Letter Of Indemnity Or Indemnity Clause: What Property Buyers & Sellers Need to Know

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So, you got your down payment, legal and stamping duty fees, and housing loan ready and you’re moving forward to sign your Sales and Purchase Agreement (SPA) with the seller (or vice versa if you’re the seller)? In most cases, your job is to sign off the SPA that your lawyer prepared and you’re good to go, but hold on, there are important details and terms that you should briefly be aware of to ensure that you are protected. 

For example, the letter of indemnity or indemnity clause is an important clause that you may want to consider, in order to protect yourself as the buyer or seller in the case of any breach of contract or indirect damages caused by the other party. 

Is it still a little confusing to you? Read on below and understand the importance of letter of indemnity in the interest of your own safety.

Definition of Indemnity

According to the definition by Cambridge Dictionary, indemnity means: 

“protection against possible damage or loss, especially a promise of payment, or the money paid if there is such damage or loss”

It is the process of getting legal protection against financial liabilities and having the right to claim for any financial losses. So, how does this apply to a property transaction? 

Indemnity Clause or Letter of Indemnity in Property Agreements and Transactions

Think back to some events or activities that you’ve participated in before. Was there an indemnity form that was given to you by the event organiser? The most probable answer is yes, as event organisers must ensure that participants indemnify them against any physical damages, loss, or third-party damages caused by the event. The same principle applies to any property transactions as well, as selling or buying a property involves a huge sum of money for both the seller and buyer. 

So, a letter of indemnity, or the more often used indemnity clause in a Sales and Purchase Agreement (SPA), secures the indemnity holder (buyer or seller) against potential financial losses resulting from the other party’s conduct. As further explained in the Malaysian Contracts Act 1950:

A contract by which one party promises to save the other from loss caused to him by the conduct of the promisor himself, or by the conduct of any other person, is called a “contract of indemnity”.

This gives reassurance to the indemnity holder that the other side will cover them financially should they fail to fulfill their obligations in the agreement. 

Indemnity Contract in The Malaysian Contracts Act 1950

Let’s delve deeper into the contract of indemnity as coined in The Malaysian Contracts Act 1950 to understand better about letter of indemnity in Malaysia. An indemnity-holder holds the following rights when sued: 

The promisee in the contract of indemnity, acting within the scope of his authority, is entitled to recover from the promisor— 

(a) all damages which he may be compelled to pay in any suit in respect of any matter to which the promise to indemnify applies; 

(b) all costs which he may be compelled to pay in any such suit if, in bringing or defending it, he did not contravene the orders of the promisor, and acted as it would have been prudent for him to act in the absence of any contract of indemnity, or if the promisor authorised him to bring or defend the suit; and Contracts 53 

(c) all sums which he may have paid under the terms of any compromise of any such suit, if the compromise was not contrary to the orders of the promisor, and was one which it would have been prudent for the promisee to make in the absence of any contract of indemnity, or if the promisor authorised him to compromise the suit.

Yikes! If you can understand the legal terms and meaning in the clauses above, kudos to you. If you don’t, it basically means that the indemnity holder is entitled to get payment from the other party who breached or did not fulfil the contract, and not only that, but also payment for any losses or damages that are caused by the breach and any other additional costs incurred.  

How does Indemnity Work? Real Case Scenarios

A perfect piece of property is always almost impossible to find as there will be some issues such as defects or worn-down damages especially if it’s a sub-sale property. If you’re lucky enough it will probably be something minor, but unlucky buyers may encounter unexpected damages, for example, having part of the roof cave in due to heavy winds and rain which could cause harm to the people staying or working in it, or potentially damaging furniture or appliances in the property. So, let’s have a look at how an letter of indemnity or clause could help. 

Indemnity for the seller

Scenario 1

As a seller, you are planning to sell off your landed property to a buyer who agreed to purchase it. You accidentally damaged the structure of the property a few years back, but you have repaired it before you put it up for sale. Let’s say you’ve signed off the agreement and everything has been finalised and you happily pass the keys to the buyer. However, a few months down the road, part of the structure you repaired collapsed, causing harm to the buyer and his furniture. This could potentially lead you to being sued by the buyer as you stated that you are selling off the property in good condition in the agreement that you signed.  

