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Negotiating Indemnity Clauses: Tenant Considerations for Risk Management

Christine R. Lopez and Scott R. Kipnis
Schnader Harrison Segal & Lewis LLP
New York City, N.Y.

Kipnis_Summer_2019

The scope of an indemnity clause within a commercial lease is often the subject of litigation. Recent practices in the commercial leasing industry along with an increasing number of court decisions indicate a trend toward the enforcement of broad indemnity clauses, raising possible financial risks for tenants.

This movement toward broad indemnity clauses is illustrated by the case of Constable v. Northglenn, LLC[1], highlighting key considerations that tenants must keep in mind during lease negotiations. In Constable, the Supreme Court of Colorado upheld an indemnity clause that shifted all liability to the tenant of a shopping center in a slip-and-fall incident that occurred in the shopping center’s communal parking area, notwithstanding the fact that under the lease the landlord was deemed to be in care, custody and control of the parking area.

The indemnity clause in this Colorado case stated that the tenant agreed to indemnify the landlord “from and against any and all losses, damages, liability, claims, suits or actions, judgments, costs and expenses, which may arise during the lease term due to any bodily injury sustained in the shopping center’s community areas by persons present to visit the Premises or as a result of [Tenant’s] business” (emphasis added and internal quotation marks omitted). Additionally, the lease stated that the tenant would have “no obligation to indemnify [the landlord] against harm resulting from [the landlord’s] own gross negligence or intentional torts.”

Pursuant to Colorado legal precedent, the court held that the “any and all” language combined with the express exclusion of the landlord’s gross negligence and intentional torts was sufficient to demonstrate the parties’ intent that the indemnification was to extend to the landlord’s own ordinary negligence, as “an exception for [Landlord’s] gross negligence would otherwise have been wholly unnecessary.”

Constable demonstrates that developments in legal precedent along with draftsmanship issues and terms of art in the industry often impact the expectations and ultimate responsibilities of each party to a contract. Expression of these terms must be unambiguous and clearly stated to effectively address the allocation of risk in the event of damage or injury to property or persons. With that goal in mind, the indemnity clause of a commercial lease becomes paramount to the risk management of both parties.

Traditional approaches

In the context of a shopping center, landlords and tenants have traditionally distributed their liability obligations in accordance with the areas over which they exert care, custody and control — that is, tenants will generally remain liable for claims that occur within the leased premises, while landlords will remain liable for claims that occur within the common areas of the shopping center.

This traditional scenario is ideal from the perspective of the tenant, especially in the framework of a modern era shopping center where the tenant may be contributing to the landlord’s liability insurance premium that covers the common areas. Further, the result achieved by this type of apportionment of liability is equivalent to the longstanding theory of the waiver of subrogation in first-party property claims, which prohibits an insurance carrier from recovering any funds paid on a claim that was caused by a negligent third party (i.e., someone other than the insured). These practices have helped maintain harmonious landlord-tenant relationships.

Landlords will, however, endeavor to limit their liability exposure. One way to achieve this is by carving out claims caused by the tenant’s negligence within the common areas from landlord’s indemnity obligations. In other words, the tenant will remain responsible for claims arising in the common areas that were caused by its negligence, regardless of the fact that the tenant may not have any maintenance obligations relating to such areas pursuant to the lease.

By utilizing the term “gross negligence” tenants can attempt to limit their liability obligations by heightening the degree of negligence required for the viability of an indemnification claim. In both scenarios “negligence” — whether ordinary or gross — will nevertheless need to be established to effectively win a claim. This means that in the event of a slip-and-fall within the common areas or the parking lot of a shopping center where the landlord alleges tenant negligence, such a carve out will often lead to expensive and time-consuming litigation, whereby each party or their insurance carrier will try to put the blame of the incident on the other to avoid liability. Such disputes can waste resources and distract from the efforts needed to defend what may be a relatively meritless underlying claim from litigious plaintiffs.

Broad indemnity approaches

Landlords may also seek to limit their exposure by completely shifting liability to the tenant and requiring indemnification for all claims that arise in the common areas, even when such claims were caused by the landlord’s own negligence. Though this is a rather aggressive approach, it is becoming increasingly more common in lease negotiations.

