Indemnity clauses in Australian contracts — what they do, how they're drafted, and where they go wrong

You've received a draft services agreement. The indemnity clause is three lines long and looks fairly standard. But buried in those three lines is a trigger — "arising out of or in connection with" — that could make you responsible for losses you have no way to control. Or you're the one proposing the contract, and you want to know whether your indemnity actually gives you the protection you're relying on.

Indemnities are among the most commercially significant clauses in any business contract. Unlike a damages claim, which a court quantifies after the fact, an indemnity is a pre-agreed promise: if a specified event occurs, one party will cover the other's losses. That pre-agreement changes the negotiating dynamics, the insurance considerations, and the financial exposure for everyone at the table.

What the trigger clause does

The trigger is the event that activates the indemnity obligation. It is the single most important drafting choice in the clause, and it is where the parties' interests diverge most sharply.

Triggers fall on a spectrum from narrow to very broad:

Breach-based trigger: the indemnity only applies if the indemnifying party actually breached the contract. This is the narrowest form — and the one most aligned with ordinary contractual fault.
Negligence-based trigger: applies where the indemnifying party acted negligently, whether or not that conduct also constituted a breach.
"Arising out of" or "in connection with" trigger: much broader. A court can find a connection to the indemnifying party's activities even where they were not at fault and did not breach anything.
Third-party claim trigger: the indemnity activates whenever a third party makes a claim related to the other party's goods, services, or operations — regardless of whether the indemnifier did anything wrong.

The drafting choice that matters most is whether the trigger requires fault. If you are being asked to indemnify against "any claim arising from your product", and your customer controls how that product is deployed and marketed, you may be absorbing risk over which you have no practical control.

Australian courts read indemnity clauses strictly. Where the language is genuinely ambiguous, the contra proferentem principle applies — ambiguity is resolved against the party who drafted the clause and is seeking to rely on it. This is a reason to be precise about triggers rather than accepting boilerplate.

Watch for:

"Arising from" versus "caused by" — courts treat these differently, and "arising from" has a broader reach
Indemnities that include "acts or omissions" without any carve-out for the other party's own negligence
Triggers framed around "use of" a product or service where you have no control over how it is used

What losses the indemnity covers

Once triggered, the indemnity covers specified losses. In most commercial agreements, this is drafted broadly: "all loss, damage, cost and expense." That phrase can capture:

direct repair or replacement costs
lost revenue and profits
legal costs incurred in defending or settling a claim
amounts paid in settlement
investigation and response costs

Legal costs deserve particular attention. A clause that covers "legal costs on a full indemnity basis" means the indemnifying party pays the other side's actual legal bills, not just a court-ordered contribution. In complex commercial disputes, this can dwarf the underlying claim.

Whether regulatory penalties and fines can be recovered under an indemnity is more complex. It depends on the specific wording, the nature of the penalty, and the circumstances — this is an area where careful drafting and legal advice matter, and you should not assume a broadly-worded indemnity automatically covers regulatory penalties.

Drafting minimum: If you are the indemnifying party, push for express exclusions of indirect and consequential loss. If you are the beneficiary, make sure the clause expressly covers legal costs — otherwise you may recover the settlement but not the fees it cost you to get there.

The cap (or the absence of one)

Many indemnities in standard-form contracts are uncapped. That means there is no dollar ceiling on the indemnifying party's exposure.

For a small business or startup, an uncapped indemnity can create exposure that exceeds the entire contract value — or the entire business. Common approaches to capping include:

a fixed dollar limit (for example, AUD 50,000)
the total fees paid or payable under the contract
the indemnifying party's insurance coverage limit
different caps for different categories of risk — higher for IP infringement claims, lower for other losses

The cap interacts directly with the limitation of liability clause elsewhere in the contract. It is common for the limitation clause to expressly exclude indemnities from the overall cap, meaning the general cap provides no ceiling on indemnity exposure. If you are negotiating a liability cap, check whether the indemnity is carved out of it — and if so, whether that carve-out is appropriate given the risks involved.

Watch for:

Indemnities that are expressly excluded from the limitation of liability clause
No cap at all, combined with a broad trigger and broad loss definition — this is the combination that creates "bet the business" exposure
Insurance limits that are lower than the potential indemnity exposure

Who controls the claim

A well-drafted indemnity clause does not just define what is covered — it sets out how a claim is handled once it arises.

The key process provisions are:

Notice: the beneficiary must give prompt written notice of any claim that may trigger the indemnity. Failure to notify in time can reduce or extinguish the indemnifying party's obligation.
Defence control: who has carriage of defending or responding to the third-party claim? If the indemnifying party is paying, they usually want the right to control the defence and appoint their own lawyers.
Settlement approval: can the beneficiary settle without the indemnifying party's consent, and then invoice them? If so, you have no ability to contest the quantum or the decision to settle.
Cooperation: the party receiving the defence must cooperate — provide documents, access, information.

If the contract gives the beneficiary the right to settle and then seek reimbursement without your approval, that is a significant red flag. You need at minimum a right to participate and a consent requirement before any settlement is binding on you.

IP infringement indemnities

Intellectual property indemnities deserve separate attention because of how frequently they appear and how high the stakes can be.

A typical form: "The supplier indemnifies the customer against any claim that the deliverables infringe a third party's intellectual property rights."

These clauses are standard in software development agreements, creative services contracts, content licensing, and SaaS arrangements. If you are a supplier providing original work — code, designs, copy, data — an IP indemnity is not unreasonable. The theory is sound: you created the work, you are best placed to know whether it is original, and you should stand behind it.