This problem can be mitigated if you signed an indemnity agreement or include the clause into your agreement with the buyer. 

Scenario 2

Here is another good example from a corporate or business situation. You own a specific land and due to some negligence, there was an accidental toxic leakage that affected it. You managed to clear it up and eventually a buyer decided to purchase that land to build property. An indemnity agreement here would be very important for you as the seller to avoid any future troubles once the land has been handed over to the buyer. For example, the buyer decided to build houses on this land and 10 years down the road some of these house owners got sick as the toxic leakage was not properly cleaned. 

Having a written indemnity agreement in this situation would transfer the legal responsibility to the buyer instead of you.

Indemnity for the buyer

As a buyer, you are planning to buy a new property from a developer, and you have finalised all the paperwork and payments and finally received your keys. You go through your defect checks and get all the fixes done by the developer which is covered for a period of two years, for example. After moving in, you are still covered by the defect fixes, however a storm hit your home one day and your roof collapsed into the bedroom, ruining the electronics and furniture. 

Your developer covers your defects, fixing the roof that caved into your house but what about the damages caused by the collapsed roof? Perhaps you may want to consider a letter of indemnity to protect yourself from these damages caused during the defect fix period.

In this situation, you would be able to claim against the seller for breach of contract due to the misrepresentation given on the condition of the machinery. However, the loss of revenue and customers which is a consequential loss due to the breach of contract cannot be claimed as it is not considered direct damages. This is where a letter of indemnity would come in handy to enable you to cover the other losses. 

What should be covered in a letter of indemnity?

Letter of indemnity or clause vary depending on what, who and why it is written for, so it really depends on the situation where it is needed. However, there are important elements that are often included in an indemnity contract which are: 

1. Name of both parties written in full and clearly to represent each party 
2. Registered address of both parties written in full 
3. Name of any potential third party such as bank or insurance company 
4. Signatures from all parties, including initials on each printed page
5. Description of items and intentions covered in detail
6. Date of execution
7. Stamping, to seal the deal

Every element is important to properly conclude the letter of indemnity, but it is especially important to pay attention to the details of what the indemnity contract covers as the scope could be wide or specific depending on how it is worded. Even though you will be hiring a lawyer to draft and go through the contract, it is also your job to scrutinise every detail to ensure that you are not at any disadvantage. 

Last but not least, when it comes to such important documents, make sure you get them witnessed and signed by a reputable third party and stamped by The Inland Revenue Board (LHDN) in order to make it foolproof to safeguard yourself. 

Other important aspects to take note

By now, a letter of indemnity looks like a good contract to cover yourself against any potential liabilities or financial losses caused by the other party, which it is, but this document does not cover acts that are considered illegal, fraudulent, or intentional. This means that if you try to intentionally damage your property by making it look like it was caused by the other party, for example, setting an incomplete development on fire as a developer and trying to claim indemnity from the builder, you’re only setting yourself up for trouble as the letter of indemnity will not cover such acts.  

Another point to consider when it comes to letter of indemnity is the time required for both parties to agree upon the contract. As the details must be clearly consented by both parties and written clearly in a black and white document, the negotiation and preparation of a letter of indemnity or inserting an indemnity clause into an agreement could take months before proceeding to the signing stage. Therefore, in most Sales and Purchase agreements between developers and buyers, or sub-sale sellers and buyers, the letter of indemnity is often opted out to save time. 

Letter of indemnity – what’s in it for you?

Finally, knowing what we can about letter of indemnity, we’re back to the age-old question, is it something that you need in your current situation? It’s a yes or no answer depending on your needs. If you’re a businessman looking to buy over a company to expand your business, you need to look into a letter of indemnity to secure yourself against potential liabilities or financial losses. If you’re any other home buyer considering buying a new property, you may not need to have an indemnity clause in your agreement. As for sub-sale buyers, you may or may not need one depending on the property you are buying and its history, which in most cases, you are okay without one. 

Ultimately, the final decision on whether a letter of indemnity should be drafted is up to you depending on the nature of your transaction. However, if you catch yourself undecided over this matter, you can always seek advice such as hiring a lawyer to handle all your legal needs, including indemnity contracts.