In contract law, an indemnity is a contractual obligation of one party (the indemnitor) to compensate the loss incurred by another party (the indemnitee) due to the relevant acts of the indemnitor or any other party. The duty to indemnify is usually, but not always, coextensive with the contractual duty to "hold harmless" or "save harmless". In contrast, a "guarantee" is an obligation of one party (the guarantor) to another party to perform the promise of a relevant other party if that other party defaults.
Indemnities form the basis of many insurance contracts; for example, a car owner may purchase different kinds of insurance as an indemnity for various kinds of loss arising from operation of the car, such as damage to the car itself, or medical expenses following an accident. In an agency context, a principal may be obligated to indemnify their agent for liabilities incurred while carrying out responsibilities under the relationship. While the events giving rise to an indemnity may be specified by contract, the actions that must be taken to compensate the injured party are largely unpredictable, and the maximum compensation is often expressly limited.
English common law
Indemnity clauses
Under section 4 of the Statute of Frauds (1677), a "guarantee" (an undertaking of secondary liability; to answer for another's default) must be evidenced in writing. No such formal requirement exists in respect of indemnities (involving the assumption of primary liability; to pay irrespective of another's default) which are enforceable even if made orally.
Under current English law, indemnities must be clearly and precisely worded in the contract in order to be enforceable. The Unfair Contract Terms Act 1977 stated that a consumer cannot be made to unreasonably indemnify another for their breach of contract or negligence, though this section was replaced by section 65 of the Consumer Rights Act 2015.
Contract award In England and Wales an "indemnity" monetary award may form part of rescission during an action of restitutio in integrum. The property and funds are exchanged, but indemnity may be granted for costs necessarily incurred to the innocent party pursuant to the contract. The leading case is Whittington v Seale-Hayne,(1900) 82 LT 49 in which a contaminated farm was sold. The contract made the buyers renovate the real estate and, the contamination incurred medical expenses for their manager, who had fallen ill. Once the contract was rescinded, the buyer could be indemnified for the cost of renovation as this was necessary to the contract, but not the medical expenses as the contract did not require them to hire a manager. Were the sellers at fault, damages would clearly be available.
The distinction between indemnity and damages is subtle and may be differentiated by considering the roots of the law of obligations: how can money be paid if the defendant is not at fault? The contract before rescission is voidable but not void, so, for a period of time, there is a legal contract. During that time, both parties have legal obligation. If the contract is to be voided ab initio the obligations performed must also be compensated. Therefore, the costs of indemnity arise from the (transient and performed) obligations of the claimant rather than a breach of obligation by the defendant.
Distinction from guarantees An indemnity is distinct from a guarantee, which is the promise of a third party to honor the obligation of a party to a contract should that party be unable or unwilling to do so (usually a guarantee is limited to an obligation to pay a debt). This distinction between indemnity and guarantee was discussed as early as the eighteenth century in Birkmyr v Darnell.(1704) 1 Salkeld 27. In that case, concerned with a guarantee of payment for goods rather than payment of rent, the presiding judge explained that a guarantee effectively says "Let him have the goods; if he does not pay you, I will."See also: Mountstephan v Lakeman (1871) LR 7 QB 196.
Distinction from warranties An indemnity is distinct from a warranty in that: An indemnity guarantees compensation equal to the amount of loss subject to the indemnity, while a warranty only guarantees compensation for the reduction in value of the acquired asset due to the warranted fact being untrue (and the beneficiary must prove such diminution in value). Warranties require the beneficiary to mitigate their losses, while indemnities do not. Warranties do not cover problems known to the beneficiary at the time the warranty is given, while indemnities do.
United States contracts Many private contracts and terms of service in the United States require one party (indemnitor, typically a customer) to pay (indemnify) the other side's costs for legal claims arising from the relationship. They are particularly common in online services.
The US government publishes special Terms of Service, which it has negotiated with many companies, to exclude indemnification for official US government work. US law "is violated by any indemnification agreement that, without statutory authorization, imposes on the United States an open-ended, potentially unrestricted liability."The Anti-Deficiency Act Implications of Consent by Government Employees to Online Terms of Service Agreements Containing Open-Ended Indemnification Clauses (Opinion of the US Attorney General. 2012) opinion Hercules, Inc. v. United States, 516 U.S. 417 (1996) opinion The Attorney General says federal agencies "should renegotiate the terms of service to revise or eliminate the indemnification clause or cancel the [government]'s enrollments in social media applications when their operators insist on such a clause."
State variations Under US law, interpretation of indemnification clauses varies by state.Bernstein, Jedidiah M. Esq. (May 2017). http://www.jdsupra.com/legalnews/tips-for-a-startup-manufacturer-in-31651/ For example, in California indemnification clauses do not cover certain risks unless the risks are listed in the contract, but in New York, the brief clause, "X shall defend and indemnify Y for all claims arising from the Product" makes X responsible for all claims against Y. Indemnity can be extremely costly since X's liability insurance typically does not cover claims against Y, but X still has to cover them.
