By: William E. Kelley, Jr., LEED AP BD+C
A waiver of subrogation clause is a typical (but often overlooked) contract provision in design and construction contracts, especially for parties using standard form contracts, such as the American Institute of Architects (AIA) forms. In general, the term “subrogation” refers to situations where an insurance company pays for damages covered under its policy, then, in turn, seeks to recoup some or all of those damages from other entities that may have caused or contributed to the loss. For example, the insurance company for a property owner pays for damages caused by a water leak, and then seeks to recoup those damages from contractors who may have caused the water leak through their construction activities. The insurance company stands in the shoes of its insured, and has no greater rights than the insured would have. Therefore, if the insured has already waived certain claims by contract or other agreement, then the insurance company cannot pursue those waived claims.
The waiver of subrogation clause refers to an agreement between contracting parties, whereby the parties agree they will not sue each other for certain classes of claims covered by insurance. So, in the water leak example, the waiver might apply to bar the insurance company from recovering from the contractor, even if the water leak was partially caused by construction defects. In that instance, the owner’s insurance company would pay for the damages, and the contractor might have no liability to the owner or insurance company for the amounts paid for damages under the insurance policy.
There have been multiple cases involving this contract language, and Indiana courts have split in their interpretation of that clause. The major issue? Interpreting the scope of the waiver. Or, in other words, what claims have been waived and what claims are still viable. Several court decisions from across the country (Indiana included) have been divided into two camps on the issue of the scope of the waiver.
In the first camp, some courts have interpreted the waiver of subrogation to hinge on a “work vs. non-work” analysis. Under that analysis, the waiver would apply to damages to the contractor’s work, but it would not apply to damages to property outside the scope of the contractor’s work. In the second camp, other courts interpret the waiver of subrogation to hinge on the “any insurance” analysis. Under this approach, if the damages at issue are covered by “any insurance”, namely property insurance maintained by the owner for the project, then subrogation claims for those damages are waived.
The Indiana Supreme Court has now weighed in on interpretation of the AIA contractual waiver of subrogation clause to provide some clarity on this issue. In Board of Commissioners of the County of Jefferson v. Teton Corporation, issued on May 13, 2015, the Indiana Supreme Court analyzed the waiver of subrogation clause in the AIA A101-1987 and A201-1987 contract forms, and it formally adopted the “any insurance” approach. The case involved a fire that occurred during renovations to the Jefferson County (Indiana) courthouse. The Indiana Supreme Court noted that the owner (Jefferson County) procured an “all risk” property insurance policy that covered not only the existing property at the courthouse, but also the ongoing construction operations.
The parties apparently agreed that the damages at issue in the fire were all covered and paid by the property insurance company for Jefferson County under the “all risk” insurance policy. Nonetheless, the owner and its insurance company argued that the waiver of subrogation only applied to damages to the contractor’s work, since the construction contract only required the owner to purchase builder’s risk insurance for the construction work at issue. However, the Indiana Supreme Court noted that the waiver of subrogation was broader than just the coverage for the “work” on the project, and specifically applied to all damages paid by under any property insurance policy maintained by the owner. Even though the owner had broader insurance coverage than required under the contract, the waiver still applied to all covered damages, since the waiver language specially applied to damages “to the extent covered by property insurance obtained pursuant to this Paragraph 11.2 or other property insurance applicable to the Work…” The Supreme Court also noted that this language clearly only applied to property insurance maintained by the owner, and was not so broad to also include damages covered under the liability insurance policies that the parties agreed to maintain for the project.
The takeaway from this case is that contractors, owners, and designers should focus on risk-shifting contract language. Parties can cover certain risks by agreeing that one party will assume the risk and defend others for any claims that may arise (e.g., indemnity clauses), and also through agreements to purchase specific insurance products for the project, which shifts the risk to the insurance companies involved. Where parties have agreed to cover certain risks through insurance, and further where the parties agree to waive claims against each other for claims covered by insurance, the Indiana Supreme Court’s decision makes clear that Indiana law favors enforcement of those waivers. Further, the waiver language under the typical AIA contract form will be interpreted to cover all damages covered by property insurance, regardless of whether the scope of coverage is broader than what is contractually required. The policy behind this decision is that Indiana law supports avoidance of protracted litigation for claims where parties have already agreed to waive those claims and to instead cover the risk through property insurance.
All parties involved in negotiation of design and construction contracts should carefully review the insurance requirements in those contracts, and develop an understanding of the scope and purpose of risk shifting clauses such as the waiver of subrogation clause.