Defense Contracting: DOD Should Encourage Greater Use of Existing Expertise to Review Indemnification Requests
Fast Facts
The unusually risky work that DOD's contractors sometimes do—e.g., building hypersonic weapons—may not be covered by insurance. As such, contractors rely on government indemnification to shield them from financial liability if there's a catastrophic incident. Recently however, DOD has had challenges negotiating contractor requests for indemnification.
We found indemnification requests are rare and mostly approved. DOD has an insurance review team to help evaluate requests, but some DOD officials weren't aware of this help.
We recommended DOD encourage its contracting officials to use this insurance review team to help evaluate requests.
Highlights
What GAO Found
When a contract involves unusually hazardous or nuclear risk, which insurers may decline to cover, the government may indemnify defense contractors. This indemnification financially protects contractors from liability arising from a catastrophic incident. Contractors report that it also incentivizes them to complete work that would otherwise be financially untenable, as an incident could exceed the limit of a contractor's commercial insurance policy.
Financial Protection Provided by Commercial Insurance and Government Indemnification
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Type of financial protection |
Coverage provided |
|---|---|
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Commercial insurance |
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Government indemnification |
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Source: GAO analysis of aviation insurance industry and defense contractor information. I GAO-24-106403
aIndemnification coverage is limited in some circumstances. For example, contractors will not be indemnified against government claims against the contractor or for losses or damages affecting the contractor's property, if the claim, loss, or damage is caused by willful misconduct or lack of good faith on the part of certain contractor officials.
Indemnification requests are infrequent and generally approved. The Department of Defense (DOD) components that GAO reviewed reported receiving only about 350 indemnification requests over the past 15 years. Components' processes for evaluating indemnification requests varied. GAO found that contracting officials at some components were unaware of or did not use a specialized insurance review team within the Defense Contract Management Agency (DCMA) to assist in their evaluations. Components that did use this team found the reviews helpful. Lack of knowledge and use of this expertise means components may be missing an opportunity to facilitate the review process .
Defense contractors generally obtain coverage for their work from multiple multi-national insurers. Insurers develop a comprehensive risk profile on contractors to determine what coverage they will provide. According to industry representatives, world events and market volatility in recent years shrunk the insurance market and reduced coverage available to contractors. Insurer representatives that GAO interviewed stated that as a result, government indemnification is an increasingly important factor they consider when providing coverage to defense contractors.
DOD experienced challenges negotiating indemnification requests related to weapons carried on Virginia class submarines. Those challenges were resolved, but officials could not estimate the impact of these negotiations due to pre-existing program delays. Additionally, while contractors have expressed concern about not defining unusually hazardous risk in regulation, DOD officials noted the importance of maintaining the flexibility to consider indemnification requests based on each component's unique mission profile.
Why GAO Did This Study
Recently, DOD has experienced challenges indemnifying—or providing financial protection to—contractors working on certain weapon systems. A congressional report expressed concern that DOD's application of indemnification laws and an increase in programs with unusually hazardous risks could affect DOD's ability to field advanced weapon systems.
The report included a provision for GAO to report on DOD's indemnification of contractors against unusually hazardous risk. GAO's report examines (1) how DOD has indemnified risk related to contracts over the past 15 years and how it makes those decisions, (2) how defense contractors obtain insurance and the risk factors that influence insurance coverage decisions, and (3) what indemnification challenges, if any, DOD and contractors have experienced and may experience in the future.
GAO analyzed available indemnification data from six selected DOD components—including the military departments, Missile Defense Agency, and Defense Logistics Agency—from 2008 through 2022; reviewed government-wide and DOD indemnification policies and regulations; and interviewed officials at DOD, five selected defense contractors, and four selected insurers.
Recommendations
GAO is recommending that DOD encourage contracting officials to consider using existing expertise within DCMA to improve the indemnification request review process. DOD agreed with GAO's recommendation.
Recommendations for Executive Action
| Agency Affected | Recommendation | Status |
|---|---|---|
| Department of Defense | The Secretary of Defense should ensure the Principal Director of Defense Pricing and Contracting encourages contracting officials to consider the use of DCMA insurance reviews performed by its Contractor Insurance/Pension Review group when evaluating indemnification requests. (Recommendation 1) |
The Department of Defense concurred with the recommendation. In June 2024, the Principal Director of Defense Pricing and Contracting issued a memorandum directing contracting officers to consider using existing expertise within the Defense Contract Management Agency's Contractor Insurance/Pension Review Group when evaluating indemnification requests.
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