3 Key Risk Management Clauses of a Professional Services Agreement

Professional Services Agreement

By: Aida Izgelova, Esq.

The information provided in this article does not, and is not intended to, constitute legal advice; instead, all information and content is for general informational purposes only. Readers should contact their attorney to obtain advice with respect to any legal matter.

A professional services agreement is one of the most commonly used agreements in law. It is used by professional services providers who are in the business of providing continued professional services that require advanced education or knowledge, such as engineering firm, software developers, and healthcare consultants. Although, many terms of the agreement may help manage risk, there are generally three key terms of a professional services agreement that will limit or expand the risk. As an in-house counsel you will likely come across a professional services agreement whereby your client is either the provider or recipient of the services. Therefore, it is important to address these three key terms.

  1. Limitation of Liability

A limitation of liability clause allows the professional service provider to limit potential liability for damages arising out of negligence, breach of contract, strict liability, professional errors and omissions, and many other causes of action. In many states, a properly drafted limitation of liability may save your client a costly outcome in a litigation proceeding. In short, the limitation of liability clause states that the total liability of the professional services provider shall not exceed a certain amount. The total amount limited is usually negotiated by the parties. Commonly, the parties agree to limit liability to the greater of the compensation received by the service provider or the policy limits of the service provider’s professional errors and omissions insurance. It is good practice to separate the limitation of liability clause from other clauses in your contract with its own title and paragraph to avoid any confusion. Some drafters add the limitation of liability to other clauses such as damages or indemnity, this practice is not recommended because it may be argued that the limitation of liability applies to that clause only (instead of the entire agreement), and if the accompanying clause is stricken or ruled invalid by a court, the limitation of liability may be lost with it.

  1. Waiver of Consequential Damages

To understand a waiver of consequential damages it is important to know the meaning of a consequential damage. According to Black’s Law Dictionary (10th ed. 2014), consequential damages are “losses that do not flow directly and immediately from an injurious act, but rather result indirectly from the act”. For example, if your client is providing IT services to an amusement park and as a result of your client’s IT mishap the amusement park is unable to operate for one day, the amusement park may sue your client for loss of revenue from the ticket sales and all other sales lost for that one day. This lawsuit may arise even if your client’s IT services were not connected to the operations of the amusement park, but nonetheless were an indirect result of the loss of operations to the amusement park. To avoid this highly unforeseeable and rather unpredictable expense to your client, it is good practice to obtain a Waiver of Consequential Damages whereby the recipient of your client’s services waives consequential damages for claims arising out of or relating to the agreement. It is common that the parties agree to a mutual waiver of consequential damages. It is also recommended that this clause is included in a separate paragraph with its own title.

  1. Indemnification

The purpose of an indemnity clause is to manage and allocate risks between the parties. A common trick in a broad indemnification clause is to require your client to assume responsibility for damages that are not caused by your client. For example, the indemnity clause may ask your client to defend and hold harmless the other party from any cause of action arising out of or related to the services in the agreement, regardless of whether your client’s negligence or act had a part in the cause of action. Agreeing to indemnify a party for damages that are not caused by you creates a “contractual liability” because you assumed liability that you would not be responsible for outside of the contractual obligation. Agreeing to a contractual liability may pose a big financial risk because most professional errors and omissions policies cover damages caused by the professional’s negligence only. It is best practice to limit the indemnity clause to the proportional extent that it is caused by your client’s negligent act or omission. It is also a good idea to send the indemnity clause to your client’s professional errors and omission policy holder to make sure that the clause does not void any coverage. It may help to create a mutual indemnity between the parties whereby the parties indemnify each other to the proportional extent of the damages caused by their negligence.

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