Many commercial agreements contain indemnities but do you understand the implications of giving an indemnity and do you know how you might limit your liability if you have to give one?

An indemnity is a promise given by one person to meet the potential future loss of another person. The principle of an indemnity is to try as far as possible to place the indemnified person in the same position after a loss as they were in before. Insurance is a kind of indemnity where the insurer is indemnifying the person who has the benefit of the policy – but you can be fairly sure that your insurer has limited its liability in the small print of your policy!

In a 2014 High Court case the judge reviewed the legal principles that apply when one person seeks to claim from another under an indemnity. In that case the claimant (a tenant) had not yet itself paid out under its own legal liability (to pay rent to its landlord) and the defendant (a business the tenant had allowed to occupy the property in return for paying the rent to the landlord but who had not done so) argued in court that the claimant could not recover under the indemnity as the claimant had not paid the rent itself and so was not out of pocket at the date of the court hearing.

The judge reviewed the existing law and concluded that since 1875 there has been no doubt that a party can enforce an indemnity before it has paid out a penny under the liability covered. The judge pointed out that he had various powers including the power to order payment (a) to the indemnified person (b) to that person’s creditor (the landlord in that case) or (c) to a fund (to be used later if needed). The judge went for option (a) and ordered the defendant to pay the rent to the claimant. (I don’t have the full case report but my guess is that the landlord would not accept rent from the defendant and so option (b) was not available).

Indemnities appear in many commercial agreements. In industry standard documents, such as banking and insurance documents, it will not generally be possible to negotiate a modification of the terms of an indemnity but in a sale and purchase agreement, for example, it is open to the parties to negotiate:

– who will be paid,
– how much,
– when and
– whether the indemnified party must have paid out first before the indemnity kicks in.

by Andrew Carrier from the King’s Lynn office