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Contractual risk transfer is an indispensable part of any construction risk management program; and the primary goal of effective contractual risk transfer is to place the financial consequences of a loss on the party best able to control and avoid the possibility of injury or damage, without violating statute or creating an “unconscionable” contract (defined as a contract that is unreasonable due to the unequal bargaining strength of the parties, or the result of undue influence or unfair tactics). Two key elements necessary to effectively accomplish this goal are: 1) a strong “Indemnification Agreement” within the construction contract; and 2) assurance that the entity to which the financial responsibility is being transferred has ample financial means to protect each party to the contract, either by sufficient financial reserves or adequate amounts of insurance.

The indemnification agreement is the heart of contractual risk transfer. Such an agreement may read, in some form, as follows: “For and in exchange for fair and equitable consideration, the “Transferee” (the sub-contractor, sub-subcontractor, etc.) agrees to indemnify and hold harmless “transferor” (the GC, owner, project manager, etc) for and from any and all loss or cost arising in whole or in part from the “transferee’s” negligence, or wrongful act.” “Indemnification” shields the transferor from the financial consequences of the loss and the “Hold Harmless” wording protects the transferor against the legal process that may result from an injury.

Indemnification agreements, in whatever form, are not affected by, nor do they directly affect the insurance coverage; they are purely contractual requirements. But beyond the indemnification agreement, and in order for contractual risk transfer to accomplish its stated goal, the entity to which the financial consequences are being transferred (the “transferee”) must extend some level of financial protection to the “transferor.” This can be accomplished by naming the transferor as Additional Insured, and by use of a Waiver of Subrogation endorsement in favor of the transferor.

Requiring the transferee name the transferor as an “Additional Insured” is recommended and a generally accepted contractual insurance requirement. Being named as an additional insured satisfies two necessities of effective contractual risk transfer for the transferor: 1) the transferor is defended against and financially protected for the negligent acts of the transferee by the transferee’s insurance carrier; and 2) the transferor is insulated, except in rare circumstances, against the subrogation rights of the insurance company.

Construction contracts can and often do require the transferee endorse a “Waiver of Subrogation” in favor of the transferor onto the insurance policy. However, insurance carriers may refuse this request for reasons outside the scope of this article. The waiver of subrogation endorsement is not absolutely necessary – if the indemnification agreement is written to include such waiver, and the additional insured requirements are met.

Subrogation rights flow from the injured party’s right to subrogate. If the subcontractor’s right to subrogate is waived by contract prior to a loss, the insurance carrier has no right to subrogate. The indemnification agreement should include provisions waiving the subcontractor’s right to subrogate; this waiver may need to be included as a separate paragraph in the contract, depending on how a particular state’s statute addresses the breadth of indemnification allowed.

Properly drawn construction contracts delineate the contractual risk transfer responsibilities of the contracting parties. However, no single article can anticipate every individual need or answer every question regarding contractual risk transfer. Outside expertise is necessary when developing a contractual risk management program or when responding to one as the transferee.

The link between project design and construction job site safety is a concept that is being widely explored. In July 2007, the National Institute for Occupational Safety and Health (NIOSH) hosted the first Prevention through Design workshop as a prelude to a national effort to eliminate occupational hazards and control risks to workers early on in a construction project.

OSHA is also taking part in this effort. It has formed a partnership with the American Society of Civil Engineers to promote safety through design. Their Design for Safety workgroup has developed a number of instructional presentations outlining how to achieve this objective. They also maintain a Web site at www.designforconstructionsafety.org.

These efforts are the result of some prominent academic research. In a 2006 study titled An Analysis of Construction Accidents from a Design Perspective, researcher Michael Behm, Assistant Professor in the Occupational Safety Program at East Carolina University, analyzed 450 reports of construction workers’ deaths and disabling injuries obtained from OSHA and NIOSH. His purpose was to determine if a proactive approach to safety in project design could have prevented the incidents. What he discovered was that in 151 cases, the hazard that precipitated the incident could have been eliminated or reduced if designing for safety measures had been incorporated into the plan.

