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Court Favors Contractual Subrogation Over Equitable Subrogation

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By Robyn Hagan Cain on September 28, 2011 4:09 PM

Does indemnity extend to a breach of contract? The Seventh Circuit Court of Appeals says it does not.

Wilder Corporation owned 6600 acres of farmland in Fulton County, southwest of Peoria, Ill. In 2000, Wilder sold the land for $16.35 million to The Nature Conservancy, an environmental organization, which wanted to restore Wilder's land to its pre-20th century condition as an ecologically functional floodplain. Wilder expressly warranted in the contract of sale that there was no petroleum contamination of the land, but the land was, in fact, contaminated by petroleum. There is no indication that Wilder knew about the contamination.

Six years later the Conservancy, having discovered the contamination, sued Wilder in an Illinois state court for breach of warranty. A federal district court gave judgment for the Conservancy, awarding it approximately $800,000 in damages.

How did petroleum find its way on the land without Wilder's knowledge?

An Illinois drainage district had a right of way on Wilder's property, where it built a pump house to pump excess surface waters into the Illinois River. To have fuel at hand for the pumps, the drainage district stored petroleum both in storage tanks that it owned in the vicinity, of which at least one was on or under the land Wilder sold to The Nature Conservancy.

Wilder asked that the drainage district be ordered to indemnify it for the money Wilder had to pay the Conservancy as damages for its breach of warranty. Wilder claims to be entitled to indemnity because, it alleges, the drainage district's negligent maintenance was the sole cause of the contamination of the land.

The Seventh Circuit Court of Appeals disagreed, ruling that a blameless, or involuntary, contract breaker cannot invoke noncontractual indemnity to shift the risk that he assumed in the contract. The court also noted that Wilder's suit was barred by the economic-loss doctrine, (based in part on concern with liability for unforeseeable consequences), which bars most negligence suits for purely financial loss other than suits for fraud.

Equitable subrogation is a "troublesomely vague doctrine" because there is no general rule to determine whether a right of equitable subrogation exists since the right depends on the specifics of each case. In cases, such as this one, where contractual subrogation is feasible, it should be encouraged, rather than bypassed in favor of equitable subrogation.

Wilder could have protected itself against the drainage district's negligence through contractual subrogation with The Nature Conservancy, but it failed to do so. Don't make the same mistake when drafting contracts of sale; add a contractual subrogation clause into your contract.

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