Contracts: Indemnity and Illusory Insurance Provisions

Contracts: Indemnity and Illusory Insurance Provisions

This is something I see constantly in contracts that cross my desk: insurance requirements that look protective on paper, but are effectively illusory because of one-sided indemnity and subrogation clauses.

Indemnity is a contractual obligation where one party agrees to cover another party’s losses or damages. In plain terms, it means “If something goes wrong, I’ll pay for it—even if it wasn’t my fault.”

Subrogation is the legal right of an insurance company to seek reimbursement from the party that caused the loss after the insurer has paid a claim.

Here’s where the problem arises.

Many contracts first waive one party’s liability for nearly everything except intentional misconduct (and sometimes gross negligence). Then, in another section, the same contract requires the other party to indemnify that party for all claims, including claims caused by the indemnified party’s own negligence.

To make matters worse, the contract often requires both parties to carry insurance—but then:

  • Allows subrogation in favor of the indemnified party, and
  • Waives subrogation against that same party.

Even when subrogation is not expressly waived, a broad indemnity provision can make recovery by an insurance company practically impossible.

A Common Real-World Example

Consider a typical property management agreement.

The contract may:

  • Waive the manager’s liability for all claims except intentional or grossly negligent acts;
  • Require the property owner to indemnify the manager for all waived claims;
  • Require the property owner to waive all rights of subrogation; and
  • Require both parties to carry $2 million in insurance coverage.

At first glance, this looks like $4 million in total insurance protection.

In reality, it may be only the property owner’s $2 million that is available—because the indemnity and subrogation provisions shift the risk entirely to the owner.

Under the wrong set of circumstances, there may be no effective insurance at all, especially if:

  • The property owner failed to name the manager as an additional insured, or
  • The insurer never approved the contractual risk transfer.

Why This Matters for Small Business Owners

These provisions are often buried in boilerplate language and are easy to overlook. Changing them can be tedious, time-consuming, and sometimes impossible—particularly when dealing with large companies that have a “take it or leave it” contract.

However, when working with smaller companies or vendors that want your business, these provisions are often negotiable.

A more balanced approach might look like this:
To the extent insurance applies, each party agrees not to pursue recovery against the other.

If each party carries $2 million in insurance, there should be no subrogation claims up to the combined $4 million of coverage.

One-sided indemnity clauses have become increasingly common. Before signing a contract, make sure you understand who is actually bearing the risk—and whether the insurance you’re paying for provides real protection or just the illusion of it.

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