There ain't no sanity clause: The Marx Brothers interpret waivers of subrogation
When I negotiate provisions like waivers of subrogation, I sometimes feel like I am living out a scene from A Night at the Opera, my favorite Marx Brothers movie.
In the movie, Groucho and Chico are agents negotiating a contract for a performance by a famous opera singer, without naming the singer (each believes he is negotiating for a different singer). Groucho takes out a long form of contract in duplicate, hands one to Chico and tells Chico there's no need to read it because they are duplicates. Chico insists, Groucho reads each clause and, as to each clause, Chico objects. With each objection, Groucho and Chico each tear off the clause from their copy of the contract, gradually reducing the contract to a few inches of paper. When they arrive at the last clause, the one declaring that the parties are of sound mind, Chico again objects, but Groucho insists it is a standard sanity clause.
In his over-accented English, Chico says, "You can't fool me, there ain't no sanity clause" (a Santa Clause joke). The exchange results in the last clause being thrown to the floor with the rest of the contract. The Marx Brothers take to absurdity the negotiation of a contract where neither party understands the meaning or importance of the terms, so they just delete them. For context, assume the roof of a construction project catches fire at about eighty percent completion. The owner's builder's risk carrier pays to have the damaged roof promptly restored and then sues the architect and contractors for reimbursement, alleging design or construction errors caused the fire.
The fire insurance carrier's claim is called subrogation, allowing an insurer paying a claim to step into the shoes of the party on whose behalf the claim is paid. Many standard form agreements, however, expressly waive subrogation rights. What does this mean and why is it important? What is subrogation? You may be familiar with subrogation in the automobile insurance context. After an accident, you look to your own insurance coverage, leaving the insurer to pursue the guilty party. This allows you to get your car fixed right away even if fault is disputed. Imagine if you were forced to litigate to determine who caused the accident before you could get your car fixed. The same concern exists in construction.
The industry long ago recognized the disruption caused by finger-pointing and litigation over construction-phase failures. Standard form agreements were developed to include a risk allocation mechanism that would enable parties to look to their own insurers for certain claims, fixing the problem right away without litigating fault or cause. There would be no arguments over fault, no litigation and no disruption of the project. How are subrogation claims waived? Buried deep within the boilerplate of the AIA and other industry form documents are provisions concerning insurance and how insured claims will be sorted out. The AIA General Conditions document (A201 2017 ed.) provides for the owner's insurance coverage and for an express waiver of subrogation rights:
• 11.3 Waivers of Subrogation • 11.3.1 The Owner and Contractor waive all rights against (1) each other and any of their subcontractors, sub-subcontractors, agents, and employees, each of the other; (2) the Architect and Architect's consultants; and (3) Separate Contractors, if any, and any of their subcontractors, sub-subcontractors, agents, and employees, for damages caused by fire, or other causes of loss, to the extent those losses are covered by property insurance required by the Agreement or other property insurance applicable to the Project, except such rights as they have to proceeds of such insurance.
The Owner or Contractor, as appropriate, shall require similar written waivers in favor of the individuals and entities identified above from the Architect, Architect's consultants, Separate Contractors, subcontractors, and sub-subcontractors. The policies of insurance purchased and maintained by each person or entity agreeing to waive claims pursuant to this section 11.3.1 shall not prohibit this waiver of subrogation. This waiver of subrogation shall be effective as to a person or entity (1) even though that person or entity would otherwise have a duty of indemnification, contractual or otherwise, (2) even though that person or entity did not pay the insurance premium directly or indirectly, or (3) whether or not the person or entity had an insurable interest in the damaged property.
The A201 provision has been made broader, but its concept has remained in the AIA Documents for decades. The AIA's Standard Form of Agreement Between Owner and Architect contains a similar, though less specific provision. (AIA B101, Art. 8.1.2, 2017 ed.). While these provisions have been challenged with arguments about anti-indemnity legislation, prior breach of contract and questions about whether the insurance responding to the claim was actually procured for the project, overall, waivers of subrogation provisions have generally been upheld by courts as valid and enforceable components of an accepted risk-shifting mechanism.
Is a waiver of subrogation a good idea for your project? Waivers of subrogation can benefit all parties considering the speed with which a repair can be accomplished. Owners sometimes question the benefit of letting a responsible party off the hook, particularly if the Owners self-insure or have large deductibles or self-insured retentions on their property or all-risk/builder's risk policies. Owner's lawyers sometimes modify waiver of subrogation provisions to either run only one-way in the owner's favor or to allocate deductibles to the responsible party or to preserve the owner's right to recover its deductibles or self-insured retentions even in the event of a claim. Doing so without considering other provisions of the contract can jeopardize the streamlined repair process in the event of an insured claim.
Disputed liability and the litigation that follows might prevent the work from proceeding, either because of concerns for spoliation or cost. Those concerns can be mitigated with expedited dispute resolution procedures like a Dispute Resolution Board or a separate, expedited dispute resolution provision for insured claims, for example. Waivers of subrogation and provisions like them are good reasons to use standard forms, at least as a starting point for your agreements. The standard forms contain provisions that have been legally tested and apply to circumstances not typically anticipated or understood. At a minimum, it is a good idea to make sure everyone understands and discusses the concept and its implications before the (sanity) clause is either modified or torn from the contract and left on the floor.
• Eric L. Singer is a partner with Ice Miller LLP. His practice concentrates in construction law and litigation. This publication is intended for general information purposes only and does not and is not intended to constitute legal advice. The reader should consult with legal counsel to determine how laws or decisions discussed herein apply to the reader's specific circumstances.