What is a Limitation of Liability Clause? Are they Enforceable in California?
By Richard E. Korb[1], attorney ©2011 
[For a free consultation with an experienced business attorney with offices in Berkeley-Oakland -Walnut Creek, Please call Richard Korb at 510-524-0903]
A Limitation of Liability Clause (“LOL clause”) is a provision in a contract that restricts the amount that a company or individual is liable for in the event of a lawsuit or other claim against them. It attempts to limit the damages or place a “damage cap” on what one contracting party can collect from the other and normally consists of a capped dollar amount that is less than or equal to the amount rendered for the services provided. The clause must be agreed upon and understood by both parties during the contract negotiation.
Simple Example:
“To the maximum extent of the law, (Client) agrees that the liability of (Consultant) for any damages as a result of work performed under this agreement shall not exceed $______ or the amount charged for the services, whichever is greater.”
The enforceability of a LOL clause differs from state to state, with some states refusing to uphold or acknowledge them. In 1994, for example, the Supreme Court of Alaska refused to uphold a LOL clause during a legal dispute between a civil engineer and its client.
The court then concluded that the clauses are attempts to bargain away liability, and barred them completely under a statue concerning indemnity (protection against a loss or other financial burden) for sole negligence. The United States District Court for the District of Nebraska arrived at a similar decision in 2006, also barring LOL clauses under a previously existing anti-indemnity statute for one’s own negligence.
The state of California does uphold the validity of LOL clauses, but they also can be prohibited in a handful of instances. One such instance was a medical contract case in 1963, Tunkl vs. Regents of the University of California. The LOL clause was held unenforceable because the hospital issuing the contract was said to have an advantage of bargaining strength, and also left no provision where a party could pay additional fees to protect themselves against negligence. Additionally, there are other examples where California courts have upheld the legitimacy of LOL clauses even under similar circumstances, but this case in particular involved the death of the client.
There are several reasons why a court may refuse to uphold a LOL clause from a previously agreed-upon contract. In some cases, various state courts have refused to enforce the clause because it has been deemed unreasonable or ambiguous. In the event that the clause limits the liability of the contractor to an unreasonably small portion of the services (e.g. $800 for a $200,000 service), it is likely to be rejected. (The courts presume that if the contracted company or individual is allowed to limit their risk to close to no value, there is no incentive to exercise due care.)
If the terms of the clause are not explicit enough as determined by the judge, the clause can also be declared invalid. In addition, if the contractor has a higher level of legal sophistication or bargaining powers in comparison with the other party, there is sufficient reason for the judge to void the clause. Other instances when the clause may not be enforced are when a party engages in gross negligence or reckless misconduct, or when there exists a public policy or statute forbidding its enforcement.
Gross negligence would include almost any contract breach, assuming the breach was foreseeable and no attempt at negotiation was made in order to mend it. To optimize the chances that the clause will be upheld in a court of law, the contractor should take special care to avoid any of these instances.
In the states that do permit the Limitation of Liability clause, the likelihood of its enforcement rests almost entirely in the drafting process. There are many steps a contractor can take during drafting that will increase the chances of the clause being upheld in the event of civil action. Being sure to list an amount that is reasonable given the potential liability resulting from the services performed will avoid the clause being rejected on the grounds that it was unconscionable.
Being specific, concise, and unambiguous in the language of the clause will also help it from being declared invalid, especially if the problem that created the liability is covered in the clause. Another very important step is to have proof that bargaining took place, and that it occurred between two parties with relatively equal bargaining power.
For example, the contractor might provide a blank where the agreed liability dollar cap or percentage of the fee can be filled in, or a blank where both parties can initial next to the agreed-upon clause. Also, including an option to increase the dollar amount of liability for additional reasonable fees are a good point in favor of the contractor should the client later challenge the contract in court.
Some courts also recommend that the clause be accentuated in some manner, such as in bold-faced, underlined, large font, or capital letters or otherwise set apart from the rest of the text on the page in which it occurs. In addition, keeping any drafts of revisions to the limitation of liability clause can help provide good proof that the contract was negotiated.
In addition to the instances where the clause could potentially be invalidated, there are a few in which the clause will never be enforced. The limitation of liability clause will never apply when there was intentional misconduct on the part of the party who is seeking to benefit from it, or on the part of the party who provided the services. Also, the clause does not apply to any third parties that are not a party to the contract. Said third parties can rightfully sue a party to the contract for damages that exceed the limit set by the clause.
[For a free consultation with an experienced business attorney with offices in Berkeley-Oakland -Walnut Creek, Please call Richard Korb at 510-524-0903]
[1] RICHARD E. KORB is a seasoned attorney with 30 years of business litigation and corporate-transactional (contracts) experience. Over his legal career, Richard has successfully litigated and resolved over 300 court cases in the fields of contract law, real estate, employment, unfair competition, and general civil law and he has drafted and negotiated over 250 contracts and licenses for large and small companies alike. Richard leverages his experience as a former partner in a 100-person law firm and chief counsel for a public software company to assist individuals and companies, from start-ups to multi-nationals, with a broad spectrum of legal matters. In addition to his legal practice, Richard is a court-approved mediator and serves on the Alternative Dispute Resolution (ADR) panel for both the Alameda and Contra Costs County Superior Courts. ©2011
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