The problems arise when:

The customer provides the brief, brand materials, or source data, and the infringement arises from that input — yet the supplier is still on the hook
The indemnity extends to modifications the customer made to the deliverables after handover
There is no carve-out for infringement caused by the customer's instructions or specifications

Drafting minimum: If you are the supplier, include an express carve-out for infringement arising from the customer's materials or instructions. If you are the customer, ensure the indemnity expressly covers infringement arising from the supplier's design and content choices, not just the final deliverable in isolation.

Compliance indemnities

These indemnities require one party to cover losses if they breach a law or regulatory requirement. They appear most commonly where one party is handling activities that carry regulatory risk on behalf of the other.

Two common examples in Australian business contracts:

Privacy obligations: If you handle personal information on behalf of a client, the contract may require you to indemnify them against losses arising from a breach of the Privacy Act 1988 (Cth) and the Australian Privacy Principles — including any regulatory investigation or determination by the Office of the Australian Information Commissioner.
Spam and electronic messaging: If you run email marketing campaigns for clients, they may require an indemnity against losses arising from non-compliant messages under the Spam Act 2003 (Cth).

Whether regulatory fines can be directly recovered through a compliance indemnity is fact-specific and depends on the wording. Courts do not always allow a party to be indemnified against penalties imposed for their own statutory breach. Seek legal advice before relying on a compliance indemnity to cover regulatory exposure.

Indemnities and the unfair contract terms regime

If your contract is a standard form contract with a consumer or a small business, the unfair contract terms provisions in the Competition and Consumer Act 2010 (Cth) apply. Since 9 November 2023, the regime carries civil penalties for proposing, using, or relying on an unfair term — not just voiding the term.

An indemnity clause that is heavily one-sided, uncapped, triggered by events outside the indemnifying party's control, and combined with an asymmetric liability cap could be assessed as unfair under this regime, particularly where:

the contract is offered on a take-it-or-leave-it basis
there is a significant imbalance in the parties' bargaining power
the term is not reasonably necessary to protect a legitimate commercial interest

The small business threshold is broad: businesses with fewer than 100 employees or annual turnover under $10 million can be protected. If you are regularly contracting on standard terms with smaller counterparties, this is worth reviewing.

Tax indemnities

Tax indemnities are common in business and share sale agreements. The usual form requires the seller to indemnify the buyer for pre-completion tax liabilities — taxes, penalties, or interest relating to periods before the sale completed.

Contractor agreements can also include tax indemnities, typically requiring the contractor to cover any PAYG withholding liability if they are later found to be an employee rather than a contractor for tax purposes.

Tax outcomes are highly fact-specific. A tax indemnity is only as useful as the financial capacity of the party giving it. Get your own tax advice about the specific transaction and consider whether the indemnity needs to be supported by a holdback, escrow, or security arrangement.

Situational and optional provisions

Not every indemnity clause needs all of the following, but these provisions are worth considering depending on the deal:

Survival clause: specifies that the indemnity continues after the contract expires or is terminated. Without this, there is a risk the obligation ends when the contract does — even if the triggering event occurs later.
Mutual indemnities: instead of one party bearing all the risk, each party indemnifies the other for their own negligence or breach. This is common in equal-footing commercial relationships.
Indemnity cap linked to insurance: if the indemnity is capped at the indemnifying party's insurance policy limit, make sure the policy actually covers the category of claim — and that you have checked the exclusions.
Step-in rights: for high-value or reputational claims, the indemnifying party may want the right to take over defence entirely, replacing the beneficiary's legal team.
Proportionate reduction: reduces the indemnifying party's obligation where the beneficiary's own acts contributed to the loss. This is common in construction and professional services contracts.

How Artificer Legal approaches indemnity clause review

Indemnity clauses rarely cause problems in isolation. The issue is usually the combination: a broad trigger, uncapped exposure, indirect loss included, no control over settlement, and the indemnity carved out of the liability cap. None of those choices is necessarily wrong on its own — but together they can create a liability profile that bears no relation to the commercial deal.

When reviewing a contract that contains an indemnity, an Artificer Legal practitioner would typically:

Map the trigger against the work you are actually doing and the risks you can actually control
Check whether the indemnity is excluded from the limitation of liability clause, and whether that exclusion is justified
Confirm the cap — whether there is one, whether it is adequate, and whether your insurance policy will respond to the category of claim
Review the claims handling mechanism and push back on any right for the beneficiary to settle unilaterally
For IP indemnities, check that the carve-outs for customer instructions and modifications are in place
Flag any compliance indemnity that purports to make you liable for regulatory penalties without adequate carve-outs

Where the indemnity is in a standard form contract offered by a larger counterparty, we would also assess whether specific terms are potentially unfair under the Competition and Consumer Act 2010 (Cth) — a leverage point that is underused in small business negotiations.

The claims handling mechanism

In most contract disputes, the indemnity clause is not the place where the fight starts — it is the place where the fight ends up. The trigger defines the battlefield; the cap determines the stakes; the claims handling provisions decide who controls the outcome.

Of the drafting choices available, the one most often skipped is the claims handling mechanism. Businesses focus on the trigger and the cap, negotiate those, and leave the settlement and notice provisions as boilerplate. When a third-party claim actually arrives, those provisions govern everything: whether you get notice in time to do anything, whether you can contest the other party's legal strategy, and whether you can veto a settlement before you are committed to paying for it.

Indemnity clauses are not inherently dangerous — but they should be aligned with control. The party best placed to prevent a loss should be the one bearing it, the indemnity should be capped at a level that reflects the economics of the deal, and the process for handling claims should give the indemnifying party a real seat at the table.