Best Practices for Allocating Risk Among the Design Team

All too often, design professionals and their firms find themselves caught up in costly construction litigation, only to discover that the various design teams involved in the project are subject to differing and often unfair levels of exposure. These risks may be wholly unrelated to the quality or scope of the work they performed. Instead, each firm’s particular risk exposure may be tied to contractual limitations, and without regard to which design professional committed an alleged error or omission when providing their professional services. In this circumstance, the design professional should not assume that they have a legal right to bring a direct action against another, more culpable, project design professional to share costs and/or expenses associated with any damages.

 

To fully understand your exposure as a design professional, it’s critical to have a clear understanding of even the most obscure contractual obligations that you’ve signed up for. This includes things that you may have not even knowingly wanted, which can happen during the hectic and sometimes stressful months or years of negotiations leading to the final contract document. Unfortunately, the cost of settling professional negligence claims often fails to correlate with how well you or the firm performed on the project itself, but how well you have protected yourself in the contracts surrounding the work.

 

Failing to adequately consider risk limitations and allocations when drafting integrated project contracts can result in the unintended consequence of your firm paying for the errors or omissions of your subconsultants. Don’t make that mistake.

 

It is particularly frustrating when a project owner looks to the prime designer to resolve a significant damage claim. In turn, the prime designer looks down the line of retained design subconsultants for a resolution and learns for the first time that someone in the chain of professionals has limited their liability to an amount vastly insufficient to resolve the claim.

 

In short, best practices demand that an integrated set of contract documents be drafted with the intent to properly allocate risk. Routinely, fundamental contract provisions are inconsistent or absent in the agreements between the prime professional and lower-tier consultants. This problem results, somewhat understandably, from the parties solely focusing on the economic terms in negotiations and their over-reliance on standard form agreements. Such documents often fail to provide consistent, effective and beneficial risk-allocation features, but these provisions become of utmost importance when things go wrong. The unintended consequences of lopsided and inconsistent agreements can snowball when lower-tier consultants are retained through simple proposals or global master service agreements which were never intended to be used for large or complex projects. This is especially true when the prime design professional is obligated to comply with complex, industry-standard agreements, such as those promulgated though the American Institute of Architects (AIA).

 

 

The goal of this article is to introduce the “how-to” of limiting your liability and allocating risk as a design professional when retaining design subconsultants. In short, it presents a toolbox of contractual provisions and best practices to help manage the risks between design team members.

 

First, it’s prudent to incorporate the terms of the contract you negotiated with your client into the agreements you use to retain subconsultants. Consistency is key. One traditional contracting method is to include “flow-down” provisions throughout the chain of design agreements. In a subconsultant agreement, these clauses incorporate the prime design agreement by reference and bind the subconsultant to the prime architect or engineer to the same extent the lead designer is bound to the owner-developer. Their use is widespread in both design and construction agreements, and they are found in many standard forms published through leading design organizations such as the AIA. Despite the harmless-sounding language, a “flow-down” clause constitutes one of the most powerful provisions in a subcontract to apportion risk properly among the design team. The simple proposals submitted to your firm rarely include such provisions. Be cautious of consultants who reject the concept of accepting the same level of risk and responsibility as your own firm.

 

Second, make sure you get the agreements in writing and that they are signed, then put in your file at the beginning of every project. Almost every year, we are retained to defend an excellent and well-respected architect or engineer who accidently failed to execute a written contract with a design subconsultant on a troubled project. To avoid having unenforceable agreements, create a protocol for your project architects and managers to verify that signed agreements are maintained in the project files. Mistakes happen, and even the most conscientious design professional may neglect to follow up with their client or subconsultant to get the fully executed agreement. Such a review is often overlooked, but it is the simplest risk-management tool available to any firm. Remember to get those consulting agreements signed and returned!

 

 Both prime and subconsultant agreements should clearly delineate the scope of the specific professional services required of each firm:

 

Complex construction projects require extensive coordination among the team of design professionals. Each professional should consider who is responsible for coordinating the team and different design disciplines. The integrated contracts should specifically and affirmatively assign the coordination role as part of the assigned scope of services, with an understanding that you may be held responsible for the services of another professional if not clearly delineated.

