Limitation-of-Liability Provisions (Construction Law)

CONSTRUCTION LAW

December 2008

Limitation-of-Liability Provisions

Can a plumbing subcontractor cap liability for sole negligence?

Absent contractual limitations, liability for economic losses resulting from the sole negligence of a professional in the construction trade is limited only by the extent of the assets and/or insurance of that professional. Once a contract enters the picture, liability for such losses can be limited or distributed among the parties in a number of ways through limitation-of-liability provisions.

Limitation-of-liability provisions, capping to a fixed amount the liability of a construction professional for that professional's sole negligence, are becoming increasingly common.

The law generally favors allowing parties to allocate risks as the parties deem fit, absent circumstances that would make a contract or its limitation-of-liability provisions unconscionable or against public policy. Typically, unconscionability is difficult to show and is found only where:

In Ocotillo v. WLB, the Arizona Court of Appeals considered whether a limitation-of-liability provision capping liability for a construction professional's sole negligence to the amount of that professional's fees violates Arizona public policy. In 1998, Ocotillo began development of a townhouse project in Phoenix on property bounded on one side by the Arizona Canal. Ocotillo agreed to pay WLB to provide surveying, engineering and landscape architecture to the project. The parties' contract contained a limitation-of-liability provision that limited WLB's liability resulting from any negligent acts, errors or omissions of WLB to the total fees actually paid by Ocotillo to WLB for its services. Pursuant to the parties' contracts, WLB prepared a survey of the boundaries of the project and claimed rights-of-way affecting the property. WLB failed, however, to identify an existing right-of-way owned by Salt River Project, the entity that managed the Arizona Canal. As a result of the inaccurate survey, the City of Phoenix refused to issue necessary construction permits, and Ocotillo was required to procure a redesigned site layout from other engineering and survey firms.

Ocotillo sued WLB for breach of contract and professional negligence. At WLB's request, the trial court determined that the limitation-of-liability provision was enforceable. Ocotillo appealed this ruling, arguing in part that the limitation-of-liability provision was unenforceable as against public policy. The Arizona Court of Appeals noted both the general acceptability of limitation-of-liability provisions in the commercial setting and the absence of any legislative action that would void limitation-of-liability provisions in construction contracts.

The Court of Appeals held that Arizona's public policy does not broadly prohibit the enforceability of limitation of-liability provisions, including WLB's provision capping liability to the amount of its fees.

Ocotillo then petitioned for review of this holding by the Arizona Supreme Court. Sitting en banc, the Supreme Court affirmed the Court of Appeals' decision with respect to the enforceability of WLB's limitation-of-liability provision and provided insight as to what circumstances could render a limitation-of-liability provision void. Acknowledging the public policy against allowing limitation-of-liability provisions that would eliminate a construction professional's incentive to exercise due care, the Supreme Court recognized the possibility that a limitation-of-liability provision could cap a construction professional's liability to a dollar amount so low that it effectively would eliminate that professional's incentive to take precautions.

However, the Supreme Court determined the limitation-of-liability provision capping WLB's liability to the amount of its fees was not too low because WLB's fees were the main incentive for its work. Therefore, the Supreme Court concluded that WLB retained a substantial interest in exercising due care because it stood to lose the fees that induced it to enter into the contract with Ocotillo in the first place and therefore, held that WLB's limitation-of-liability provision was enforceable.

It is not uncommon for professionals in the construction trade to pay close attention to the terms of the parties' contract that deal with the subcontractor's scope of work and fees, but to give less consideration to limitation-of-liability provisions. This can be a costly mistake, because signing a contract manifests assent to all terms, including limitation-of-liability provisions, whether read or understood.

Not only should a construction professional, such as a plumbing subcontractor, be cognizant of all the terms of the contract the professional is asked to sign, but the professional also should consider whether to negotiate an agreement limiting the professional's own liability. Such an agreement might prove highly beneficial in circumstances where the costs of service are low but damages resulting from the construction professional's negligence would be particularly costly. However, when negotiating a limitation on liability, the construction professional must remember that agreements to eliminate all liability or to cap liability at amounts too low to incentivize the professional to exercise due care will be unenforceable as against Arizona public policy.

These materials are designed to provide general information prepared by professionals in regard to the subject matter covered. It is provided with the understanding that the author is not engaged in rendering legal, accounting, or other professional service. Although prepared by professionals, these materials should not be utilized as a substitute for professional service in specific situations. If legal advice or other expert assistance is required, the service of a professional should be sought.