By Michael C. Loulakis and Lauren P. McLaughlin
Limitation of liability clauses are one of the most essential risk-management tools that design professionals have in their arsenals to defend against claims made by clients. The rationale for capping design professionals’ liability is relatively straightforward — their fees do not cover the potential that they can be liable for virtually unlimited financial exposure if there is a claim. Moreover, professional liability underwriters generally consider the presence of LoL clauses when underwriting and pricing their insurance premiums. Unless an LoL clause is found to be void due to public policy, it will be enforced. Take, for example, a few recent cases.
In one case, a $50,000 LoL clause was enforced even though it accounted for only 8% of the designer’s fee (Zirkelbach Construction Inc. v. DOWL LLC, 2017). In another, an LoL clause was enforced to limit recovery to only $550,000 out of a $9.5 million jury verdict (Taylor Morrison of Colorado Inc. v. Terracon Consultants Inc., 2017). And in a more recent case, a state appellate court decided on a case of first impression that an LoL clause could be enforced to protect the engineer, even though the clause was ambiguous. (Johnson Nathan Strohe P.C. v. MEP Eng’g Inc., 2021).
Plumbing problems
In the recent case, an architect and lead designer for an apartment building in Denver hired an engineer to assist with the mechanical, electrical, and plumbing design. The contract between the architect and engineer contained an LoL clause stating:
In light of the limited ability of the Engineer to affect the Project, the risks inherent in the Project, and of the disparity between the Engineer’s fees and the potential liability exposure for problems or alleged problems with the Project, the Client agrees that if the Engineer should be found liable for loss or damage due to a failure on the part of MEP-ENGINEERING, INC. such liability shall be limited to the sum of two thousand dollars ($2,000 or twice the Engineer’s fee whichever is greater) as consequential damages and not as penalty, and that is liability exclusive.
Before project completion, the owner and the architect discovered substantial problems with the building’s heating and hot water systems. The engineer allegedly admitted that these issues were attributable to its design error, then proposed and executed repairs to address the deficiencies. The architect found additional problems following the repairs and chose to employ a different engineering firm to fix the issues. The owner then initiated an arbitration against the architect based on claims arising from the design of the heating and hot water system. In that arbitration, the architect was found liable for $1.2 million in damages. Because the engineer was not a party to the arbitration, the architecture firm subsequently sued the engineer to recover its damages.
In the district court, the architect argued that the LoL was unenforceable because it was too “vague, confusing, and ambiguous to be enforceable.” The district court rejected this argument. It found that the limitation was unambiguous and enforceable because the only plausible interpretation of the language was that it operated to limit the engineer’s liability to the architect to $2,000 or twice the engineer’s fee ($252,720).
The engineer then moved for leave to deposit the sum owed under the LoL clause and sought dismissal with prejudice. The architect opposed the motion on several grounds, including that the LoL clause was void as a matter of Colorado law, based on the principle that exculpatory agreements are only enforceable if not ambiguous. The district court granted the engineer’s motion to dismiss, and the architect appealed.
The Colorado Court of Appeals stated that a reasonable interpretation could support the finding that the limitation only applied to consequential damages and not other types of damages or that all damages caused by the engineer would be classified as solely consequential damages under the contract.
The court addressed the architect’s claims that the LoL provision was void because it was ambiguous. While Colorado Supreme Court precedent has held in the past that ambiguous exculpatory clauses are void and unenforceable, the court of appeals here determined that an LoL clause is fundamentally distinct from an exculpatory agreement. The court reasoned that although both types of provisions limit a party’s liability, exculpatory agreements are a complete bar to liability and therefore subject to a stricter standard.
The court held that an LoL clause is not void merely because it is ambiguous and its meaning should be determined by a court using ordinary principles of contract interpretation. The court instructed the district court on remand to determine the validity of the LoL clause using ordinary principles of contract interpretation.