When project designers use a designing for safety approach, they address features of a project that impact on construction worker safety. Examples of this in Behm’s study include deigning parapet walls to be at least 42 inches high, which act as a guardrail to prevent workers from falling; alerting construction company management to the safety hazards at the work site; and noting on contract drawings of the location of existing overhead power lines.

Designing for safety is a natural outcome of the Hierarchy of Controls methodology used by safety professionals. This approach focuses on finding ways that are inherent in the project itself to reduce or eliminate workplace hazards before relying on external factors, such as personal protective equipment or administrative controls. Practitioners of the Hierarchy of Controls philosophy believe that waiting until construction begins substantially limits your risk abatement options to those that provide the lowest amount of protection.

As of a result of his research, Behm made the following recommendations:

• The construction industry should implement the concept of designing for construction safety as a standard practice to reduce safety risks. However, implementing the design-for-safety concept is only one element in a systems approach for preventing injuries and deaths among construction workers. The contractor must continue to play a critical role in ensuring worker safety and must adhere to the design-for-safety specifications.
• Designers should include fall protection in specifications for roofs, skylights, and structural steel construction.
• Designers should include barriers and other measures that prevent contact with electrical and other utilities.
• Designers should consider incorporating design-for-safety measures in all types of projects, including residential, commercial, and industrial, as well as new projects, renovations, and demolitions.
• Root-cause accident analysis and other accident investigations should routinely consider whether design-for-safety modifications could have prevented the incident. As safety professionals demonstrate the link between the design-for-safety concept and construction incidents, they will drive its implementation as a method to reduce overall project risk.

Most construction projects involve written contracts. A contractor signs a contract with the project owner, with the general contractor, or with a subcontractor on the project. The contract normally spells out the obligations of the contractor regarding, among other things, the insurance the contractor must carry and liability that he will assume. Construction contracts often contain “indemnification” agreements under which the contractor agrees to assume some of the owner’s or general contractor’s liability for accidents that occur during the project. Should something happen, will the contractor’s General Liability insurance policy pay for the damages he assumed?

The policy is probably similar to the Insurance Services Office’s Commercial General Liability Coverage Form. This form covers the injury or damage for which the insured is liable because he assumed liability in an “insured contract” executed prior to the accident. It also covers attorney fees and other litigation expenses to defend the owner or GC if the contractor agreed to assume those costs in the contract. By an insured contract, the form means:

• A lease of premises
• A sidetrack agreement with a railroad
• An easement or license agreement
• An indemnification agreement with a municipality
• An elevator maintenance agreement
• Other business contracts

Contractors are mainly concerned with these “other” business contracts, as construction contracts fall into this category. The general liability form covers the tort liability of one party assumed by another. This means that, for coverage to apply, the first party must have some legal responsibility for injury or damage suffered by someone else.

For example, assume GC hires SC to run the cabling in an office building GC is constructing. GC and SC sign a contract in which SC agrees to assume GC’s liability for injuries and damage SC may cause during the project. One of SC’s employees trips over a toolbox that was resting on a ladder, and the falling tools injure an employee of another contractor on the job. The injured employee sues both GC and SC for medical costs and pain and suffering. Because SC agreed to assume GC’s liability for injury or damage suffered by a third party (GC’s tort liability), the contract qualifies as an insured contract. SC’s liability insurance will cover GC’s liability and provide legal defense for GC.

The insurance will not cover all of a GC’s tort liability, however. A third party must suffer bodily injury or property damage before coverage will apply. Suppose GC turns the completed building over to the owner, and the owner finds that computer networks do not work in four offices. The owner determines that the problem is the result of faulty cabling, and he sues GC and SC. Even though SC has agreed to assume GC’s liability, the liability insurance will not cover this loss. That is because the building owner did not suffer property damage. The building is defective, but it has not been damaged.

Contractors should expect to find indemnification agreements in most construction contracts. Because of this, the contractual liability coverage contained in general liability insurance policies is critical to their financial health. It is very important for contractors to review their liability policies to ensure that their insurance companies have not limited this coverage.

Contractual liability coverage is vital to a contractor’s business. Make sure that it does all that you need it to do. Contact us for assistance with this important coverage.