Contract Liability

Mike King
November 15, 2011 — 1,793 views  
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Let’s say that you want to build a condominium project.  You hire an engineering firm to prepare a survey identifying the boundary lines and rights-of-way on the parcel so that you can get building permits from the city.  But an adjacent land-owner has an interest in a right-of-way that was not accurately reflected in the survey.  The city denies the building permit for your townhouses.  You suffer all kinds of damages because you cannot proceed with your project.  What would you do? 

Sue the engineer who negligently prepared the survey and caused you to incur the increased costs, of course!  You would sue for the costs of the construction delays and additional engineering services and designs and all of your other damages.  Heck, you might make more money from the surveyor’s malpractice insurance than you would have made on the townhouse project! 

How would you feel if the court told you that a liability limitation clause in your contract with the surveyor limited your damages to $14,242.00, the amount that you had paid the surveyor for the negligent survey?  Well, that is what the court told the developer in 1800 Ocotillo, LLC v. The WLB Group, Inc.! 

So what is the magic language that got the engineering firm off the hook so cheaply?  Actually, the contract language was quite simple: 

Client agrees that the liability of WLB, its agents and employees, in connection with services hereunder to the Client and to all persons having contractual relationships with them, resulting from any negligent acts, errors, and/or omissions of WLB, its agents, and/or employees is limited to the total fees actually paid by the Client to WLB for services rendered by WLB hereunder. 

The Court said that for this limitation of liability clause to be enforceable, it must not violate public policy and must have been bargained for by the parties.  Moreover, the provision would be strictly construed against the party trying to enforce the limitation. 

The developer argued that the liability limitation clause was unenforceable because of Arizona's anti-indemnity statute governing architect-engineer professional services contracts.  The Supreme Court said that limiting the damages for negligence to the amount paid under the contract still preserved the surveyor's interest in exercising due care and complied with A.R.S. § 32-1159.  The developer also said that the statutes regulating professional corporations, partnerships, and limited liability companies made the limitation provision unenforceable.  The Supreme Court disagreed because those statutes do not address contractual limitations of liability and did not apply to the situation. 

While the developer also argued that the clause violated judicially identified public policy, the Court noted that clauses waiving tort liability entirely, may be enforceable in certain situations.  Thus, letting the parties to the agreement allocate the risks of damages above the amount paid under the contract did not violate public policy.  In fact, after the Supreme Court sent the case back to the Court of Appeals, the Court of Appeals noted that similar, but broader clauses had previously been upheld in Arizona.  For example, in Salt River Project Agric. Improvement & Power Dist. v. Westinghouse Elec. Corp., 694 P.2d 198 (1984), the following contract clause was upheld: 

LIMITATION OF LIABILITY – Neither party shall be liable for special, indirect, incidental, or consequential damages.  The remedies of the Purchaser set forth herein are exclusive, and the liability of [Seller] with respect to any contract or sale or anything done in connection therewith, whether in contract, in tort, under any warranty or otherwise, shall not, except as expressly provided herein, exceed the price of the product or part on which such liability is based. 

Such a clause is enforceable if it does not violate public policy and is actually bargained for between the parties. 

The developer also argued that the liability limitation clause was an "assumption of risk" within the meaning of the Arizona Constitution requiring that the defense of assumption of risk always be a question of fact to be decided by the jury.  The Supreme Court said that contractual limitations on liabilities in contracts do not relieve a party from the duty of due care.  Instead, liability limitation clauses set a ceiling upon damages for negligence and do not operate like the common law defense of assumption of risk. 

Eventually, the Court of Appeals, in turn, sent the case back to the Trial Court to determine the issue of whether the clause "was a part of the bargaining and negotiating process, . . ." or was agreed to inadvertently by the developer.  The lesson to be learned is that such limitations clauses should be conspicuous so no one can argue they didn't see them or didn't agree to them. 

If you want to make sure that the other party to a contract is not limiting its liability, you need to read all of the contract carefully and make sure you are not agreeing to liability limiting provisions.  If, on the other hand, you wish to limit your liability, the 1800 Ocotillo case and the Salt River Project case demonstrate that carefully drafted limitations clauses may be binding if actually negotiated and bargained for by the parties.  Either way, legal counsel can be of great assistance in dealing properly with liability limitations. 

If you have questions about limitations of liabilities in agreements, please call me. 

Mike King

Gammage & Burnham PLC

Michael R. King is a founding partner of Gammage & Burnham, P.L.C., a Phoenix law firm with diverse areas of emphasis. His practice primarily centers around bankruptcy and creditors' rights, commercial litigation, including uniform commercial code cases, and real estate and business law. Mr. King is a former of the Creditor/Debtor Rights Committee and is a current member of the Bankruptcy, Real Estate and Construction Law Sections of the State Bar of Arizona. He is the past chair of the Board of Trustees of the Maricopa County Bar Foundation. Mr. King is an active alumnus of The University of Arizona, where he received his B.A. and J.D. degrees, with distinction and high distinction.