Not nominal
In Zirkelbach Construction Inc. v. DOWL LLC, a design-build contractor sued its design subcontractor for negligence and breach of contract, alleging the contractor incurred more than $1.2 million in costs while resolving problems caused by the designer’s plans. The design professional’s $50,000 LoL clause and waiver of consequential damages clause were ultimately enforced against its client.
Although this amount was only about 8% of the designer’s fee ($665,000), the court found this amount did not violate public policy as being too nominal. In affirming the summary judgment, the Montana Supreme Court explained that the state’s law did not allow parties to contract away all liability, but in this case, the LoL clause capped damages without exempting or exculpating the designer from all liability, and it therefore did not violate the state law.
With regard to whether the amount was too little for the builder, the court noted that prior to additional services being assigned to the designer, the LoL constituted 40% of the originally agreed-upon fees. “The failure of (the contractor) to address or renegotiate the limitation of liability clause during the execution of each addendum has made the term of the contract more burdensome than previously anticipated,” the ruling stated. Nevertheless, it said, “This court is unwilling to allow (the contractor) to avoid a term of the contract simply because it has become more burdensome due to its own failure to renegotiate.” The court explained the principal of freedom of contract and the importance of honoring the mutually agreed-upon terms of a contract even if those terms turn out to be burdensome or one-sided.
The court underscored the freedom the parties have to choose the language of their own contract, including LoL provisions.
Not willful or wanton
In Taylor Morrison of Colorado Inc. v. Terracon Consultants Inc., a housing developer won a jury verdict for more than $9.5 million against its geotechnical engineer, and the court applied the LoL clause in the geotech’s contract to cap the liability at $550,000. The developer attempted to avoid the LoL by arguing that the geotech’s conduct was willful and wanton. The trial court allowed evidence of that to be presented, but the jury found the conduct was not willful and wanton. Therefore, the LoL clause withstood the challenge.
The court allowed the plaintiff’s expert witness to describe in detail the actions of the geotech it deemed to be at fault, but it excluded testimony by the expert that this conduct was “willful and wanton” because that is “not an engineering concept” but rather a “legal concept” about which an engineer cannot testify, the court said.
The developer had also argued that the LoL was not applicable to the extent that damages are paid by the geotech’s insurance policy. The developer wanted to pursue the geotech’s insurance carrier for the $9.5 million, but the trial court denied the request. The court stated that the LoL clause “capped (the geotech’s) total aggregate liability to (the developer) at $550,000 for any and all damages or expenses arising out of its services or the contract.”
The takeaways
Because we see LoL clauses enforced again and again, it is important to negotiate a clause that is as broad as possible and one that includes and names specifically all manner of claims and lists out all potential causes of action and theories (including, for example, negligence, breach of contract, and breach of warranty). Below is an example.
To the fullest extent permitted by law, the total liability, in the aggregate, of Consultant and its officers, directors, partners, employees, agents, and subconsultants, to Client, and anyone claiming through or under Client, for any claims, losses, costs, or damages whatsoever arising out of, resulting from or in any way relating to this Project or Contract, from any cause or causes, including but not limited to tort (including negligence and professional errors and omissions), strict liability, breach of contract, or breach of warranty, shall not exceed the total compensation received by Consultant or $100,000, whichever is greater. The Client may negotiate a higher limitation of liability for an additional fee, which is necessary to compensate for the greater risk assumed by Consultant.
Although these case examples come from Montana and Colorado, similar results appear in case decisions from New York, Texas, the 7th Circuit (which covers parts of Indiana, Illinois, and Wisconsin), and throughout most other states.
The bottom line is that only in rare circumstances will a court refuse to enforce the clause. When determining whether an LoL provision violates public policy, courts will generally consider whether there was a disparity in bargaining power between the parties or some measure of “unconscionability” in enforcing the agreement, both of which are very high evidentiary bars.
Michael C. Loulakis (mloulakis@ cp-strategies.com) is the president and CEO of Capital Project Strategies LLC, in Reston, Virginia. Lauren P. McLaughlin ([email protected]) is a partner at Smith, Currie & Hancock LLP, in Tysons, Virginia.
