Blog

Indemnification Clause Will Give Your Business Financial Security

When you engage in an online business, there will be contract agreements that you have to enter with your business partners or customers. A terms and conditions agreement, a partnership agreement, and a non-disclosure agreement are just some of them.

Most online entrepreneurs focus on pricing and payment terms that they forget certain legalities. One of the most common mistakes that entrepreneurs commit is overlooking or totally disregarding indemnity.

Starting entrepreneurs in many business contracts often ignore an indemnity clause. Most consider them only as legalities, not knowing how they can impact their business. You will never know how vital an indemnification clause is until the need for it arises.

What is an indemnification clause?

What is an indemnification clause?

An indemnification clause is a clause in a legal contract where one or both parties commit to paying the other for any loss, harm, or any liability that results from the contract.

An indemnification is where the giver of the indemnity tells the other party “I’ve got your back.” The giver of the indemnity is responsible for paying the other party for things that may go wrong, especially with respect to a third party.

An indemnification clause transfers monetary risk to the other party. Terms such as hold harmless, defend, and indemnify are usually used in an indemnification clause. It protects the indemnified party from losses and possible lawsuits filed by third parties.

Other forms of indemnity include an indemnity contract and a letter of indemnity. What makes an indemnification clause different is that it is specific to products or circumstances. It applies to only one party.

Types of indemnity

There are six types of indemnity, classified according to their scope. These include:

1. Bare indemnities

In a bare indemnity, one party indemnifies the other contracting party for all losses or liabilities, for indicated events and circumstances. There is no set or specified limitation in this kind of indemnity.

2. Reverse indemnities

Reverse indemnity is also known as reflexive indemnity. It is where one party indemnifies the other contracting party for losses that result from the negligence or omission of the latter.

3. Limited indemnities

Limited or proportionate indemnity is the opposite of reverse indemnity. One party indemnifies the other contracting party for losses that result from circumstances other than the latter’s negligence or omission.

4. Third-party indemnities

In this kind of indemnity, Party A indemnifies the other party for claims made by a third party.

5. Financing indemnities

Party A indemnifies Party B if a third party fails its financial obligations to Party B.

6. Party/Party indemnities

Each party may indemnify the other for losses that result from negligence or a breach of contract.

Why do you need an indemnification clause?

If you have an online business, you are likely getting your products from manufacturers and suppliers. You have no control over how the products you are selling online are manufactured, or where they source their raw parts. You also have no control over how they test and check their products before they ship it to you or your buyers.

That is where an indemnification clause can protect you and your business. Without an indemnity, you put yourself and your business at a huge financial risk. Here are two essential reasons why you should never forget to include it in your business contracts.

1. It protects you from lawsuits filed by third parties or your customers

If you are the indemnified party, it protects you from lawsuits from an unsatisfied or complaining customer. You can seek compensation for damages that arise from this situation.

If you are reselling items online, an indemnification clause in the contract between you and your supplier is essential. Let’s say you are selling a portable fan online. Unfortunately, the fan malfunctions and blows up, injuring your buyer. Your buyer files for a claim, and you are forced to pay them a considerable sum of money.

An indemnity clause in your contract allows you to collect the same amount from the supplier of the portable fan. The supplier would have to indemnify you, reimburse everything you had to pay to the third party. Damages claims and lawsuits can be hefty if you do not have an indemnity in your contract.

2. It provides you insurance

A critical function of an indemnity clause is that it acts as insurance between all parties involved. It pays for losses, as well as any court fees and legal expenses you incur during a litigation process. It shifts the risks and liabilities to the indemnifier.

In the previous example, if your customer filed for claims in court, you will also incur legal expenses. Your supplier will be obliged to cover these expenses, including the fees of your defense lawyer. Legal fees can sometimes skyrocket if the litigation takes longer than usual.

It is also an indication that your supplier takes responsibility for their products and services. A product or service provider who refuses to agree to an indemnification clause should cause you alarm. You may also inquire if they have professional liability insurance if you are worried they cannot fulfill their obligations.

Are indemnification clauses enforceable?

Indemnification clauses are enforceable. However, there are also exceptions to it. Indemnification clauses that indemnify the other party for any claim for a broad range of reasons, regardless of the fault, is considered a violation.

One party cannot be indemnified if illegal acts are involved. Indemnity does not cover acts of theft, fraud, or harassment. Indemnification is also best given to parties who can best avoid risks of loss.

In some states, an indemnity clause should be expressed in a clear and intended manner. Indemnity agreements are complex, and they can also vary per state. You must seek the advice of your legal counsel when you are drafting your business contracts and agreement.

Here are some things that you should take note of in an indemnification clause:

Make sure to read it carefully. Every indemnity clause is different from the other.

  • Who will pay who?
  • What are the losses that will be covered or reimbursed?
  • What circumstances will trigger the indemnity?
  • Will the indemnifying party pay you or defend you, or both?
  • Do both parties have some professional liability insurance?

Why are indemnification clauses important?

Why are indemnification clauses important?

Indemnification clauses are essential to both parties who are entering into a business agreement.

If you are the party receiving indemnity, an indemnity clause gives your business financial security. It also forces the other contracting party, which could be your supplier or service provider, to take liability and responsibility for their products.

If you are on the other side of a transaction, an indemnifying clause may also be beneficial to your business. It will assure your client that you are taking your job seriously. More sophisticated clients will ask for it, but do not go out of your way to offer it.

Both parties must have a clear and common understanding of the clause in the contract. The agreement must clearly state the applicable and specific situations and circumstances covered by the indemnity. Vague indemnity clauses can cause problems and misunderstandings.

For example, if your website is selling a vacuum, you may want to be indemnified when the vacuum malfunctions and injures its user. However, it would not be reasonable to grant you indemnification for all possible legal actions. You can still be sued if you make false claims and advertisements.

A well-crafted indemnification clause is fair to all parties involved. It must address only reasonable and justifiable business risks and concerns.

Sample indemnification clause

Here is a short sample of an indemnification clause between a distributor and a supplier.

The Supplier (party A) indemnifies and agrees to defend Distributor (party B) against any and all claims, demands, and costs, liabilities, or losses resulting from (a) any death or injury to any person or damage to any tangible property resulting or claimed to result wholly from (i) any actual or alleged defect or problem in the Product, or (ii) any statement or misstatement written in the documentation and marketing materials provided by Supplier; or (b) resulting from any breach of this Agreement by Supplier.

Include an indemnity clause in all your business contracts and transactions.

Are you planning to start an online business, resell products online, or provide contracted services? If you want to avoid risking a possible financial liability, make sure to include an indemnity clause in your contracts. It can help you avoid losses due to circumstances and factors that are out of your control.