Limiting liability to clients – checklist of points
Like many other providers of goods or services, firms often limit their potential liability to their clients by including limitations or exclusions of liability in their engagement letters.
This is good risk management practice – as long as it is done carefullyand effectively. Not everyone is aware of the extent to which they are able to restrict or exclude liability – and the danger is, get it wrong, and you may have any unreasonable contractual protections struck down leaving you with unrestricted liability.
The new Consumer Rights Act has also introduced new restrictions on consumer contracts (as opposed to those with sophisticated commercial/corporate clients). Ensure your terms of engagement meet the requirements of this latest legislation.
Consider these important points and check whether your client engagements are working properly for you.
Fair and reasonable A limitation or exclusion clause may be unenforceable if it is not fair and reasonable. What is fair and reasonable will depend on all the circumstances. The Consumer Rights Act (s57) requires that you do not limit your liability below the value of your fees for a particular matter. This is a good benchmark to use as a minimum standard for all client engagements.
Excluding liability Firms cannot seek to exclude liability entirely to the client. A more common approach is to limit a firm’s liability in the engagement letter, to a fixed amount (often described as a ‘cap’ on liability). A cap set at a higher level is more likely to be enforceable and to protect the firm than a very low cap, and should be proportionate to the nature of the transaction and potential client loss (in some cases, the loss may well be capable of being higher than the fees you charge).
Negotiating limitations or exclusions of liability When negotiating limitations or exclusions, firms need to balance the importance of limiting liability against the risk of any limitation or exclusion being held to be unfair or unreasonable. In particular, firms should avoid taking unfair advantage of clients who might be unsophisticated or not commercially aware. In deciding what negotiating position to adopt, firms should take into account the nature of the client, the engagement and the overall commercial risk analysis.
Caps on liability A cap on liability that has been discussed and negotiated is likely to be regarded as more reasonable than a non-negotiated cap. Where a cap on liability is accepted without discussion, it is not necessary for firms to try to compel negotiation by clients, but where possible, the client should be given sufficient time to consider the matter and/or take legal advice, if desired. It should be made clear whether the cap is an aggregate limit on liability, or applies separately to each breach or each claim. It may be appropriate for the cap to reflect the wording of any aggregation provision in the firm's professional indemnity insurance.
Documenting negotiations It is good practice to document any negotiations concerning liability limitation and to keep a record of them on the relevant file. In particular, it is worthwhile recording any concessions made by the firm, for example, any upward adjustment to a limitation amount initially proposed.
The engagement letter Any limitation of liability agreed with the client should be set out clearly in the engagement letter. Where a firm’s engagement letter comprises the firm’s standard terms, together with a covering letter, it would be sensible to draw attention to the cap on liability by referring to it in the covering letter.
Formulating the limitation of liability clause Firms should take their own legal advice on the formulation of any clause in the engagement letter that purports to limit liability. The following points of principle may assist firms:
a limitation or exclusion clause should be drafted to capture clearly any basis upon which a claim might be made, including breach of contract and negligence
if a formula is to be used for determining a limitation of liability, the basis for calculation should be made clear
avoid using a formula that may appear to be inherently arbitrary because, for example, it does not take account of the nature of the client or the engagement
avoid seeking to exclude or limit liability for loss that cannot legally be excluded or limited, such as liability arising from a firm’s fraud
set out terms containing limitations or exclusions in separate parts of the engagement letter, so that any provisions that are subsequently considered to be unreasonable may be removed without affecting the enforceability or sense of the wording that remains
avoid using a wording that is broader than the law will allow. For example, the clause could specify that an exclusion or limitation will apply to the fullest extent that the law will permit, and/or state that liability for a firm’s fraud is not excluded or limited.
Exclude liability for certain types of loss It may be appropriate to seek to exclude liability for certain types of loss altogether. Common examples are:
restriction or exclusion of certain types of liability that are also excluded under the firm's professional indemnity policy, provided this is not inconsistent with the duties for which the firm is being engaged
exclusion of liability for indirect or consequential loss and/or loss of profits. Some firms may feel that the possibility of indirect or consequential loss presents a risk that cannot be managed because it might be of an unforeseeable catastrophic nature. An exclusion of liability for such loss can be controversial and clear language is needed in defining such losses
exclusion of liability arising from use of defective or deficient information provided by the client. Note that such an exclusion will be unlikely to be deemed fair or reasonable where the scope of work requires the accuracy or completeness of the information to be checked by the firm
exclusion of joint and several liabilities. These clauses are also referred to as ‘proportionate liability’, ‘net liability’ or ‘net contribution’ clauses. The objective of such a clause is to limit the firm’s liability to its proportionate share of the blame for loss incurred by the client, so that the firm is not liable for the loss and damage caused by others, such as other professional advisers or employees of the client, even where those others are unable to pay or are not a party to the dispute
exclusion of advice or services provided by third party advisers or specialists. The purpose of such a clause is to make it clear that your firm is not responsible for advice provided by others especially where you may have introduced your clients for specialist or a specific piece of advice.