Limitations of Liability in Artificial Intelligence Contracts
Limitation of liability provisions place limits on the amounts that the parties would otherwise be able to recover in court. For example, it is common in technology contracts for both sides to agree to waive the right to recover indirect, consequential, and punitive damages altogether. In the absence of such a provision, the prevailing party in a lawsuit would be able to pursue these categories of damages. In addition, it is common for technology vendors to contractually limit liability for direct damages even those caused by the negligence of the vendor. Common limitations of liability clauses tie customers ability to recover damages to amounts paid under the contract for a period of time prior to the claim. Others might limit the recovery to a specific dollar amount.
Broad limitations of liability in IT contracts have given way to more balanced approaches where certain types of claims are carved out from the limitation altogether. For example, a common carve-out clause might read: “Except for claims related to the vendor’s indemnity obligations, product liability, gross negligence and willful misconduct, vendors liability shall be limited to 3 times the amount paid or payable by customer in the 12 months prior to the event giving rise to the claim.” A broad limitation with a carve-out for indemnity claims coupled with a broad indemnity provision like the one above, places the customer in a very strong position because the cap in the limitation of liability does not apply the most common claim scenarios which have been adequately addressed in the indemnity provision.
In addition to considering indemnity when negotiating limitations of liability for AI contracts, it is important to understand the relationship between insurance and limitations of liability. If possible, I like to carve out claims covered by insurance from the cap. If that is not possible, you can make the amount recoverable the greater of the proceeds of applicable insurance or the result of the cap formula such as 3 times 12 months of fees. What you are trying to avoid is a situation where the vendors insurance company can point to the limitation of liability to deprive you of recovery for what would otherwise be a viable claim for an amount that greatly exceeds the limitation of liability cap.
Limitations of liability clauses in AI contracts are particularly important given the unsettled nature of the law in this area. Customers should not be expected to bear the lion share of the risk for claims resulting from defective products or the negligence of the vendor. Similarly, the vendor should not be expected to provide insurance for all claims especially those not directly arising from its negligent acts or omissions. Using the vendor’s insurance as the primary risk-balancing vehicle makes sense for both parties. In order to effectively accomplish this, the limitation of liability has to give the customer access to all of the benefits of the vendor’s policies.