agreement—can be an “insured contract.”

Conclusion. When a general contractor hires a subcontractor, the general contractor wants assurances that it will not be held liable for the subcontractor’s negligence. The general contractor also wants assurances that it will not have to spend its own money to defend claims arising out of the subcontractor’s negligence. It is important that a general contractor negotiate with its subcontractors indemnity agreements that are specific and enforceable under the law of the state that governs the contract. It also is important that the general contractor negotiate (and enforce) insurance specifications by which the subcontractor names the general contractor as an additional insured and procures liability coverage that is broad enough (and has sufficient limits) to cover the subcontractor’s indemnity obligations pursuant to the insured contract.

For More Information About the Tort Trial & Insurance Practice Section

- This article is an abridged and edited version of one that originally appeared on page 20 of The Brief, Spring 2008 (37:3).

- For more information or to obtain a copy of the periodical in which the full article appears, please call the ABA Service Center at 800/285-2221.

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- Periodicals: The Brief, quarterly magazine; Tort Trial & Insurance Practice Law Journal, quarterly law review; TortSource, quarterly newsletter.

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Andrew Reidy is a partner in Howrey LLP’s Washington, D.C., office; he may be reached at . Seth Lamden is a partner in Howrey LLP’s Chicago office; he may be reached at .

Copyright 2008

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