Introduction and Significance of these Clauses

Many industry form documents and custom construction contracts contain provisions shifting or limiting the respective parties’ risks. One of the more potentially significant risk-limiting provisions seen primarily in customized or modified professional services agreements is the “limitation of liability” clause.

It is important to recognize the difference between a “limitation of liability clause”, and an “exculpatory clause”.  A “limitation of liability clause” is a contractual clause limiting the amount of damages that may be recovered for the negligent acts of a party, whereas an “exculpatory clause” is one that totally exonerates a party from its future negligent conduct.  Generally, exculpatory clauses in contracts are disfavored under the law of most states, and such contract provisions are strictly construed against the party claiming the benefit of the clause. Courts are reluctant to enforce contracts that relieve parties from their future negligence.  In some situations, exculpatory clauses have been held to be invalid under particular statutory provisions and in other instances because the contract is one affected with a public interest. Statutory restrictions which preclude their use generally hold that statutory liability for negligence cannot be contracted away.

“Limitation of liability clauses”, on the other hand, generally establish the maximum liability or exposure of one party if there is a claim.  The purpose of these clauses is to recognize the proportional role of the professional service provider in the project and limit their liability according to the level of compensation received under the agreement. If enforceable, the clause will serve to cap a party’s liability for damages to an amount certain.   However, there some jurisdictions in which these types of clauses are either disfavored, or even unenforceable.  As a result, it is important to understand at the outset of a claim whether one of these clauses exists and has a potential effect on the liability issues, but also which jurisdiction is involved and what that jurisdiction’s case law and/or statutory law has to say about the enforceability of these clauses. 

Typical Limitation of Liability Clause

While there is no standard AIA or industry form document which contains limitation of liability provision language, most of them are proposed as a custom term added to these documents by design professionals. Most read along the lines of the following:

In recognition of the relative risks and benefits of the Project to both the Client and the Design Professional, the risks have been allocated such that the Client agrees, to the fullest extent permitted by law, to limit the liability of the Design Professional and Design Professional’s officers, directors, partners, employees, shareholders, owners and subconsultants for any and all claims, losses, costs, damages of any nature whatsoever whether arising from breach of contract, negligence, or other common law or statutory theory of recovery, or claims expenses from any cause or causes, including attorney’s fees and costs and expert witness fees and costs, so that the total aggregate liability of the Design Professional and Design Professional’s officers, directors, partners, employees, shareholders, owners and subconsultants shall not exceed $__________, or the Design Professional’s total fee for services rendered on the Project, whichever amount is greater. It is intended that this limitation apply to any and all liability or cause of action however alleged or arising, unless otherwise prohibited by law, including but not limited to negligence, breach of contract, or any other claim whether in tort, contract or equity. If the Client does not wish to limit professional liability to this sum, if the Design Professional agrees to waive this limitation upon receiving Client’s written request, and Client agrees to pay an additional consideration of ______ percent of the total fee or $_________, whichever is greater, additional limits of liability may be made a part of this Agreement.

In addition to the language cited above, it is suggested the following tail language be added to any such clause to make sure the contract is not interpreted in such a way that the Court would find that the insurance or indemnity sections would conflict with, and therefore invalidate the limitation of liability language:

Limitations on liability, waivers and indemnities in this Agreement are business understandings between the parties and shall apply to all legal theories of recovery, including breach of contract or warranty, breach of fiduciary duty, tort (including negligence), strict or statutory liability, or any other cause of action, provided that these limitations on liability, waivers and indemnities will not apply to any losses or damages that may be found by a trier of fact to have been caused by the Design Professional’s gross negligence or willful misconduct. The parties also agree that the Client will not seek damages in excess of the contractually agreed-upon limitations directly or indirectly through suits against other parties who may join the Design Professional as a third-party defendant. “Parties” means the Client and the Design Professional, and their officers, directors, partners, employees, subcontractors and subconsultants.

Enforceability of Limitation of Liability Clauses

Where the parties to a contract are sophisticated business entities dealing at arm's length, the limitation is reasonable in relation to the design professional’s fee, and the damages are purely economic, most states will enforce a limitation of liability clause.   Other states hold them to be varying degrees of unenforceable.   Some states find them unenforceable unless properly worded, giving them careful scrutiny, whereas others find them totally unenforceable for reasons ranging from violation of that state’s anti-indemnity statutes to public policy reasons.

