Construction Law Blog

Many design and construction contracts and subcontracts contain a “waiver of subrogation” provision in the contract’s “Insurance Requirements” section. This type of provision is included to prevent an insurance company, that has paid for a loss, from suing another party involved with the project that may have actually caused the loss. But what exactly is “subrogation” and what does it mean to “waive” subrogation rights?

Subrogation is the legal concept that allows an insurance company which has paid for a loss, to “step into the shoes” of (in other words become “subrogated” to the rights of) its insured following a loss and then sue a party that may have been responsible for the loss. Here’s an example:

An owner engages a general contractor to build a 20-story office building in downtown Lynchburg. The contract between the owner and the general contractor contains a waiver of subrogation clause stating that, to the extent that any damage to the project is covered by insurance (either the owner’s insurance or the general contractor's insurance), the owner and general contractor waive all rights against each other regarding such damage. The general contractor, in turn, enters into a subcontract with a subcontractor that contains a similar waiver of subrogation provision. Later, in the midst of the construction project, an employee of the subcontractor negligently starts a fire that destroys the unfinished high-rise, causing a $5M loss for the owner.

If the owner has a builder’s risk policy in place which permits the insured (owner) to waive subrogation rights in writing prior to a loss, then the owner’s builder's risk insurer will be obligated to pay the $5M loss but will not be able to sue the general contractor or the negligent subcontractor to recover the $5M that it paid on the loss. The risk of loss is not passed on to anyone else and stays with the insurance company.

This is the result that most parties to a construction project want to see – the insurance company, which has collected significant premiums, shoulders the risk of the loss without being able to pass the risk of loss on to anyone else. Importantly, however, it was a provision in the owner’s builder’s risk policy – specifically, the provision that permitted the insured to waive the insurance company's subrogation rights - that allowed this result to occur.

One practical benefit to the waiver of subrogation is that the insured avoids costly litigation that may ensue from counterclaims or cross-claims filed after the insurer pursues the negligent party. 

The lesson to be learned: Whenever a contract requires you to waive subrogation rights, check with your insurance consultant before signing the contract to ensure that, by waiving an insurer’s subrogation rights, you are not invalidating or compromising  your own insurance coverage. This is a real risk and one that owners and contractors can avoid with a single phone call.