Transferring Risk: Understanding the Power of Insurance, Indemnification, and Additional Insured Endorsements

Insurance policies. Indemnity agreements. Additional insured endorsements. They all sound alike, so what’s the difference?

Each works to protect companies from paying out-of-pocket costs for claims, losses, and litigation. They do that by transferring risk to another entity. Yet all three perform the job differently. Think of them like a belt-and-suspenders approach to risk management. They can operate independently but provide better protection when used together. After all, when it comes to loss prevention, you do not want a “wardrobe malfunction.”

So, let’s look at your risk mitigation attire to ensure it includes these important items.  

What is Insurance?

An insurance policy represents a contract that transfers risk from one party to another in exchange for a fee. The insurance company agrees to provide financial protection or reimbursement for losses to the policyholder. Insurance hedges against the cost of claims affecting either the insured and its property or a third party financially injured by the insured.

Among multiple types of business insurance, commercial general liability (CGL) is one of the most common and important. For standard CGL coverages, think of the A, B, Cs:

• Coverage A: Bodily Injury and Property Damage Liability – this protects a business against losses for bodily injury or property damage to a third party.

• Coverage B: Personal and Advertising Injury – the insured is protected against liability from certain legal issues including libel, slander, copyright infringement, and invasion of privacy.
• Coverage C: Medical Payments – this coverage addresses medical payments for non-employee injuries sustained on the policyholder’s premises or during the normal course of business.

Insurance policies are a type of indemnity agreement, so let’s cover that next.

What is Indemnification?

Like insurance, indemnity provisions require one party stand good for another financially. The indemnitor agrees to pay damages sustained by the indemnitee for legal liabilities and claims issued by a third party.

Also known as a hold harmless agreement, indemnification clauses are common in construction and service provider contracts. A good example is a subcontractor (indemnitor) assuming the liabilities for work on a property owner’s (indemnitee) building project as required by the contract.

Three classifications of indemnity agreements exist:

• Broad Form Indemnity – the indemnitor contractually agrees to hold an indemnitee harmless, regardless of who is at fault, for 100% of the liability. Therefore, even if the indemnitor bears no responsibility for causing the loss, they still own the full financial burden. Few states permit broad form indemnity.
• Intermediate Form Indemnity – with this provision, the indemnitor assumes the full liability obligation only if they are at least partially at fault for the loss. More than half of US states allow this type of indemnity agreement.
• Limited Form Indemnity – limited indemnity splits the liability obligation between the indemnitor and indemnitee based on each party’s fault. Their contribution to causing the loss determines the percentage they must pay toward the damages. All states accept limited form indemnity agreements.

What are Additional Insured Endorsements?

So, a business pays for its own CGL policy to insure against losses. Its contract with vendors includes an indemnity provision requiring them to pay for affiliated losses. Another powerful tool exists to transfer financial risk – additional insured endorsements.

Additional insureds receive coverage under another party’s policy. For example, a general contractor becomes an additional insured on its subcontractor’s insurance policy. Should the subcontractor contribute to a loss, the general contractor can file a claim against that policy instead of using its own.

Like indemnity agreements, additional insured endorsements come in many forms. To keep things simple, we’ll discuss the 1985 and current 2013 versions. Both are in use today.

• 1985 Edition – this form provides the additional insured coverage if the loss is at all connected to the work of the named insured. Coverage includes the named insured’s ongoing and completed operations. Because of the broad protection favoring the additional insured, even for negligent acts, some insurers no longer allow this form.
• 2013 edition – coverage for the additional insured is limited with this version. Ongoing and completed operations require separate endorsements. Coverage does not include the additional insured’s sole negligence. This edition also strictly follows the work contract, essentially making the agreement an extension of the endorsement.

Is Coverage Complete?

Alright, the CGL policy, indemnity provisions, and additional insured endorsement requirements are in place. A business isn’t about to “lose its shirt” to a claim now, right? Not so fast. Nothing in the world of risk management is quite that easy. Anti-indemnity statutes limit broad coverage for indemnitees and almost every state has one.

Read “Anti-Indemnity Statues: The Basics You Need to Know” next for more on indemnity in action and anti-indemnity statutes that restrict protections.

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