A limitation of liability clause simply places a fixed cap on the amount of damages that may be recovered against a contracting party in the event of a claim. Generally, courts hold that such clauses are not per se against public policy, but several states are more protective, and some have enacted legislation, by way of anti-indemnity statutes that hold such clauses void and unenforceable.

Generally speaking, in order to contractually limit damages for a party’s future negligence, the contractual language at issue must be: 1) clear, 2) unambiguous, 3) unmistakable and 4) conspicuous, in order to be enforceable.

There are several principles that emerge from those states that find limitation of liability clauses enforceable. As a rule, most states that enforce them strictly construe them against the beneficiary of the clause. The clause must still meet the above four language requirements. However, a theme from these cases is that the courts are not in a position to re-write sophisticated parties’ business agreements, and will generally enforce them as written.

Some courts have taken a very restrictive view of the these clauses, and while they have upheld them, they have heavily scrutinized them, requiring such things as separate negotiation or bargaining for the clause at issue, evidence of separate consideration for the limitation of liability clause, or that it be very conspicuous – in a different typeface, highlighted and not merely set out along with several other numbered paragraphs.

States that refuse to enforce the clauses do so for a number of reasons, including finding the clauses violative of the specific state’s anti-indemnity statute, or holding that they are unenforceable as against public policy. [A summary table, Table 1.0, at the end of this document, compiles relevant case law and statutes on these clauses from the 50 states.]

States Allowing the Use of Limitation of Liability Clauses

North Carolina

             The North Carolina Court of Appeals has held, specifically in a case involving a provider of professional services in the construction industry, that a limitation of liability provision is valid and enforceable.  In Blaylock Grading Company, LLP v. Smith, 189 N.C.App. 508, 658 S.E.2d 680 (2008), Blaylock Grading Company sued Neil Smith Engineering, a professional land surveying company, over alleged negligence in surveying services provided by Smith to Blaylock.  The contract between the parties contained a clause that limited any potential liability of Smith to $50,000 or the total amount of the fee paid to Smith, whichever was greater.   Blaylock argued that the clause was unenforceable in North Carolina, and that it violated North Carolina’s Anti-Indemnity Statute (N.C.G.S § 22B-1).  The Court concluded that the clause did not violate North Carolina law, and in so doing noted that there were no formation irregularities with the contract, the contract was not unconscionable, there was no inequality of bargaining power, and that both parties were sophisticated, professional parties.  As to the Anti-Indemnity Statute argument, the Court concluded that a limitation of liability clause was not the same thing as an indemnity clause, and so the statute did not operate to bar the clause. 

Missouri

The Missouri Supreme Court has ruled on the validity of a limitation of liability clause in Purcell Tire and Rubber Company, Inc. v. Executive Beechcraft, Inc., 59 S.W.3d 505 (Mo. 2001). Purcell dealt with a limitation of liability clause in an inspection agreement between the purchaser of an aircraft and the inspection company hired to prepare an inspection report of the plane before it was purchased.

The Court noted that sophisticated commercial parties have freedom of contract, even to make a bad bargain, or to relinquish fundamental rights, such as waiving the right to a jury trial, or forum selection. The parties may also contractually limit future remedies. The Court held as a general principle that “clear, unambiguous, unmistakable, and conspicuous limitations of negligence liability do not violate public policy.” If the contract effectively notifies a party that it is releasing the other party from its own future liability, sophisticated businesses that negotiate at arm's length may limit liability without specifically mentioning “negligence,” “fault,” or an equivalent.

Although not discussed, it is arguable the Court in Purcell would have reached a different decision in a case involving personal injury, or one involving other than economic damages.

Arkansas

Arkansas addressed the issue of limitation of liability clauses, finding them generally enforceable, in W. William Graham, Inc. v. City of Cave City, 709 S.W.2d 94 (Ark. 1986). In Graham, the question of the validity and enforceability of the clause was secondary in the Court’s analysis, finding that it must give effect to any provision voluntarily entered into. The issue was the construction of the clause, which sought to restrict and limit recovery to damages based upon “professional negligent acts, errors, or omissions.” No mention was made of liability for breach of contract, and the resultant damages that might flow from such a breach.

Though the language in the limitation of liability clause pertained to “negligent acts, errors or omissions,” the jury found the defendant breached its contractual duty to perform within the time frame mutually agreed upon, entering a verdict on a contract claim and not a negligence claim. Whether the delay was occasioned by “negligence” or contract breach was not for the Court to divine, noting that, had the defendant “desired to limit its liability for breach of contract, it could have done so, and doubtless this Court would have enforced such contract proviso, as it has many times in the past.” The Court noted it could not re-write the contract, indicating that such clauses are to be strictly construed against the party relying on them, limited to their exact language.