Though some states may void such clauses as contrary to the public interest pursuant to statute or common law, many jurisdictions are permitting them in the commercial context because the parties are deemed to be much more sophisticated than their residential rental counterparts. However, commercial landlords will generally remain unable to shift liability for torts caused by their gross negligence or willful misconduct (as opposed to ordinary negligence), as it is in the interest of public policy to discourage shifting responsibility for reckless behavior.

Broad indemnity clauses may be attractive because they bypass lengthy litigation between insurance carriers to allocate fault. However, such clauses can cause huge risk-management challenges for tenants, as many large national tenants self-insure lease obligations and small “mom-and-pop” tenants can risk losing general liability coverage after filing one claim.

Due to the financial risks associated with undertaking such a broad indemnity of another party’s negligence, courts may be reluctant to impose such an obligation unless the parties’ intent to shift the liability to the tenant is unambiguously stated within the four corners of the lease. Courts want to ensure that the lease language expressly reflects the indemnitor’s understanding and undertaking of such an obligation. In Constable, for example, the Supreme Court of Colorado concluded that an agreement between sophisticated parties with equal bargaining power “purporting to indemnify a party against liability for its own negligence will be enforced as written as long as it contains a clear and unequivocal expression that the parties intended that result.”

In BC Osaka, Inc,. v. Kainan Inv. Groups, Inc.,[2] the Indiana Court of Appeals expressed a similar view, stating that it generally disfavors such broad indemnification clauses because obligating “one party for the negligence of another is a harsh burden that a party would not lightly accept.” However, the court continues, a party may nevertheless contract to indemnify another for the other’s own negligence provided “the party knowingly and willingly agrees to such an indemnification” in clear and unequivocal terms.

In BC Osaka, the court was presented with an indemnification claim from a landlord for a trip-and-fall incident that occurred on the parking lot of a freestanding building that was leased solely by one tenant for the operation of a restaurant. The indemnity provision read in part as follows:

Tenant agrees to indemnify and save Landlord harmless against and from any and all claims, damages, costs and expenses, including reasonable attorneys’ fees, arising from the conduct or management of the business conducted by Tenant in the [Leased] Premises…or from any act or negligence of Tenant, its agents, contractors, servants, employees, sub lessees, concessionaries or licensees in or about the [Leased] Premise.…[Emphasis added.]

The landlord in this case argued that the narrow indemnity clause (covering the conduct and negligence of the tenant) should be applied broadly to encompass the landlord’s negligence. The court, however, concluded that the lease did not contain clear and unequivocal language that would require the tenant to indemnify the landlord for the landlord’s own negligence.

On the contrary, the indemnity provision only referenced the tenant’s negligence, failing to meet Indiana’s two-prong requirement that the indemnification clause:

  1. “Expressly state in clear and unequivocal terms that negligence is an area of application where the indemnitor has agreed to indemnify the indemnitee,” and
  2.  also clearly identify the party benefitting from the indemnity.

In a separate analysis, the court also concluded that there was an outstanding issue of fact regarding whether the tenant had exclusive care, custody and control of the parking area pursuant to the lease in light of the landlord’s ability to (1) implement rules and regulations, (2) designate parking for employees and (3) be reimbursed by the tenant (in the form of additional rent) for its maintenance of the parking area, including snow removal and paving.

In Indiana, “a landlord is held liable for rented premises inasmuch as those premises contain common areas or the landlord assumes responsibility for the premises under the lease or by operation of law.” This is an important risk management point because tenants should strive to negotiate indemnity clauses so that all liabilities correspond to the areas each party maintains and controls pursuant to the lease.

Possible limits on broad indemnity clauses

Certain jurisdictions will void indemnity clauses purporting to indemnify the indemnitee for its own negligence as contrary to public policy. Maryland’s Real Property Code §8-105, for example, states that

“if the effect of any provision of a lease is to indemnify the landlord, hold the landlord harmless, or preclude or exonerate the landlord from any liability to the tenant, or to any other person, for any injury, loss, damage or liability arising from any omission, fault, negligence, or other misconduct of the landlord on or about the leased premises or any elevators, stairways, hallways or other appurtenances used in connection with them, and not within the exclusive control of the tenant, the provision is considered to be against public policy and void” (emphasis added).

Unlike New York’s General Obligation Laws (discussed in more detail below), Maryland courts have not made a distinction between the residential and commercial context. However, the applicability of the statute appears to turn on whether the tenant has exclusive control of the property in question. As such, tenants, particularly those leasing freestanding buildings, must carefully consider their risk management tolerance and draft lease definitions as well as obligations in light of the potential impact on the outcome of a case for contractual indemnity.

