To have good understanding of the question: “what is a surety bond?” we have to first or all know the surety meaning. What is surety? This has to do with a person or body that takes responsibility for the performance of another. A surety bond is a contractual agreement or a legally enforceable contract between three parties (the obligee, the principal, and the surety). It is also known as surety insurance policy for the obligee.
The principal is the primary party who will carry out the contractual agreement, the obligee is The party who receives the obligations, while the surety assures the obligee that the principal is capable of performing the task
The most common types of surety bond insurance are the commercial surety bond and the contract surety bond.
These are used heavily in construction industries; this type of surety insurance guarantees that the obligee would not lose financially if the principal doesn’t meet up to the contract’s requirements. The common contract surety bonds are listed below:
A bid bond is a guarantee that a contractor will enter the contract if awarded the bid and after which the contract will be commenced under the agreements on which the bid was placed
This is also called contract bonds. A performance bond is given by a bank or a surety bond insurance company to guarantee that the project is satisfactorily completed by the contractor
Payments bonds also known as a contract payment is a layaway of about 20% of the bid made by the bidder to guarantee that after the completion of the contract, pecuniary due owed to employees, suppliers, other creditors and subcontractors will be fully paid
This surety insurance handles construction projects. Maintenance bond is responsible for the maintenance of a project for a period of time after the project is completed. This bond makes sure that the work of the contractor has the necessary quality and the job is carried out in line with the construction standards, state regulations and building codes.
Commercial surety bond also known as fidelity bond protects you from liquidity risk. It also ensures that the security exigencies of the government, public and legal entities are met. Commercial surety bond ensures that businesses or individuals adhere to the required legal obligations
Listed below are the common commercial surety security bonds
License and permit bonds
The municipal, provincial and federal government expects this type of bond to guarantee that constitutions and bylaws concerning a particular license or permit are adhered to
This type of bond is divided into two: Judicial and Fiduciary.
Fiduciary bond also known as probate bonds are more generic when compared to Judicial bonds. This bond expects that executors, committees or administrators carry out their responsibilities and also adhere to related laws and court orders. A judicial bond on the other hand guards one from ambivalence during legal proceedings
Public official bonds
This surety bond insurance authorizes public officials to prove the trustworthiness of their services. Public official bonds are often required because people will have to work with funds as well as other important information
These bonds are bought by professionals and companies who need surety security bonds for purposes not in line with construction projects, legal issues or other contract work. Miscellaneous bond insurance helps companies underwrite with less harm involved compared to the contract and court bonds.
Surety Bond costs
For all types of surety bond, it is not a required that you pay up the bond fee in full. Around 1-15% of the total bond amount should be paid. Your rate is influenced by your personal credit score. For example, if you need a surety bond of $10,000 and you get quoted at a rate of 1%, you’ll have to pay the sum of $100 for the surety bond
Bond with higher liability such as construction surety bonds will demand 10% or more of the bond’s value.
How does a surety bond work?
This bond works by giving the obligee some insurance where they can file a claim in cases where expectations are not met in the bond. To the principal, it is a form of credit as claims will be paid back to the surety
When it becomes a requirement for you to get a surety bond, it is major you stick to the terms contained in the Bond, because if it fails, claims come in. Surety claims will demand that you pay to the last penny including legal costs. The surety protects the bond but it demands your organization and personal owners to sign an agreement called general agreement of indemnity.
With this agreement, your corporate and personal assets can be used in paying back the surety for claims as well as all related legal costs. The surety will be held responsible if they are wrong and cannot get a payment either from you or the courts. This is why they are needed to approve the chances of you bringing up a claim and your capability to make a repayment.
Surety bond benefits
As said earlier, surety security bond is a form of credit to the principal. Understanding the utility of surety bond is possible by looking into the different options for getting a surety bond.
Posting of cash directly with the obligee is an option on occasion. There are obliges that can take an Irrevocable Letter of Credit as an option to the surety bond.
However, these different options have similar pitfalls
- Greater costs
Payment of bond premium will not be required, however the investments income that is lost when you post a 100% collateral is more greater than the cost of a surety bond
- Increase in default and bankruptcy
Reduced working capital leads to a growth in the possibility your company goes bankrupt or fails to implement a contract
- 100% collateral
Other options demands 100% collateral. No guarantee is assured until they are offered your assets
- Reduced capital
There is a reduction in liquidity when you substitute your own asset for a bond.
- False claims
Without proper investigation on your behalf, there may be payment of false claims. It is very risky when you offer the obligee your money to use for an insurance claim.
After considering various options, most people will notice that the surety bond companies making this assurance for you for just a little portion of the bond amount is preferred than losing your liquid cash
How do you get a surety bond?
This question is often asked: “Where can I get a surety bond?” First of all, there is a need for you to know the bond that meets up to your expectations, and there are lots of requirements regarding bonds. It will not be accepted by a obligee if you buy the wrong one
Other coverage options to consider
Professional liability– if a customer claims that you gave them a wrong advice that led to a financial loss, your professional liability can help you in getting over from the financial expectation you are exposed to
Product liability insurance– This is often added in a Commercial general liability (CGL) policy. It is important that you double-check the insurance policy of your small business to see if it guards you from risks in line to product liability claims
Commercial auto insurance– If your vehicle is either used by you or your employees for business then a commercial auto insurance is required, so your vehicle is protected in a way your own auto policy might have failed
Property insurance– As a small business owner, you will have to put confidence in your tools, equipment, property, and tech to assist in the continuous development of your business. Your business might experience some setback if some of your tools get damaged, the need to get property insurance coverage is very important
Data breach and cyber risk coverage– Recently, small businesses have been adversely affected by cyber attacks, but with a cyber risk coverage, the expenses incurred due to a cyber hack will be lightened.
Equipment breakdown insurance– Huge damages due to external factors like the weather, flood or fire are covered by your property insurance policy. Although, your equipment breakdown insurance is only required when the damages are caused by electrical or mechanical factors.