Surety Bonds 101
What is a Surety Bond?
A surety bond is a promise made by a bonding company to pay a certain amount to a second party if the purchaser of the bond fails to meet some obligation or contact terms. A bond is essentially a line of credit that a Surety (aka bonding company) opens for the applicant that becomes accessible to the contractor’s client under certain conditions. They come in many forms though Contractor License Bonds, Performance/Bid Bonds, Subdivision Bonds, LLC/Employee Worker Bonds, and Right of Way Bonds are the most common when it comes to contractors and construction.
What do they cover?
As mentioned above, the coverage depends on the obligations of the contract but they are structured the same. The Principal (contractor doing the work) obtains a bond from the Surety (company who provides the bond) that promises the Obligee (person or entity hiring the contractor) the Principal will complete their contractual duties. If the Principal abandons the job, fails to obtain necessary permits, runs out of capital, or in some other way fails to complete the job according to contract requirements, the Obligee can file a claim with the Surety to receive payment to complete the job.
Bonds do not protect the contractor purchasing them, they protect the person hiring the contractor.
This is the biggest difference between a Bond and Contractors Liability Insurance. A Liability Insurance policy protects the contractor purchasing the policy from bodily injury & property damage claims made by a 3rd party. A bond protects the person or entity hiring the contractor. Another significant difference is that if you have a claim against your bond and the Surety company makes payment, the Surety company has the right to come after the contractor for compensation. In a Liability Insurance policy, the insurance company has no right to attempt to subrogate against the purchaser of the policy.
The most common type of bond is a Contractor License Bond and these are typically required by state law in order to obtain a contractor’s license. If the contractor doesn’t obtain the necessary permits or abandons the job, the Principal can file a claim against the bond to hire another contractor to complete it. In a Performance or Bid Bond, the Obligee (hiring entity) primarily wants to ensure that the contractor has the financial ability to complete a job. Projects where Performance/Bid bonds are required are typically large projects that take significant time and capital to complete. The Obligee wants to ensure they hire a contractor who has the financial strength to pay employees, purchase material, and complete the job.
How much do they cost?
Bonds are basically lines of credit that the Surety company extends to a contractor, so an applicant’s Credit Score is the primary way of determining costs. Typically, the bond premium is 1-3% of the bond amount for a customer with fair to excellent credit ratings. For example, a California Contractor License bond is $15,000 and we typically see contractors with excellent credit paying as low as $75 a year and contractors with fair to good credit paying around $150-$200 a year. If a contractor has a bankruptcy on file, poor credit, or a previous claim on their bond, we can see their license bond go as high as $1,200 a year. However, we have access to Surety companies that write “No Credit Check” bonds at flat fees, typically between $350-$450 a year.
For larger bonds such as Performance/Bid bonds or LLC/Employee Worker bonds, the Surety company might want to see financial records, bank statements, and tax returns to determine premium and may even require some form of collateral.
We can help!
Even if you have poor credit, Builder’s Shield Insurance has access to surety companies that will offer you a bond. And in most instances, we’re able to get you up and running with a bond in less than an hour. Give us a call at 855-95-SHIELD and talk to one of our contractors insurance specialists.