Construction industry participants face exposure to risks arising from the professional services that are required to design and construct a particular project. Professional liability insurance is a common tool used by contractors and designers to transfer risks from errors and omissions in the provision of professional services to third party insurers in exchange for payment of the policy premium. For design professionals these policies provide coverage for losses arising out of errors and omissions in professional design services such as those that result in the development of plans and specifications, as well as those arising from defective contract administration and consulting. Contractors purchase these policies to provide coverage largely to cover exposures from defective construction management.

Indemnification is a concept whereby one party contractually agrees or is otherwise legally obligated to bear the financial risks of another party. These parties are respectively known as the indemnitor and indemnitee. The construction industry relies on indemnification clauses to manage and transfer risk. Consider some of the common indemnification provisions that may be encountered in construction contracts.

The term “risk transfer” means just that: a risk that one party bears is transferred to another. In reality, risk transfer in the context of a contractual transfer of risk from an insured to an insurer is better understood as a transfer of the financial costs of certain risks. For example, if a subcontractor injures a third-party or damages their property, the subcontractor’s commercial general liability policy should provide the subcontractor with defense and indemnification coverage. In other words, the financial cost of a covered risk is transferred from the insured to its insurance carrier. The ability to finance the costs of potential risks is a key tool in how most construction contracts are structured. Here is how.