What is a surety bond?

 October 22, 2019     UFG Insurance    Surety 

What-is-a-Surety-Bond_1695x661

“They call me bond, surety bond.”

It may sound like the latest Hollywood blockbuster, but there’s no villain, secret lairs or European sports cars here — we’re talking surety bonds. More specifically, what is a surety bond, and how can it help protect your business or project?

What are surety bonds used for? 

A surety bond is a contract that expresses one party’s promise to answer for another party’s failure to do something as promised.

They are commonly used in the construction industry to ensure that contractors and subcontractors on a project meet their obligations and complete the work, but surety bonds can be found in a variety of industries, from auto sales to janitorial services — anywhere payment or performance need to be guaranteed.

Surety bonds come in two primary types: a contract bond, which ensures the conditions of a contract are met, and commercial bonds, typically required because of a legal statute.Contract bonds themselves come in four main flavors:
 
  1. Bid bonds: A bid bond is given as an assurance to a project owner that if a company is selected as the low bidder, they will have the means to fulfill the job at the cost that was outlined in the bid.
  2. Performance bonds: Performance bonds protect project owners from a contractor’s failure to complete their work or a project according to the specifications outlined in a contract.
  3. Payment bonds: These bonds ensure that contractors pay subcontractors, material suppliers and other parties working on a project.
  4. Maintenance (warranty) bonds: These bonds guarantee the workmanship on a project for a predetermined length of time, like a warranty.

The three parties to a surety bond 

There are three parties that make up a surety bond contract. The surety (UFG Surety, for example) guarantees the performance and responsibility of a second party (the principal) to a third party (the obligee).

Let’s talk more about the parties that make up a surety bond and their responsibilities.

The principal

The principal, or contractor in most cases, purchases the bond to guarantee the project work described in the contract, permit or law.

The principal is responsible for confirming the exact bond amount needed before applying for a bond. They must fulfill their obligation to deliver the services in the three-party agreement. They must also sign an indemnity agreement (sometimes known as a hold harmless agreement) with the surety, which effectively protects the surety from risks or liabilities created by the principal.

REAL LIFE EXAMPLE:

Bill is a contractor/business owner who wants to pursue a contract to renovate a public health building. As a contractor, Bill needs various contract surety bonds to get the business. According to law, the city government requires bid, performance and payment bonds. Bill needs to find an agent and from there will work with a bond producer, and a surety, to get bonded for the project.

[Article] How to build a successful construction team: 3 positions you're not thinking about.

The surety

The surety, otherwise known as the insurance company providing the bond, guarantees to the obligee that the principal will fulfill an obligation or perform as required by the underlying contract.

A surety company, like UFG Surety, focuses on helping contractors and other business owners get bonded. As a standard business practice, sureties only bond contractors and companies in which they feel confident.

A variety of documents must be submitted to the surety for them to perform their analysis. Generally, most submissions include current and historical financial statements, loan agreements, job schedules, certificates of insurance and a completed company questionnaire.

The obligee (or entity requiring the bond)

In the bonding process, the project owner, or obligee, receives the surety’s guarantee that a contractor (principal) will fulfill an agreement or contract. In most cases, the obligee is an organization that requires a bond, such as the government. Governments require surety bonds to reduce overall risk in the project. As the beneficiary of the contract, the obligee pays the principal upon fulfillment of the terms. 

How surety bonds work in a default

If the principal fails to meet their obligations under the terms of the project contract, it is known as a default. In this event, the surety company either pays to complete the work or compensates the owner of the project for financial loss. At the same time, the principal will be expected to reimburse the surety for any losses suffered on their behalf.

Surety companies follow a pre-determined set of processes and procedures in the event of a bond default, including an investigation into the circumstances surrounding it. If disputes arise over a default, mediation, arbitration or litigation may be required.

[Article] The surety claim process: What you need to know


Well, there you have it! Surety bonds are not that difficult to understand after all.
Just don’t ask about shaken or stirred bonds.

Are you interested in learning more about UFG Surety? With nearly 70 years of experience, UFG Surety’s team of responsive, trusted and knowledgeable associates are ready to help you succeed and achieve your business goals. 

Ready to chat with an agent? Find a surety agent today.  

 


The information provided is for informational purposes only. Every attempt is made to ensure that the information is accurate; however, it is not intended to replace professional advice. For more information, see Disclaimers & Other Legal Documents.