What Is an Indemnity Clause?
An indemnity clause is a contractual provision that requires one party to compensate the other for specific losses, claims, or costs — often going beyond what would be recoverable as ordinary damages.
Key Takeaways
- An indemnity clause creates a primary obligation to pay — unlike a damages claim, it does not require the other party to prove loss.
- Indemnities are typically broader than the general law of damages and can cover losses that would not otherwise be recoverable.
- Always read indemnity clauses carefully — they can significantly shift commercial risk between the parties.
- Negotiating a mutual indemnity or capping an indemnity is standard practice in commercial contracts.
What an indemnity clause does
An indemnity clause is a contractual promise by one party (the indemnifying party) to compensate the other party (the indemnified party) for specified losses, costs, or liabilities. Unlike a claim for damages — where the claimant must prove their loss, show that the loss was foreseeable, and demonstrate that they mitigated it — an indemnity is a primary obligation that the indemnifying party must fulfil on the occurrence of defined events, regardless of whether the indemnified party has actually suffered a quantifiable loss in the traditional legal sense. This makes indemnities more powerful (and more commercially significant) than ordinary contractual warranties. They are also typically easier to enforce, as the trigger is the occurrence of the defined event rather than proof of causation and loss.
Common types of indemnity in SME contracts
Indemnity clauses appear in many different contexts in commercial contracts. IP indemnities are common in technology and service agreements: the service provider indemnifies the client against any claim that the deliverables infringe a third party's intellectual property rights. Tax indemnities appear in share purchase agreements: the seller indemnifies the buyer against any tax liability of the target company that arose before completion but was not accounted for. Employment indemnities may require one party to indemnify the other against employment claims from staff transferred under TUPE. General liability indemnities in service agreements may require the supplier to indemnify the client against any losses arising from the supplier's negligence, breach of contract, or breach of law.
Reading and negotiating indemnity clauses
Before signing any commercial contract, read every indemnity clause carefully. Key questions to ask: What triggers the indemnity — is it any breach, or only negligence, or only wilful misconduct? Is the indemnity mutual, or does it run only in one direction? Is it subject to any cap (limiting the maximum amount payable)? Does it cover indirect or consequential losses, which are usually excluded from ordinary damages claims? Does it require the indemnified party to notify promptly and give the indemnifying party control over any claim? Broad, one-sided indemnities in favour of a large corporate client are a common feature of standard form contracts and should be negotiated — either by introducing mutuality, excluding indirect losses, or capping the indemnity at the contract value or insurance limit.
Indemnities and insurance
Indemnity clauses and insurance work together but are not the same thing. An indemnity clause shifts legal responsibility between the contracting parties; insurance provides an independent source of funds to meet that responsibility. If you give a broad indemnity in a contract and something goes wrong, you are legally obliged to pay — whether or not you have insurance to cover it. This is why it is essential to check that your insurance (particularly professional indemnity and public liability) covers the types of claims that your contractual indemnities expose you to, at the levels required. Many client contracts require you to hold specific minimum levels of insurance precisely because they are relying on that insurance to fund any indemnity claim. Never accept an indemnity obligation that exceeds your insurance coverage without careful consideration.