Be Wary of Client-Created Solutions for "Errors or Omissions"

Thu, 10 Feb 2011 19:01:00 GMT

A professional service firm, like any business, is responsible for harm to its client caused by the firm’s breach of its contract. But breach of contract is not what professional liability insurance covers. All professionals must meet an applicable standard of care for the services provided, and must rectify any harm caused if they are negligent in their performance. It is this professional obligation that is within the scope of professional liability insurance coverage.

Many clients, however, want to conflate the two responsibilities. At times this is accomplished through a liquidated damages provision—a stated amount due from a party based on a specific contractual occurrence or nonoccurrence. Clients may also set up elaborate payment withholding or contractually obligated payment schemes based on their decision that professional services were deficient. Sometimes these are applied beyond a “threshold of harm” amount.

For instance, a recent contract we reviewed stated that the design firm would be responsible for 25% of the cost of items or features omitted from bidding documents, 50% of the cost of errors in the bidding documents discovered “prior to installation,” 100% of the cost of any delay caused, and 100% of the cost of reconstruction, replacement, and delays if there has been “a partial or complete installation” of something because of an error in the bidding documents. It seems like a very clean and quick way to determine a remedy; the client will determine fault and either withhold payment or demand the contractual amount from the design firm.

However, any contractually assumed payment scheme falls outside of the coverage of professional liability insurance. Professional liability coverage only pays for actual damages (losses, costs, expenses) to the extent they are the result of the firm’s failure to meet the standard of care for the services provided. This finding of negligent performance cannot be made unilaterally by a client. And the withholding of a fee is not the same as a demand for money or services based on an allegation of negligent performance, which defines the claim trigger for professional liability insurance coverage.

When a client wants a simple contractual solution to its dissatisfaction with any aspect of professional services, be wary. Unless the contractual remedy tracks with your normal legal liability as a professional, do not expect professional liability insurance to respond. Both your firm and your client should recognize that the risk is uninsured. And that might mean that you should charge significantly more for your services to fund your uninsurable exposure.

Contractual Liability Issues in PL policies

Wed, 19 Jan 2011 14:39:17 GMT

Occasionally, clients ask design professionals to have their professional liability policy endorsed to specifically insure contractual liability. This would provide coverage for the risks a design professional assumes in a professional services agreement.

Clients often ask for contractual liability coverage from design professionals because such coverage is found under a contractor’s CGL policy. Such a request is problematic, however, because a contractor’s CGL policy provides broad form coverage for contractual liability, due to the contractor’s broad risk exposure. Conversely, the professional liability policy provides a limited form of contractual liability coverage because a design professional’s risk exposure is limited to professional negligence.

The Schinnerer and CNA professional liability policy automatically includes a limited form contractual liability coverage that provides coverage to the extent that the liability is predicated on the insured’s negligence in providing professional services. If a request for contractual liability coverage is consistent with the coverage already provided by the policy, a special endorsement is unnecessary. On the other hand, if the contractual promises in the professional services agreement extend beyond what the policy already covers, the design firm may be assuming a business risk that is uninsurable. Examples of uninsurable contractual liabilities include express warranties and guarantees, representations that services will be free from fault and defect, and representations that the project, when finished, will be fit for its intended purpose.

Professional liability coverage is designed to pay on behalf of an insured firm that does not meet the standard of care in fulfilling professional obligations; it is not designed to stand behind all contractual obligations. By law, design professionals are liable for their own negligence as well as for the negligence of those for whom they have assumed vicarious liability (generally, professional consultants). If design professionals agree by contract to accept liability for more than this negligence, they are assuming a business risk that is not covered under the Schinnerer and CNA PL policy.

Schinnerer's RM Blog - contractual liability tag

Be Wary of Client-Created Solutions for "Errors or Omissions"

Contractual Liability Issues in PL policies