Protecting Yourself: Indemnification Provisions in PM Contracts

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Are you in the process of hiring a property management company to handle your rental properties?

For those with extensive portfolios, hiring experts for property management is often the way to go. However, there is one particular clause in the contract that may raise an eyebrow for first-timers. It's called the “indemnification clause” and it may look something like this:

INDEMNIFICATION:

(a) The Owner shall indemnify, defend and save Agent harmless from all suits and/or other legal proceedings whatsoever and cost incurred therefrom in connection with the management of the Property and from liability for injuries suffered by any employee or other person whomsoever, except in cases of willful misconduct or gross negligence on the part of Agent or its employees,

(b) The Owner shall indemnify and hold harmless the Agent from and against any costs, loss, expense or damage (including attorney's fees) suffered or incurred by the Agent arising out of or related to the enforcement of this Agreement arising out of a default or other breach by the Owner, the management, operation, improvement, alteration and leasing of the Property, including all other activities arising out of or related to Agent's duties under this Agreement or as a result of any act or thing done or permitted by the Agent or its agents or employees; provided, however, that such indemnification shall not apply to any such cost, loss, expense or damage to the extent that the same relates to or as a result of conduct by Agent which constitutes willful and wanton misconduct.

Now, it may sound like the clause is saying that if one of the Property Management Company (PMC)’s workers (or “agents”) accidentally slip and hurt themselves while taking care of the rental home, then the owner (you, in this case) is responsible.

Is this a standard in most contracts? With property management specifically, it does come up a lot. But, on the other hand, isn't it too broad of a coverage?

Let’s discuss this in more detail.

Indemnity vs. Insurance: What Should You Look Out For?

We first have to make a distinction between indemnity and insurance. They both protect a company from losses and overlap in certain aspects, but their risk management analysis should be done separately.

Here’s how we differentiate the two:

Indemnity: This legal obligation exists whether or not you have insurance, which transfers the risk of the claims to the entity most capable of handling the risk. It usually involves 3 parties: the Indemnitor, the indemnitee, and the party that issues the claims. Should something happen, the Indemnitor will pay for the damages sustained by the indemnitee.

Insurance: This may cover some indemnity obligations, but it’s not always the case. Instead, insurance moves the risk from one party to another in exchange for a premium. The insurance company provides financial protection for the policyholder's losses and hedges against the cost of claims by the insured or other parties.

So, going back to the sample indemnity clause, you can see that it deals with third-party liability.

For example, suppose someone falls within the premises and sues you and the PMC. In that case, the owner has to pay for the defense, settlement, and judgment fees—regardless of whether your insurance covers it. The only exception is if there is gross negligence or willful misconduct.

This request seems a bit high, especially since the PMC may commit some negligence without it rising to the level of gross negligence. An example of this may be that they fail to maintain the walkways around the property. This isn't good for you, because the provision will hold you responsible for any injuries that'll happen to the property management company's workers.

In this case, we recommend that you hire an experienced attorney. Have them review the contract alongside your insurance policy. Then, they can determine the scope of the additional risk you’re taking and identify the portions that might be uninsured.

So What Is an Indemnification Clause in a Property Management Contract?

Now, PMCs mainly handle the daily operations of the rental properties and the management of the tenants themselves. If there's a tenant who trashes the house or skips payments, it's the company that'll jump in and saves the day.

However, all too often, when something goes wrong with one of the properties, the tenants will go directly to the PMC. Then they'll deal with the situation without you (the owner). If the circumstances reach the point of litigation, the tenant might sue both you and the company.

In this case, if the property management company doesn’t have adequate indemnification from you, they’ll have to defend the tenant’s claims—even if you’re actually the one who caused the problem (e.g., if there’s an underlying problem with the structure of the home or you failed to properly fund needed repairs). You’ll then get stuck litigating the case for years before settling the issue.

As a property management company in Metro Detroit, we’ve seen this happen with one of our clients before. One of the tenants claimed there was black mold in their home—which they thought was Stachybotrys—and sued the property owner and us for it. Unfortunately, the owner had chosen an insurance provider that didn’t cover mold claims. Due to the indemnification clause in the management contract, the owner was required to defend themselves & us from the tenant lawsuit.

Trust us, you do not want to go through the whole ordeal.

An indemnification clause basically means that the owner will “step in” or “defend” the property management company in case something happens that is beyond the company’s control. This can apply to structural defects, natural disasters, or work that you’ve undertaken. But, don’t worry, the property management company won’t be without any liability. They’re still accountable for addressing property issues and such.

An indemnification clause isn’t the perfect solution, but it is an important starting point. One that’s too broad (e.g., including indemnification for gross negligence) won’t be fair or enforceable. However, you still need one that’s adequate to protect you from litigation costs and other similar situations.

What Indemnification Clauses Should You Agree To?

Receiving a property management contract that requires you to protect the manager from all sorts of damage and harm may seem counterintuitive to hiring them. But many of the decisions made in the property management process should be made with you involved regardless.

So, a lot of situations will need you to indemnify the property management company.

For example, Fair Housing violations are usually not something an owner will indemnify the company for—as the owner won't do any of the advertising or property showings. But if the owner wants to participate in the applicant screening and approval process, they should be willing to repay the property management company for that.

Instead, our suggestion is for you to find a good property management company with Errors & Omissions insurance with Fair Housing Coverage. That way, you'll be protected sufficiently.

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