Worker's Compensation Law Trumps Contractual Indemnity Language
Even more important for Smith to understand, other areas of the law can operate to make its indemnity agreement with Chang ineffective. While different states have different specific details in their Worker's Compensation laws, many states (such as Texas) have developed rules concerning how the Worker's Compensation bar affects indemnity agreements.
In short, one benefit employers receive through providing Worker's Compensation insurance to their employees is that the employer cannot be sued for negligence by their employees in the event of an employee injury. The rationale is that since the employee has medical and lost wages paid directly by Worker's Compensation insurance procured by the employer, the employee should not be allowed to additionally sue the employer for even greater recovery. The law provides a bar, preventing the injured employee from suing the employer in tort or negligence. The law goes on to prevent any other party from suing an employer who subscribes to Worker's Compensation, if the nature of that lawsuit would allege that the employer was negligent.
How this affects Smith is simple: Smith's right to indemnity from Chang is conditioned on Chang acting in a negligent manner. Under the Worker's Compensation laws, though, Chang is protected from being found negligent, regardless of how safe or unsafe its actual practices may actually be. The courts who have considered this issue have determined that the Smiths of the world cannot recover from the Changs under indemnity agreements such as the one presented above. The courts have explained that because the injured employee has no right to sue Chang for negligence, Smith likewise has no indemnity claim against Chang for negligence. In effect, Chang is not responsible for its acts of negligence - neither to its employees nor to Smith.
What is a Contractor to do?
What is Smith to do? It contracted with Chang for indemnity if Smith is sued for Chang's negligence, and yet, when Chang's negligence causes injury to Chang's employee, the indemnity provision in the contract appears to be meaningless. How can Smith make sure that its indemnity provision is effective? How can contractors make sure that the provisions they place in their contracts are enforceable?
- First and foremost, form contracts need to be routinely reviewed, by an attorney with knowledge of the law of the state in which the work will be performed and knowledge of the law of the state in which the contract is subject to suit. As laws can change without legislative changes - court decisions can alter the way in which a contract is to be construed - a one time review of contract terms is insufficient. Contractors need to routinely guarantee that their contracts provide them with the rights they intend.
- In addition to keeping contracts current and tailored to the jurisdictions in which they are used, contractors need to be sure that they fully understand their rights under contract terms. Contractors are not in the business of practicing law, and being required to understand the nuisance of laws may seem burdensome. But prudent business owners need to understand the limitations and the requirements of their contract, so they are not caught off guard when issues arise.
- Contractors also need to understand Worker's Compensation laws and how those laws affect them. Most businesses understand that subscribing to Worker's Compensation protects them from lawsuits. But businesses need also understand that another contractor's Worker's Compensation may also affect it.
- Because contract terms are not always enforceable, contractors need to always carry enough insurance to protect themselves, rather than relying on indemnity provisions or third-party insuring agreements. The risk of litigation is a cost of doing business, and a contractor's best defense from being caught off guard is to plan accordingly.
The problem of Smith's lawsuit by Chang's employee is simply one example of the problems that may arise in what seems to be a clearly written and easy to understand indemnity agreement. Contractors obviously rely on the terms of their contracts; otherwise, they would never include those terms in the first place. As such, contractors need to understand what those terms actually guarantee and when those terms may become ineffective.