California Legislature Extends Prohibition Against Type I Indemnity Provisions to Commercial Construction

By Christopher J. Stipes

In 2008, the California Legislature enacted AB 2738, prohibiting "Type I" indemnity agreements in residential construction agreements. A Type I indemnity agreement requires the subcontractor to pay one-hundred percent of a claim for which the subcontractor and general contractor are jointly responsible, regardless of the respective degree of fault. Thus, if a jury finds a homeowner has suffered $1,000,000 in damages, for which the general contractor is ninety percent responsible and the subcontractor is ten percent responsible, the subcontractor must pay the entire $1,000,000 verdict if it has signed a Type I indemnity agreement. Due to AB 2738, this result is no longer permitted for work performed under residential construction subcontracts entered into after January 1, 2009. Under AB 2738, the general contractor would be forced to pay its $900,000 share of the $1,000,000 verdict, without recourse against the subcontractor.

The California Legislature has now extended the protection against Type I indemnity agreements to subcontractors in commercial construction. On October 10, 2011, Governor Brown signed SB 474 into law. SB 474 prohibits Type I indemnity provisions in subcontracts for commercial construction entered into after January 1, 2013.

However, there is a slight difference between the residential and commercial statutes. SB 474, prohibiting Type I indemnity in commercial construction contracts, only prohibits indemnity for the general contractor's "active" negligence. It still allows the general contractor to pass liability for its own "passive" negligence, such as failure to supervise, on to the subcontractor. AB 2738, prohibiting Type I indemnity in residential agreements, applies to both active and passive negligence by the general contractor. This important distinction is best illustrated by the following two examples.

Example 1 - Passive Negligence: A jury finds $1,000,000 of damages at a structure. They find the grading subcontractor ninety percent at fault, and the general contractor ten percent at fault. Assume in this instance the general contractor is at fault because it failed to detect and correct the improper work of the grading subcontractor. In this situation, the general contractor's negligence is "passive," i.e., an omission rather than a commission. If the structure is a residence, the grading subcontractor can only be forced to pay $900,000, its ninety percent share of the joint liability. The general contractor must pay the other $100,000, its ten percent share, even though its negligence was passive. However, if the structure is commercial, the grading subcontractor will be forced to pay the entire $1,000,000 verdict, even though ten percent of the fault was assessed against the general contractor. The result is different in the commercial context because SB 474 still allows the general contractor to force the subcontractor to pay claims which are based in part on the general contractor's own passive negligence.

Example 2 - Active Negligence: A jury finds $1,000,000 of damages at a structure. It finds the grading subcontractor ninety percent at fault because poor compaction led to excessive soil movement causing damage to the structure. The jury finds the general contractor ten percent at fault because it acted as its own framer and incorrectly nailed shear panels, which contributed to the damage caused by the soil movement. In this case, the general contractor's negligence is active, not passive. Accordingly, whether the structure is residential or commercial, the general contractor must pay its $100,000 share of the verdict, as it may not be indemnified against its own active negligence under either AB 2738 or SB 474.

AB 2738 and SB 474 do not apply to policies of insurance issued to subcontractors by general liability insurance carriers. In particular, neither bill applies to additional insured endorsements. However, the subcontractor itself may no longer be forced to pay for more than its fair share of damages, whether the setting is residential or commercial.

Christopher J. Stipes is an Associate with Kring & Chung, LLP's Sacramento, CA office. He may be reached at (916) 266-9000 or cstipes@kringandchung.com.