 

Design professionals often endeavor to limit their liability to a defined term. Routinely, limitations-of-liability (LOL) clauses specify an upper limit or dollar amount for which a party may be held responsible in the event of a claim for damages. The limitation may be wholly unrelated to the level of actual exposure, the claim amount or the level of culpability or negligence involved. You should pay particular attention when a consultant demands to limit its exposure, while your own client agreement contains no such limitation. It is not uncommon for an architect to be fully on the hook for a catastrophic loss, only to discover later that their remedy against the culpable consultant, who had signed and sealed the offending design document, is limited to the amount of the fee the consultant received for professional services.

 

Additionally, ensure that your firm only waives indirect or consequential damages against a subconsultant, with an understanding of what you have agreed to waive in favor of your own client. The amount of lost profits or project-delay damages to a developer can dwarf the amount of remedial-repair costs. As such, never limit your ability to transfer such risk to a subconsultant who may have caused the project delay or other indirect damages to your client.

 

Indemnification is the ultimate risk-shifting provision in any design or construction contract. In general, indemnity and hold-harmless provisions are intended to transfer risk and liability to another firm in the event you are sued or otherwise held accountable for their errors. You should always demand that a subconsultant both defend your firm and compensate any third party in the event that you are sued for the negligent or other wrongful behavior of the subconsultant. Consider that you may be sued for a personal injury, a building failure or the stolen intellectual property rights of another. Without including specific and clear contract rights of indemnification in all downstream contracts, your firm may have very limited recourse to recover attorney fees, significant litigation costs and reimbursement for any adverse trial verdict or settlement. The enforceability of such provisions varies greatly between jurisdictions and the specific claims being prosecuted. It is well worth your time and effort to pay special attention to the type of indemnity when negotiating consultant agreements, especially when your client has already demanded that you indemnify the owner for any third-party claim. The following illustrate the vastly different outcomes that can occur without proper consideration of risk transfer:

 

 

 

Always consider whether your design subconsultants have the financial resources to defend and resolve legal claims prosecuted by you or third parties. The most effective protection against the potential insolvency of a consultant is to insist that the consultant obtain and maintain appropriate insurance. A wide variety of insurance is available to all professionals. The scope of such insurance coverage is well beyond the scope of this article. However, a full understanding of the complex law of insurance coverage isn’t required to demand that consultants maintain appropriate insurance at an appropriate level for any given project.

 

The most-asked question during risk-management presentations is how much insurance should be purchased. The answer to that question varies. How much insurance is needed depends on the firm, the subject matter expertise involved, and the complexity of the projects in a firm’s specific practice. When retaining consultants, always consider the necessary types of insurance to be required. Also consider reasonable insurance limits to be procured by the entire design team in proportion to the size and complexity of the project. A guideline for consideration of the appropriate level of required insurance limits correlates to the level of exposure to your firm in defending the overall design on any given project. Don’t automatically accept a typical position from a consultant that the professional fee paid to the firm does not justify the amount of insurance you demand. On the other hand, it is appropriate to consider that work involving a small residential development does not present the same level of exposure and risk as a large commercial development or industrial complex. Your level of risk tolerance can be higher, allowing you to proportionally reduce the insurance limits required of your subconsultants or vendors in those circumstances.

 

Risk allocation and limitations on liability are critically important in your negotiations and contractual review at the beginning of any project. Disregarding the small print and boilerplate provisions embedded in your contracts at project inception puts your professional and financial success at great peril. Pay careful and early attention to any provisions that appear to be designed to limit or allocate risk. In the end, such provisions may be much more important to the financial health of your firm than the basic economic payment terms that parties tend to focus on at the outset of negotiations.

 

It is equally important at the forefront of a project to insist on including key terms that properly and fairly allocate risk, as they may not be there to save you when needed later. Paying attention and integrating such terms into your contracts after a thorough review of the overall contractual scheme is far better than highlighting their absence when a project turns sour. When retaining a subconsultant, it should be part of your standard practice to pay attention to boiler plate and even separate terms-and-conditions exhibits to a consultant agreement and ensure that key terms are in place. If you do, you will be well rewarded if ever placed in the frustrating position of defending your team from a legal claim arising out of another professional’s subject matter expertise. 

 

 

This article provides general information, and should not be construed as specific legal, HR, financial, insurance, tax or accounting advice. As with all matters of a legal or human resources nature, you should consult with your own legal counsel and human resources professionals. The Hartford shall not be liable for any direct, indirect, special, consequential, incidental, punitive or exemplary damages in connection with the use by you or anyone of the information provided herein.