Don't Accept Limits on the Other Party's Liability

3 May 2001
When clients come to me to consider suing because of a tech deal that has gone bad, the single worst lawsuit killer is often the "standard" limitation of liability clause. It never ceases to amaze me how people don't even pay attention to these clauses as they blithely sign-off on a one-sided agreement. It's just one little clause and yet it can cause so much damage.

Here's an example of the type of provision that you'll see in tech agreements:

"The liability of developer to customer for any reason and upon any cause of action related to the performance of the work under this agreement whether in tort or in contract or otherwise shall be limited to the amount paid by the customer to the developer pursuant to this agreement."

Judges Can Read

Now, if you sign off on a clause like that because you figure that your lawyer will find some technicality to overcome it, I'd say don't depend on it. As a generalization, it means what it says, judges can read and will probably enforce it as written.

If you had to sue for damages that exceed what you've paid under the agreement, all isn't necessarily lost, but it's like fighting with both hands tied. While it's clearly one-sided, courts aren't in the business of rewriting deals to make them fairer.

That's your job when you're negotiating your deal.

It's the Norm

When you negotiate your agreement and tell the other side that the limit of liability has to go, you're likely to get a blank look. You know, it's the same look you get from your kids when you remind them that they haven't given you your change.

I know what I say when I represent the seller of tech services. I say things like "Limits of liability are the norm." "Everybody uses them." "We've never done a deal without one." "We'd have to increase the price dramatically because of the additional risk we'd be assuming."

Ironically, all of this is true. So, we're done, right? Wrong. A skilled and experienced negotiator can make all the difference here.

While it is to some extent the norm to see limits of liability in tech deals, it's not necessarily true that they're all as onerous as my example. While getting the other side to remove it completely may be like climbing Everest, making it fairer isn't necessarily so hard if you ask for the right things.

The Negotiation

If they won't eliminate the limit of liability provision, you have to start pecking at it. In my example, the developer's liability is "limited to the amount paid by the customer to the developer pursuant to this agreement."

Let's say we have a $500,000 deal cooking, which calls for five equal payments over 5 months as work progresses. Let's say that after the first month it becomes clear that the work they're doing is causing more harm than good, so you rightly refuse to make your second $100,000 payment. Finally, let's say that they've somehow caused damages worth $200,000.

You might think that you can sue for your $200,000, but you can't because you're limited to the amount you've paid -- i.e. a refund. So, as written, no matter what they do and no matter how bad it is, the most you get is the $100,000 you've paid to date. They risked nothing!

My first attempt to chink their armor would be to ask them to limit liability to the total value of the contract to them ($500,000), not the amount paid to date. Failing that, I might ask for some multiple of the amount paid to date.

Another approach is "reciprocity." In fact, I'd say that no single word is more important in moving a one-sided agreement toward the middle than reciprocity. What's good for them is good for you. Don't be embarrassed to ask. They certainly weren't embarrassed to make it one-sided to their advantage.

The idea is that the most that they can ever recover from you is equal to the most you can recover from them. Why should they have a protective limit, but not you? They won't like that, but it's hard to argue against the proposal's inherent fairness.

Yet another approach is to carve out an exception for infringing intellectual property. In the example as written, if they "create" software for you and you get sued for millions for infringing some third party's copyright, you pay millions, but can only recover $500,000 from the ones who really caused the infringement. Again, it's not fair.

The last thing you might try is to exclude any third party's property damage or bodily injury claim from the limit of liability. As with the copyright situation, it seems inherently unfair that you should pay unlimited amounts of money to a third party because of something your developer did, but then your recovery is limited by your contract.

It's almost a waste of time to put effort into negotiating a contract to have it emasculated by a one-sided limitation of liability clause. Don't let that happen to you. While it may be true that these types of clauses are "normal," don't assume that the one in their proposed agreement has dropped from the heavens as the only way it can be.

Mark Grossman's "TechLaw" column appears in numerous publications. Mark Grossman has extensive experience as a speaker as well. If you would like him to speak before your group or corporate meeting, please call (305) 443-8180 for information.

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