We wrote a few issues ago about some of the problems encountered with contracts containing abusive indemnification provisions, and some solutions. Here’s another similar problem sometimes seen in contracts, a requirement for a worker’s compensation waiver of subrogation.

Subrogation is what happens when an insurance company pays a claim caused by the negligence of a culpable third party, then turns to them and attempts to recover the claims money they paid. The policyholder whose claim was paid had the original right to pursue an action against the at fault party, but once the insurance company pays the claim that right passes to the insurance company; they are said to be subrogated to their policyholder’s rights.

Subrogation is common in auto and property claims, but it’s also allowed in worker’s compensation in many jurisdictions; an insurance company that pays benefits for an injured workers claim could seek recovery from a third party whose negligence led to the work injury. At first glance it would seem sensible that a project owner or general contractor might want to seek protection from subrogation claims from the injured workers of their subcontractors and require a workers compensation waiver of subrogation in their contracts. On closer look, though, it’s not clear that there is any real value to these requirements.

A WC waiver of subrogation does indeed eliminate the ability of an insurance company to seek recovery from a culpable party for money paid for a work injury claim. Here’s the catch: parties to contracts can’t waive or eliminate the rights of injured employees themselves to bring liability claims on their own behalf if their work injuries can be shown to be caused by negligence on the part of others, even if they have already been paid by worker’s compensation. In a liability claim the employee can seek damages for pain and suffering, loss of consortium and other damages in addition to the lost wage and medical benefits that they already received through the worker’s compensation system, so there is an incentive for them to pursue such claims. A waiver only bars the subcontractor’s worker’s compensation insurer who pays the claim from initiating a subrogation action and/or from enforcing a lien it might otherwise have on the employee’s claim.

So think about this for a minute. Injured employees can still sue, but when a WC waiver of subrogation is present in a contract, the insurance company can’t recover anything it might have paid the employee. Who wins? It’s possible the only winner is the injured employee who might actually receive a double recovery if a worker’s compensation lien does not have to be repaid from any judgement or settlement.

Who loses? The contracting party loses or at least doesn’t win since the waiver did not have the desired effect of preventing the employee’s negligence claim. The worker’s compensation insurer loses because it’s right of recovery was forfeited. The biggest loser is probably the subcontractor policyholder who:

1. Pays an additional premium to add the waiver of subrogation to its worker’s compensation policy.

2. Faces a premium increase because the lack of a recovery on its worker’s compensation lien inflates its loss experience.

3. Takes a double hit when its own general liability coverage is used to resolve its employee’s third-party claim due to a likely indemnification provision in its contract.

Here’s another point: many jurisdictions do give insurers an independent right to pursue subrogation if the injured employee opts not to bring a suit. In theory, a waiver could eliminate a third-party exposure by eliminating the insurance company’s independent right. But considering this as a practical matter, it’s pretty rare for an insurer to independently initiate a third-party worker’s compensation subrogation claim. There will always be legal costs involved in pursuing subrogation, and of course there is no guarantee of recovery. The risk with these types of actions is even greater if they are undertaken without the cooperation of the star witness…the injured employee. And of course if the injured employee becomes involved in subrogation litigation he’ll pretty quickly figure out it’s to his benefit to pursue his own independent action, for the reasons cited earlier.

With all the hungry plaintiff ’s attorneys out there, chances are an employee with a reasonable case will have no trouble finding an attorney to take his case on a contingency basis, no money up front. Workers compensation insurers figured out pretty quickly that it made more sense to lay back, let the employee bring suit where appropriate with the plaintiff ’s attorney working on contingency bearing all the risk of litigation, and just attach a lien on the action. They get roughly two thirds of what they paid back (the attorney has to get paid) with no risk.

Except, of course, if there is a waiver of subrogation. Then the only winner is the employee, with his double recovery.

So why do it? With such questionable value, why are worker’s compensation subrogation waivers so often required in contracts? Some culprits: General liability insurers look favorably on companies that obtain waivers from their subcontractors. It’s a fairly standard question on general liability applications and the right answer can affect the insurer’s appetite for the risk and the premium charged (underwriters are not always as smart as they think). Requesting waivers has also become a “best practice” for brokers, insurance advisers, and risk managers, who may be unwilling to have their competence questioned because they failed to follow an industry norm—even if the norm is largely pointless.

To summarize, it’s generally advisable to resist worker’s compensation waiver of subrogation requirements whenever possible. The problem is that lower tier contractors may lack the leverage necessary to force the general contractor to drop this requirement. Unless their bargaining position changes for the better, subcontractors will likely need help from state legislatures or will need to mount court challenges to rid themselves of the waiver of subrogation requirements that they now face.