For example, in the Maryland Shell Oil Co. v. Ryckman[3] personal-injury case, a commercial tenant argued that it did not have exclusive control of the premises thereby invalidating the applicability of the indemnity clause contained in the lease as a matter of law. While the indemnity clause in Shell did not expressly provide for tenant’s indemnification of landlord’s own negligence, it was drafted broadly enough so that tenant was to indemnify landlord for all injury or damage “caused by or happening in connection with the Premises (including the adjacent sidewalks and driveways) or the condition, maintenance, possession or use thereof or the operations thereon.”

The tenant argued that it did not have exclusive control of the premises (a freestanding gas station) because the landlord contractually reserved approval rights with respect to any structural additions or alterations, rights to exercise self-help to cure tenant’s defaults, and a right to enter the premises in order to inspect and perform any required replacements or repairs.

The Court of Special Appeals of Maryland disagreed with the tenant and held that the tenant did, in fact, have risk management responsibility since it had exclusive control of the premises. The court found that such clauses “are standard protective measures against waste, not indicative of an intent to subvert the lessee’s exclusivity of control of the premises” and thereby placing the indemnity clause outside of the statute’s reach.

Similar to Maryland, New York’s General Obligations Law §5-321 generally voids indemnity clauses that obligate a tenant to indemnify a landlord for damages or injuries caused by the landlord’s own negligence in the operation or maintenance of leased real property as a matter of public policy. However, New York courts have narrowed the applicability of the statute vis-à-vis commercial leases when the indemnity clause, coupled with an insurance requirement, is used as a mechanism of risk management.

In Rodriguez v. 5432-50 Myrtle Ave., LLC,[4] for example, the Second Judicial Department of the Appellate Division of the Supreme Court of New York recently stated that despite the fact that “a lease that obligates a tenant to indemnify a landlord for the landlord’s own negligence is against public policy and unenforceable,” such indemnity may be permitted “in the context of a commercial lease, negotiated between two sophisticated parties, where a lessor and lessee freely enter into an indemnification agreement whereby they use insurance to allocate the risk of liability to third parties between themselves.” The New York court reasoned that “under such circumstances, the purpose of the indemnity clause is not to exempt the lessor from liability to the victim, but to allocate the risk of liability to third parties between the lessor and the lessee” (internal quotation marks omitted).

The Supreme Court of New Jersey has applied a common law rule when reviewing indemnity agreements that purport to indemnify the indemnitee for its own negligence, known as the Ramos-Mantilla-Azurak[5] rule, referencing a line of cases that require indemnity clauses to expressly reference the indemnitee’s own negligence. In Azurak, the New Jersey Supreme Court concluded that “in order to allay even the slightest doubt on the issue of what is required to bring a negligent indemnitee within an indemnification agreement, we reiterate that the agreement must specifically reference the negligence or fault of the indemnitee” (emphasis added).

In the case Fulmore v. Westmount-Arlington Plaza Joint Venture[6], the plaintiff sued Westmount, as landlord, and PetValue, as tenant, for a personal injury he sustained while visiting the premises PetValue leased from Westmount. Westmount sought indemnification from PetValue by relying on a clause in the lease that stated “Tenant agrees to indemnify and save Landlord…harmless from and against any and all claims and demands (except such that result from the act, omission or negligence of Landlord…) for, or in connection with, any accident, injury or damage whatsoever caused to any person…arising directly or indirectly, out of the business conducted in or the use and/or occupancy of the Premises.…”

However, the Appellate Division of the Superior Court of New Jersey held that the lease did not absolve Westmount of negligence because, as a matter of law and pursuant to Azurak, the agreement did not expressly reference the indemnitee’s own negligence. The court supported its decision by noting that “in fact, under…the lease, the tenant’s duty to indemnify expressly excluded claims resulting from the landlord’s negligence” (emphasis added).

Similarly, the Supreme Court of Pennsylvania has established legal precedent known as the Perry-Ruzzi[7] rule, which also requires that the indemnitee’s own negligence be specifically written in an indemnity clause. In Perry, the Supreme Court noted that “a contract of indemnity…should not be construed to indemnify against the negligence of the indemnitee unless it is so expressed in unequivocal terms. The liability on such indemnity is so hazardous, and the character of the indemnity so unusual and extraordinary…there can be no presumption that the indemnitor intended to assume the responsibility [for the indemnitee’s negligence] unless the contract puts it beyond doubt by express stipulation. No inference from words of general import can establish it.”

