For contractors entering into agreements, it is crucial to understand the contractual language that applies to the Indemnification language, in particular, can often be ambiguous. And that can leave contractors vulnerable to losses resulting from a subcontractor’s work that damages a project. Many contractors use standard AIA contracts, but we must be aware that these contracts can obscure indemnification responsibilities and inadvertently shift liability back to the contractor.
Published by the American Institute of Architects, these forms are widely used in architecture, engineering and construction in the United States to formalize agreements between parties in a construction project. The customizable documents use standardized language to define each party’s role.
Consider a scenario where a contractor enters into an AIA contract with a building owner to construct an apartment building. The contractor hires a subcontractor to install a sprinkler system throughout the building. Proper indemnification language is included in the subcontract, and a certificate of insurance is provided.
However, after the project is completed, the sprinkler system fails due to an installation error, resulting in significant damage to the building. Since the Builders Risk policy has expired, the building owner seeks relief from the contractor, who then tenders the claim to the subcontractor based on their agreement.
The subcontractor’s insurance carrier denies the claim, arguing that the contract between the contractor and the building owner is the “controlling” contract and includes a mutual waiver of subrogation against all subcontractors. This situation illustrates a “flow-down provision,” where certain obligations and rights from the controlling contract are passed down to the subcontractor. While this provision ensures that subcontractors adhere to the same terms as the general contractor, sometimes the liability shifts back to the general contractor when the contractual language is ambiguous.
Unique project requirements: If a project has specific needs or complexities that are not adequately addressed by the standard AIA contract, a custom contract may be necessary to reflect those unique requirements.
Different risk allocation: AIA contracts have predefined risk allocations that may not align with the parties’ preferences. If the parties want to shift risk in a manner not permitted by the standard contract, a custom agreement may be more suitable.
Local laws and regulations: Some jurisdictions have specific legal requirements or regulations that may conflict with the terms of a standard AIA contract. In such cases, modifying the contract to comply with local laws is essential.
Project delivery method: If the project employs a delivery method that does not fit well with the AIA contract format (e.g., design-build, construction management at risk), it may be better to use a contract specifically designed for that method.
Project complexity: For highly complex projects involving multiple stakeholders or intricate financing arrangements, a more tailored contract may be necessary to address specific relationships and responsibilities.
Negotiated terms: If the parties have negotiated specific terms that significantly deviate from the standard AIA provisions, a custom contract that reflects those negotiations may be more effective.
International projects: For projects outside the United States, AIA contracts may not be suitable due to differences in legal systems, construction practices, and cultural considerations.
Parties’ experience and preferences: If the parties involved have substantial experience with alternative contract forms or prefer a different structure, it may be beneficial to use a contract that aligns with their preferences.
When a contractor is engaged and asked to sign a standard AIA contract with a property owner, it is important to carefully review the contract indemnification language to ensure that liability cannot be shifted back through the flow-down provision if a subcontractor’s work results in unexpected damage.
This document is not intended to be taken as advice regarding any individual situation and should not be relied upon as such. Marsh & McLennan Agency LLC shall have no obligation to update this publication and shall have no liability to you or any other party arising out of this publication or any matter contained herein. Any statements concerning actuarial, tax, accounting or legal matters are based solely on our experience as consultants and are not to be relied upon as actuarial, accounting, tax or legal advice, for which you should consult your own professional advisors. Any modeling analytics or projections are subject to inherent uncertainty and the analysis could be materially affected if any underlying assumptions, conditions, information, or factors are inaccurate or incomplete or should change.
Cindy F. Chitwood
Senior Vice President
East Regional Claim Leader