States Opposing the Use of Limitation of Liability Clauses

Alaska

In City of Dillingham v. CH2M Hill N.W., Inc., 873 P.2d 1271 (Al. 1994), the Alaska Supreme Court invalidated a standard limitation of liability clause, seeking to limit an engineer’s liability to the owner to $50,000.00, or its fee, whichever was greater, for liability arising out of the engineer’s sole negligent acts, errors or omissions. The Court held the provision violative of the Alaska Anti-Indemnity Act, Alaska Statutes § 45.45.900, which prohibits as against public policy any contract that requires another to hold a party harmless from their “sole” negligence. The Court, in effect, analogized the clause as one for indemnity for those unrecovered amounts over the cap, which would result in one party indemnifying the other for their sole negligence.

New Jersey

In Lucier v. Williams, 366 N.J. Super. 485 (N.J. App. 2004), the New Jersey Appellate Division considered the enforceability of a limitation of liability provision in a home inspection contract. Plaintiffs were first time home buyers, who contracted with an inspection company, owned by an engineer and licensed professional home inspector, to inspect a home they were purchasing. A lower court enforced a limitation of liability clause in their contract.

In determining whether to enforce the contract, the Court of Appeals looked to its adhesive nature, the subject matter of the contract, the parties’ relative bargaining positions, the degree of economic compulsion motivating the adhering party, and the public interests affected by the contract. It also focused attention on whether the limitation was a reasonable allocation of risk between the parties or whether it ran afoul of the public policy disfavoring clauses which effectively immunize parties from liability for their own negligent acts.

Applying these principles to the home inspection contract in issue, the Court found the limitation of liability provision unconscionable. The Court did “not hesitate to hold it unenforceable for the following reasons: (1) the contract, prepared by the home inspector, is one of adhesion; (2) the parties, one a consumer and the other a professional expert, have grossly unequal bargaining status; and (3) the substance of the provision eviscerates the contract and its fundamental purpose because the potential damage level is so nominal that it has the practical effect of avoiding almost all responsibility for the professional's negligence. Additionally, the provision is contrary to our state’s public policy of effectuating the purpose of a home inspection contract to render reliable evaluation of a home's fitness for purchase and holding professionals to certain industry standards.”

Important in the Court’s analysis was New Jersey statutory provisions requiring home inspectors, as a licensing prerequisite, to maintain errors and omissions insurance with a minimum coverage of $500,000 per occurrence. N.J.S.A. 45:8-76a. This legislative provision provided a clear expression of public policy that home inspectors be fully liable for their errors and omissions, and to maintain “substantial insurance coverage to assure payment for any such liability.”

States Highly Critical of the Use of Limitation of Liability Clauses

California

            While most states take a very careful approach to enforcing these clauses, some do so with extreme caution. In California, as an example, in the case of Greenwood v. Murphy, 2008 WL 4946224 (Cal. App. 2008), while the trial court upheld the enforceability of a limitation of liability clause, the court of appeals reversed, finding the clause unenforceable. In its opinion, the court of appeals noted the factors that should be considered includes: the question of whether the parties in this case had an opportunity to accept, reject, or modify the limitation of liability clause, and a consideration of all of the facts surrounding the transaction, including whether the parties were of relative equal bargaining power and whether it was an arm’s length transaction.

While California has an anti-indemnity statute, they also have a statutory section which allows for some limitations provisions in agreements, California Civil Code Section 2782.5, which states:

Nothing contained in Section 2782 shall prevent a party to a construction contract and the owner or other party for whose account the construction contract is being performed from negotiating and expressly agreeing with respect to the allocation, release, liquidation, exclusion, or limitation as between the parties of any liability (a) for design defects, or (b) of the promisee to the promisor arising out of or relating to the construction contract.

The case involved a homeowner who signed a form contract with an engineer, who simply felt they had no option but to accept the language given to them in the agreement, which contained a limitation of liability clause. Perhaps the outcome would have been different if the parties were both sophisticated business entities.

