In the realm of insurance and risk management, collateral warranties play a crucial role in protecting the interests of all parties involved in a contractual agreement
Brokers, in particular, must have a comprehensive understanding of collateral warranties to ensure that their clients have adequate coverage, including Professional Indemnity (PI) and Public Liability (PL) insurance. Let’s delve into what collateral warranties entail, their significance in insurance, and the importance of reviewing them regularly.
What is a collateral warranty?
A collateral warranty is a legally binding agreement between parties involved in a construction project or transaction. It is typically provided by a contractor, subcontractor or consultant to a third party, such as a funder, purchaser or tenant. This warranty assures the third party that certain obligations will be fulfilled, typically relating to the quality of work, compliance with regulations or future performance.
In simple terms, a collateral warranty acts as a bridge between parties that may not have a direct relationship under the main contract. It creates a legal link between a party involved in the original contract, such as a contractor or consultant, and a third party, such as a funder, purchaser or tenant, who may require assurances or commitments beyond what is provided in the primary contract. This connection allows the third party to enforce certain rights or obligations directly against the party providing the collateral warranty, providing an additional layer of protection and assurance in complex contractual arrangements.
Tie-in with insurance
Collateral warranties often intersect with insurance, especially in sectors like construction where risk exposure is high.
In many cases, parties requesting collateral warranties will specify certain insurance requirements that contractors or consultants must meet to fulfil their obligations under the warranty. This often includes maintaining specific limits of insurance coverage, such as Professional Indemnity (PI) or Public Liability (PL) insurance, to ensure adequate financial protection against potential liabilities.
Additionally, collateral warranties may stipulate a duration for which the insurance coverage must be maintained. It’s not uncommon for this duration to extend beyond the completion of the project and the expiry of the original contract. In construction projects, for example, it’s typical for collateral warranties to require contractors to maintain insurance coverage for a significant period, often up to 12 years or more, after completion. This extended period helps ensure that parties relying on the collateral warranty have recourse to insurance coverage for any defects or issues that may arise well into the future.
The inclusion of phrases like “as long as commercially viable” acknowledges that the ongoing fulfilment of obligations, including insurance requirements, should be reasonable and aligned with the commercial realities of the situation. It provides a degree of flexibility for parties to adjust their obligations over time, taking into account changes in circumstances, market conditions or legal requirements. However, it’s essential for parties to ensure that such clauses are drafted clearly and fairly to avoid ambiguity or disputes regarding their interpretation.
“Contractors should review collateral warranties periodically to ensure that their insurance coverage aligns with the contractual obligations outlined in these agreements.”
Common clauses
Various clauses in collateral warranties shape contractual obligations and legal frameworks. The indemnity clause requires the warrantor to indemnify the beneficiary from specific losses or liabilities arising from contract performance or non-performance. The duty of care clause sets the standard of care expected from the warrantor in executing their obligations, emphasizing reasonable skill, care, and diligence. Limitation of liability clauses curtail the warrantor’s liability for certain damages or losses, often capping the amount to a multiple of contract value or fees.
Other clauses, like notices, assignment, governing law and jurisdiction, severability, and termination, establish procedural guidelines, address assignment permissions, designate legal jurisdictions, ensure contract coherence and delineate termination circumstances.
Certain clauses in collateral warranties pose challenges for insurance coverage due to inherent risks. For example, clauses like fitness for purpose and express guarantees promise specific outcomes, making it difficult for insurers to predict and cover potential future performance issues or subjective interpretations. Liquidated damages clauses, while not inherently uninsurable, require careful scrutiny to ensure they are reasonable and proportionate to potential losses.
Clauses excluding liability for consequential damages or design defects in construction-related warranties also present difficulties for insurers due to the unpredictability and significant financial implications of such claims.
Importance of regular review
Contractors should review collateral warranties periodically to ensure that their insurance coverage aligns with the contractual obligations outlined in these agreements. Common clauses found in collateral warranties include indemnity provisions, duty of care clauses, and limitations of liability.
Collateral warranty checking services
Some insurers offer collateral warranty checking services to assist in evaluating the adequacy of clients’ insurance coverage. These services provide valuable insights into the compatibility of insurance policies with the terms of collateral warranties, helping client’s make informed decisions.
Legal implications and contractual obligations
It’s essential to recognise that collateral warranties are legal documents that carry significant legal implications. While insurance policies may provide coverage for certain liabilities, they may not fully indemnify clients against all risks outlined in collateral warranties. Clients should seek legal advice to review and negotiate collateral warranties alongside their contracts to ensure comprehensive protection.
In summary, collateral warranties are integral to contractual agreements, particularly in industries with heightened risk exposure such as construction. Brokers play a vital role in ensuring that clients have adequate insurance coverage to meet the obligations outlined in collateral warranties, including PI and PL insurance. Regular review of these warranties, understanding common clauses and leveraging collateral warranty checking services provided by insurers are essential steps in mitigating risks and protecting clients’ interests.
However, it’s crucial to acknowledge that brokers and underwriters cannot provide legal advice on the specifics of collateral warranties, highlighting the importance of seeking legal counsel to review and negotiate these agreements thoroughly.
Contracts are a vital component of negotiations that should not be overlooked or signed without careful consideration of the associated risks and liabilities.
Scott Williams
Joint managing director
Clarke Williams
Tel: +44 01632 252 898
swilliams@clarkewilliams.co.uk
*Please note that this is a commercial profile.
