What is Contract Negligence?Insurance Explained
Whether you are running a VC-funded tech startup, a local small business, or you’re an independent contractor, you’ve had to sign a business contract at some point or another.
Whenever products or services are being traded in exchange for a fee, the smart thing to do is put together a contract between the two parties involved in the transaction so that everyone’s on the same page regarding what is being promised to them.
A business contract provides protection for both parties because it can be enforced by legal action if either side believes that they have not received what was promised to them via the contract.
When a business contract is being put together, typically, one party will extend some type of offer to the other party, which that party accepts by signing the contract. A contract could stipulate many different things. It could include a promise to perform a service or deliver a product, but it can also define the timeline for this service to be performed or product to be delivered.
Once the contract has been signed, both sides must carry out their parts of the agreement.
But what if the contract isn’t honored? In such cases, you’re obviously dealing with a breach of contract, which is a common claim that arises in the business world.
Breach of contract cases are usually pretty clear cut, but what about the slightly more specific and complicated issue of contract negligence? What does that entail?
Let’s take a look at how contract negligence is defined and how it relates to corresponding lawsuits in order to understand what types of business insurance can protect businesses from such issues.
Defining Contract Negligence
Just by looking at the term, one can assess that contract negligence is a combination of two related but somewhat different issues—breach of contract and professional negligence, which might make it a somewhat confusing term to define.
In the U.S., negligence falls under an area of “tort law” while breach of contract is an area of “contract law.”
A “tort” is a wrongful act that causes injury or harm to another. There are intentional torts and negligent torts. In insurance, intentional torts are not covered by any policies, while negligent torts generally are covered, because they were not deliberate acts, rather, involve a lack of reasonable care on the part of the person who committed the tort.
The main difference between negligence and breach of contract is that the elements needed to establish a breach of contract claim are not the same as the ones necessary to establish a claim of professional negligence. In a breach of contract claim, the party filing the lawsuit needs to show three elements: the existence of a contract, the breaching of the contract, and the injury that resulted from the breach.
Establishing Connections Between Professional Negligence and Breach of Contract
A case of contract negligence arises, most commonly, when an accusation of professional negligence leads to a breach of contract.
Here’s a fictional example of how these two legal theories can sometimes work together:
A graphic design company is hired by a client to produce and deliver an image using specific design software. However, the designers have no experience using that particular software. This is a fact that they never mentioned to the client, after which they signed the contract to perform the task using that specific software.
The design company delivers the image to the client in the wrong format. In this case, the design company committed professional negligence by not disclosing the fact that they had no experience with the software and breached the contract by not delivering what was promised. This now falls under the umbrella of contract negligence.
Can Waivers of Liability Help?
One of the concepts often discussed when looking at what a business’s options are for avoiding contract negligence claims is the concept of a waiver of liability. A waiver of liability is a clause that one party can include in a contract, stating that the other party has agreed that they will not sue them no matter what.
However, getting a waiver of liability into the contract isn’t easy, and sometimes it’s practically impossible. The party that’s going to make the decision on the waiver of liability is obviously the party that has the most leverage.
For example, if you’re a small manufacturer that’s bidding to get a job from a large client, there’s a good chance that the large company is not going to approve your request for a waiver of liability. In the same example, the small business might have no choice but to accept a waiver of liability requested by the larger company if they want to get the job.
Waivers of liability are most commonly used by businesses that provide products or services that can be deemed risky in some way. For example, if you are running a go-karting business in which there is a chance that people who use your services can get injured, it’s a good idea to have them sign a waiver of liability before stepping into one of your vehicles and racing.
This type of waiver of liability basically states that the party that has agreed to it acknowledges and accepts all possible risks that may come with engaging with your business.
However, it’s very important to remember that a waiver of liability can in no way be considered a substitute for commercial insurance. A waiver of liability doesn’t provide you blanket protection from lawsuits, because a claim can arise from activities and occurrences that were not covered by the waiver.
That’s why anyone who deals with contracts on a regular basis and provides professional services, be it lawyers, accountants, real estate agents, or software developers, should purchase the proper business insurance to protect themselves from the very common (and often very expensive) claims that can arise from contractual disputes.
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Does Professional Liability Insurance Cover Contract Negligence?
When it comes to claims of professional negligence, most business owners are aware that errors & omissions insurance (also known as professional liability insurance) is the policy that can protect their business.
And while insurance cannot help the potential reputational damage and fallout that could arise from a professional negligence claim, it can help on the legal/financial side of things.
Professional negligence and breach of contract claims are often incredibly complex and can take a long time to resolve. This means that the legal costs for defending your business could be very significant, even if you do win the case.
Errors & omissions insurance typically responds to claims of professional negligence, malpractice, and other professional missteps that might lead to client losses such as bad advice, missed deadlines, and miscalculations. The policy will usually cover your legal defense costs, judgments, and settlements up to the policy limit.
However, contract disputes are often a gray area that every professional liability policy might not cover. Even if the claim is related to contract negligence specifically, meaning that the breach of contract resulted from professional negligence, you can’t assume that your policy will cover this type of claim.
Whether coverage exists for contract-based claims is often a very nuanced issue that depends entirely on the policy language and the specific type of coverage that is being provided.
If you want to be positive that your professional liability insurance covers contract negligence and breach of contract claims, make sure that you bring this up with your broker and stress that you would like your coverage to include protection from contract-based claims when putting together your policy.
If you need to make sure that your professional liability policy is going to provide your business with the exact coverage it needs without leaving potentially costly gaps in your protection, feel free to reach out to one of our expert brokers for a free, no-strings-attached consultation at any time.