States with Conflicting Decisions on the Enforceability of Limitation of Liability Clauses

Florida

In Florida Power & Light Co. v. Mid-Valley, Inc., 763 F.2d 1316 (11^th Cir. 1985), the Eleventh Circuit decided whether, under Florida law, a limitation of liability clause “exculpated an engineer from damages caused by its own negligence.” The Court read the contract provision as a contract clause for indemnification under Florida law where the effect of the clause was to exculpate the indemnitee for its own negligence. A review of Florida case law and cases from other jurisdictions revealed that in order for the “indemnity contract” to be construed as allowing indemnification for the indemnitee’s own negligence, that intention must be expressed in clear and unequivocal terms.

Three variant views as to what constitutes clear and unequivocal language emerged from the Court’s analysis. A strict construction approach would not find an indemnity clause indemnifying against “any and all claims” without express reference to negligent conduct sufficiently “clear and unequivocal,” and thus unenforceable to limit a negligence claim. A more liberal approach would read the language “any and all claims” to clearly cover all types of claims, including negligence claims, and thus enforceable. A more pragmatic line of cases considers the language of the contract along with any other indications of the parties’ intentions in determining whether the intention to indemnify the indemnitee against its own negligence was the intention of the parties.

The Court held the contract satisfied Florida’s strict test applicable to cases where the indemnitee’s sole negligence caused the damage. In clear and unequivocal terms the contract specifically listed the “negligence of the Engineer” as one cause of damage that was to be the subject of the exculpatory clause and the indemnity provision. The contract also limited the Engineer’s liability for indemnity and damages by providing stated insurance coverage. It also provided a means for plaintiff to increase that insurance coverage at additional cost, which plaintiff expressly declined to do. The Court of Appeals ultimately held that under Florida law the limitation of liability clause exculpated the Engineer from its own negligence and enforced the limitation of liability clause.

However, compare the case of Witt v. La Gorce Country Club, Inc., 35 So. 3d 1033 (Fla. App. 2010), wherein the Florida Court of Appeals held the use of limitation of liability clauses in professional services agreements void ab initio. In the case, the Florida Court of Appeals noted the Florida Supreme Court tacitly acknowledged that an extra-contractual remedy against a negligent professional is necessary because contractual remedies in such a situation may be inadequate. (Citing Moransais v. Heathman, 744 So.2d 973, 983 (Fla. 1999)). (“While the parties to a contract to provide a product may be able to protect themselves through contractual remedies, we do not believe the same may be necessarily true when professional services are sought and provided.”). By allowing a professional negligence claim against an individual on common law and statutory grounds, and finding that the doctrine designed to prevent “parties to a contract from circumventing the allocation of losses set forth in the contract” does not preclude such a claim, the Florida Supreme Court implicitly acknowledged that claims of professional negligence operate outside of a contract.

Under the facts of the case, the court held that a cause of action in negligence exists irrespective and independent and outside of a professional services agreement, and, therefore, found a limitation of liability provision was, as a matter of law, invalid and unenforceable.

Practical Tips for Drafting Limitation of Liability Clauses

The best way to ensure that these clauses will be enforceable is to understand what the Courts in your jurisdiction will look at to determine the enforceability, and to make sure the key language is present.  However, as a general matter from looking at the cases where these clauses have been upheld, there are certain essential elements that should be a part of any limitation of liability clause to give it the best chance of being upheld.  

Initially, it is important that the clause is negotiated. This can be accomplished in several different ways. Use of pre-printed forms with blanks provided for filling in the appropriate liability caps (using either a standard figure, like $50,000.00, or the professional's fee, whichever is higher, or some other limit which meaningfully takes into consideration the potential damages on the project), evidences the fact the clause was discussed. Highlighting the language in the agreement with different typeface, or bold print, or having a separate signature or initial block adjacent to the limitation of liability language will show it was conspicuous, negotiated and explicitly accepted.

There must also be evidence of relatively equal bargaining power during contract negotiation, not a "take it or leave it" agreement. Some courts have held that, in the absence of evidence of negotiation over the clause at issue, it will not be enforced.

As far as exculpatory clauses the few cases enforcing these focus on the simple, clear and unambiguous nature of the release language at issue. Therefore, the language must specifically state that it is a release of future “negligence” or “breach of contract” in order for the clause to be an effective waiver of these claims. General language releasing future claims will not suffice to release allegations of negligence unless it is specifically mentioned.

Even following these suggestions does not guarantee a court will enforce the clause as written. These clauses will be subjected to case by case scrutiny. While these are simply suggestions, you should of course obtain the assistance of counsel in your respective jurisdiction to make sure that the limitation of liability clause you are suggesting complies with the exact letter of the law in the subject state.

Table 1.0

State by State Analysis of the Enforceability of Limitation of Liability Clauses