Will the fidelity market experience the one-two punch of lower premium volume and increased claims activity in what has traditionally been a low-risk, and growing, category? While concerned about fidelity bond customer demand in the near term..
Suretypedia’s Guide to Indemnity Agreements
Author: Suretypedia Team
Posted On: 11-19-2019
Most surety industry terminology isn’t widely used or well understood outside of the circle of industry professionals that specialize in this niche insurance line. We previously discussed the very obscure concept of an “Obligee” (check it out here). Another aspect to a surety arrangement that seems to raise a lot of questions is the Indemnity Agreement, an important protection for the Surety. This article seeks to clarify the ins and outs of this oft misunderstood contract.
Why is an Indemnity Agreement required?
While the Bond Form outlines many of the terms of the surety arrangement, the form is drafted by the Obligee and primarily defines protections for the Obligee and not necessarily for the Surety. As such, Sureties often require a separate contract, the Indemnity Agreement, to define the relationship between the Surety and the Principal and the rights of the two parties. Most Indemnity Agreements include two basic provisions: (1) a representation of facts, such as stating that the Principal has applied to the Surety for the bond and paid a premium for the execution and delivery of the bond, establishing that the Principal is receiving something of value in exchange for the indemnification provided (i.e. consideration required to establish a contract) and (2) indemnification by the Principal to hold the Surety harmless from and against all “losses”, which can include attorney fees and other legal expenses.
As you might imagine, Indemnity Agreements are drafted by the Surety unilaterally and these provisions provide additional protection for the Surety not necessarily included in the bond form. Principals should read the Indemnity Agreement carefully to understand their rights and obligations.
Why do spouses have to sign the Indemnity Agreement?
The Indemnity Agreement stipulates who the surety company can recover losses from in the event of a claim. The Surety’s right to recovery ensures the responsible party is held accountable while reducing ultimate losses for the surety, which in turn contributes to lower premiums for all Principals. By adding related parties to the agreement, the Surety can ensure the Principal does not evade ultimate responsibility for their actions while strengthening recovery efforts, and therefore reducing ultimate losses. The levels of indemnification available to Sureties are business, personal, and spousal indemnities. In an ideal world, the Surety will collect all three levels of indemnity, guaranteeing it will be able to seek reimbursement from the principal wherever the assets are held. Obtaining multiple levels of indemnification from related parties protects the Surety from indemnitors transferring assets (e.g. a business owner transferring wealth to a spouse) to circumvent the Indemnity Agreement.
Are Indemnity Agreements Always Required?
Indemnity Agreements are not always required (more below), but in most cases, the Principal will need to sign the Indemnity Agreement and pay a premium to entice the Surety to issue the bond. As we discussed earlier, the Indemnity Agreement helps to reduce risk to the Surety and is a consideration when determining the rates offered to the Principal. However, some bonds are considered low risk and may not require an Indemnity Agreement at all. For example, employee dishonesty bonds, bonds for retirement plans (aka ERISA bonds), and license and permit bonds with small bond amounts may not require signed indemnity agreements. While it remains important to hold the principal accountable, Sureties typically deem obtaining the indemnity agreements not worth the effort and expense, which would raise costs for Principals..
In contrast, for Principals that need multiple bonds or larger bond amounts, a Surety may require a more comprehensive indemnity agreement, known as a long form General Indemnity Agreement (“GIA”).. Most Sureties will require a GIA once the single or aggregate bond limit is above $100,000. These documents are lengthy, complex, and contain a significant amount of legal terms pertaining to the Surety’s ability to seek reimbursement in the event of a loss. A sample of such an agreement may be found here.
Is the Indemnity Agreement Negotiable?
As mentioned earlier, the Indemnity Agreement reduces risk to the Surety, which ultimately leads to lower premiums to the Principal. Some surety companies may offer to waive personal indemnification of the business owner(s) and/or spouse if certain other conditions exist that lower risk to the Surety. For example, a business with a proven track record and strong cash position when compared to its peers or a business willing to post collateral with the Surety.
What does the Indemnity Agreement Cover?
As previously discussed, the indemnity agreement holds the Surety harmless against all losses, including attorney fees and expenses. Notice the last word, “expenses”. It’s a very generic term and is intended to mean anything related to the claim on the bond, including the time the Surety company’s claims department spent on the phone with the principal, the claimant and others discussing the claim and its merits. These costs can be significant and the Surety has the right, but not the obligation, to bill the Principal for them and more.
What Fancy Legal Terms Should Principals and their Agents Look Out for?
“Indemnitors” as referenced in the agreement are the parties providing the indemnification to the Surety i.e. the business, owner(s) or spouses.
The agreements will also often include a “consent to judgment” provision whereby the Indemnitor consents and is bound by any settlement by the Surety of any claim or litigation if the Surety does so in good faith. This protects the Surety from the Indemnitor arguing the Surety was not authorized to settle a claim and provides the Surety flexibility to make settlements when required by the applicable regulations.
When the agreement states the parties are "jointly and severally" liable, this means that each Indemnitor i.e. the business, an individual owner or spouse is each liable for the whole amount owed to the Surety. This allows the Surety to collect the entire amount owed from one of the parties and then it is up to the individual parties to then sort out their share of the liability between them.
An agreement may also include a statement that an itemized list of loss and expense incurred by the Surety shall be “prima facie evidence” of your liability to the Surety. This means that the Surety does not have to provide you any other evidence to require you to pay the amounts you owe them.
In addition, the agreement may also state the Surety is “released” from any damage that may be sustained by reason of cancelling or non-renewing a bond. This means that the Surety can not be held liable for any damages your business or you may incur for no longer having a bond.