The Perry-Ruzzi rule was implicitly at work in the case Smith v. M & J Big Waterfront Town Ctr.[8], where the plaintiff sued Yokoso, as tenant operating a Japanese restaurant, and DDRC, as landlord of the premises leased by Yokoso, for a trip-and-fall accident that occurred on the sidewalk in front of the restaurant. DDRC brought an indemnification counterclaim against Yokoso alleging that Yokoso agreed to indemnify DDRC in the lease. The relevant lease provision stated that Yokoso was to indemnify DDRC “from all claims in connection with the possession or use of the premises, but only when such claim arises from the ‘use and occupancy of the Premises.’”

The Civil Division of the Common Pleas Court of Allegheny County (Pennsylvania) denied DDRC’s motion for summary judgment for contractual indemnification from Yokoso for two reasons:

The definition of “Premises” in the lease was silent with respect to sidewalks. On the contrary, sidewalks were expressly included in the definition of “Common Area,” which were to be solely maintained by DDRC. As such, the accident could not have been a result of Yokoso’s use and occupancy of the premises.

The court noted that DDRC’s argument failed as a matter of law “because Pennsylvania does not support provisions to indemnify another party’s negligence, unless there is an intent to do so expressed in unequivocal terms” (emphasis added). Therefore, the indemnity provision in the lease could not be construed to impose a duty on Yokoso to indemnify DDRC.

Conclusion

As landlords increasingly seek to shift liability and achieve risk management protection through detailed indemnity clauses, more court decisions similar to Constable can be expected. Ultimately, the strength of the tenant will undoubtedly affect its bargaining power and, as such, its negotiations in risk management. Additionally, tenants operating in the context of a freestanding building, where the tenant is generally responsible for all maintenance, may not have much negotiating power vis-à-vis a broad indemnity clause. In these instances, the tenant is wise to shift portions of any maintenance obligations to the landlord or its insurance carrier during negotiations, along with the requirement that landlord’s liability carrier name the tenant as an additional insured.

Regardless of the type of indemnity clause contained in the lease, tenants, as a practical point, should ensure that the language is unambiguous with respect to intended responsibilities. Tenants also should ensure that any insurance policies obtained accurately reflect all contractual obligations as well.


Scott R. Kipnis, a partner at Schnader Harrison Segal & Lewis LLP, is a member of Schnader’s Real Estate Practice Group, head of the group’s New York Office Real Estate Team and leader of the firm’s Retail Industry Team. He focuses his practice on closing deals for national and regional chains in leasing and retail property development transactions and regularly closes numerous retail, office, warehouse and industrial leases. Mr. Kipnis can be reached at skipnis@schnader.com.

Christine R. Lopez, an associate at Schnader Harrison Segal & Lewis LLP, is a member of the firm’s Real Estate Practice Group, Retail Industry Team, and Business Services Department, with a practice focusing on real estate transactions and retail leasing. Ms. Lopez can be reached at clopez@schnader.com.


[1] Constable v. Northglenn, LLC, 248 P.3d 714 (2011)

[2] BC Osaka, Inc., v. Kainan Inv. Groups, Inc., 60 N.E.3d 231 (2016)

[3] Shell Oil Co. v. Ryckman, 403 A.2d 379 (1979)

[4] Rodriguez v. 5432-50 Myrtle Ave., LLC, 148 A.D.3d 947 (2017)

[5] Ramos v. Browning Ferris Industries of South Jersey, Inc., 510 A.2d 1152 (1986); Mantilla v. N.C. Mall Associates, 770 A.2d 1144 (2001); Azurak v. Corporate Property Investors, 814 A.2d 600 (2003)

[6] Fulmore v. Westmount-Arlington Plaza Joint Venture, 2014 N.J. Super. Unpub. LEXIS 2725

[7] Perry v. Payne, 66 A. 553 (1907); Ruzzi v. Butler Petroleum Co., 588 A.2d 1 (1991)

[8] Smith v. M & J Big Waterfront Town Ctr., 2014 Pa. Dist. & Cnty. Dec. LEXIS 12872