In 2017, the Utah Supreme Court stated, "By statute, a contractual provision requiring a purchaser of a product to indemnify a manufacturer is 'void and unenforceable' in certain circumstances. Utah Code § 78B-6-707."Bylsma v. R.C.WilleyHumanTouch, 2017 UT 85 opinion
In 2012–2014, a New Jersey woman had to pay a lawyer to get out of an indemnity payment for injury at a storage unit. When someone slipped on ice in 2012 while going to a unit, Public Storage sued in court to make the woman who rented the unit pay for the injury. She tried to ignore the case and so state court ruled that she had to pay. She then retained a lawyer and went to court. In 2014, the US District Court decided that the specific indemnity clause was unenforceable in New Jersey because it covered Public Storage's own negligence without explicitly saying so, contrary to New Jersey law (other states differ).Martinez-Santiago v. Public Storage (1:14-cv-00302-JBS-AMD), opinion and docket A 2013 decision in New Jersey upheld a broad indemnity clause since it was followed by another sentence: "indemnity agreement is intended to be as broad and inclusive as is permitted by the law of the State of New Jersey." The judge said, "It is true that a consumer, unfamiliar with the laws of New Jersey, would not be able to state with certainty how far the waiver extends."Sauro v. L.A. Fitness International, LLC (1:12-cv-03682), opinion and docket
In 2010, the Colorado Supreme Court required a flower shop to indemnify its shopping center for a customer who slipped on the icy parking lot, though of no fault of the flower shop, because the tenant was there to visit that shop, and the shop's lease had a broad indemnity clause.
In 1999, the United States District Court for the District of Wyoming did not require a customer to indemnify a whitewater rafting company for injury to his wife since the wording may have applied only to him and his children, and clauses cannot be enforced in Wyoming to indemnify a company for its own negligence.
In 1979, the Minnesota Supreme Court ruled that a subcontractor must indemnify the builder for damages that it caused, according to an indemnification clause in their purchase order.Turner v. Alpha Phi Sorority House 276 N.W.2d 63 (Minn. 1979) opinion
In 1966, the Supreme Court of California ruled that The Hertz Corporation could not enforce its clause requiring renters to indemnify Hertz's insurer.Atlantic Nat. Ins. Co. v. Armstrong 65 Cal. 2d 100 (Cal. 1966) opinion
With negotiations Indemnities can be expensive enough to bankrupt a company that pays them: "If manufacturers ... are to survive, they will need liability insurance, as well as favorable contracts with retailers. If you look at a big retailers, such as Trader Joe's or Costco or Walmart or Randalls, very often there will be an indemnity provision providing that, if you want to sell a product in our stores, and if it gets someone sick or if it has to be recalled, and it's your fault, you must pay us back for that."
When a contract is "negotiable," the indemnitor negotiates to control those legal costs. It will not let the indemnified party (indemnitee) overspend: "An arrangement in which the indemnitee makes decisions about how to defend and settle the claim while the indemnitor writes the checks presents a moral hazard. Knowing that its defense and settlement costs are being borne by the indemnitor, the indemnitee may be encouraged to engage a more expensive legal team or pursue a riskier defense strategy than it would otherwise. For this reason, most indemnitors are unwilling to indemnify against claims when they do not control the defense of the claim."
The American Bar Association has published advice on negotiations of construction contracts: that (1) owners try to get contractors to indemnify as much as possible and for (2) contractors (a) indemnify only for their own negligence and (b) "establish a right but not a duty for the contractor to defend under an indemnification claim."
An example of letting the indemnitor control costs is in the case of a contractor for a homeowners' association (HOA) in which "Contractor shall indemnify, defend (by counsel reasonably acceptable to Association) and hold harmless the Association." Companies and HOAs also use indemnity to protect directors since few would serve as directors if their risks were not indemnified. Negotiation is important for both parties. "Just about all homeowner association management contracts have a provision which states that the HOA shall indemnify the manager under certain circumstances ... There are several ways the indemnification clause can be drafted and both management and HOA must take into account what protects each the best."
If indemnitors can negotiate a limit on liability in their contract, that limits the cost of a potential indemnity if they "make clear in the agreement that any limitations of liability (whether in the form of caps or exclusions of certain types of damages e.g., consequential) apply to the ... indemnification."
Without negotiations When a contract is negotiable (adhesion contract), the wording often lets the indemnitee decide what to spend on legal costs and bill the indemnitor. Most clauses are quite broad. The following are examples of indemnity requirements from a range of businesses. The last one, Angie's List, limits issues to the user's fault, but decisions and costs are still controlled by the indemnitee (Angie's List).