Indemnification Clause Explained: What Risk Are You Taking When You Sign?

An indemnification clause is a promise to cover another party's losses, usually the legal costs and damages from a third-party claim. Because indemnities are commonly carved out of the liability cap, it is often the one clause that can cost more than the contract is worth.

Why it can cost more than the contract is worth

An indemnity does more than promise to pay a judgment. Most commercial forms also require you to defend the claim, funding legal costs as they are incurred, before anyone has decided whether it has merit.

Then there is the cap. Agreements normally limit total liability — see limitation of liability — often at twelve months' fees, and the indemnity is written as an exception to it. Every other breach is capped; the indemnified risk is not. A Toronto software company on a $40,000-a-year agreement can carry an intellectual-property indemnity sitting entirely outside that cap.

Six things to check before you sign

1. Direction — mutual, or one way. In a master services agreement this is negotiable.
2. Trigger — "arising from" reaches much further than "caused by negligence."
3. Cap — is the indemnity carved out of it, and is there any separate ceiling.
4. Defence — who controls it, who picks counsel, who funds costs as incurred.
5. Losses — third-party claims only, or the other side's direct losses too.
6. Notice — how fast you must be told, and what late notice costs.

Where Quebec draws a hard line

Article 1474 of the Civil Code of Québec provides that a person may not exclude or limit liability for material injury caused through an intentional or gross fault, and may not in any way exclude or limit liability for bodily or moral injury. Drafting around that does not work.

Inside those limits, negotiated commercial terms hold. In 6362222 Canada inc. v. Prelco inc., 2021 SCC 39, the Supreme Court upheld a non-liability clause between two sophisticated companies even though the supplier had breached a fundamental obligation.

When to get a lawyer involved

Before signing: when the indemnity runs one way, sits outside the liability cap, or covers infringement in something you did not build.

How Ruby can help

If someone has sent you an agreement and you want to know what the indemnity exposes you to, Ruby's contract review starts at $499 — flat fee, with a licensed Canadian lawyer on every review.

FAQ

Is an indemnity the same as a limitation of liability clause?

No. A cap limits what one party can recover. An indemnity is a positive obligation to cover losses, usually from third-party claims. They interact: the indemnity is normally an exception to the cap, which is how it becomes the largest exposure in the agreement.

Can I refuse to give an indemnity?

You can often narrow one you cannot remove. The usual landings are making it mutual, limiting it to claims caused by your own breach or negligence, and bringing it inside the liability cap. Whether the other side moves depends on bargaining power.

Does an indemnity survive the end of the contract?

Usually. Most agreements name the indemnity in a survival clause, so it continues after termination, sometimes for years. Check that provision rather than assuming it ended with the work.

This article is general information about Canadian business law and is not legal advice. Laws differ by province and change over time, and how they apply depends on your specific circumstances. For advice on your situation, speak with a lawyer licensed in your province.