An Easy Guide to Performance Bonds

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Performance bonds are required by the developers as these bonds ensure that the contract will be completed propitiously. Winning a contract bid is not sufficient. The construction projects involve huge investments. If the bid winner refuses to take up a project or is not able to deliver the desired performance, there can be huge losses not only to the developer but also, to the general public and the government.

If the contract is secured by a performance bond then a claim can be made by the developer and the loss can be compensated by the performance bond companies. It is one of the most common bonds used in the Construction industry today.

How is rate decided?

The premium on the performance bond varies depending upon the bid amount, financial credentials of the applicant and his past work history.
Contractors typically pay a rate that’s just 2.5%-3% of the bond amount. This means if you’ve been contracted for a $100,000 project, you could pay just $2,500 to $3,000 for your performance bond.

Other things such as longevity of company’s existence, whether the applicant has been bonded before or not, and the personal credit will also determine the rate of the performance bonds.

You can apply for Performance bonds with us. Your application will be reviewed by our team and you will be issued a bond in no time.

The Difference between Payment and Performance Bonds

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Payment and Performance Bonds are the two types of Construction bonds often confused with each other. To get the basics right, one should know the basic difference between the two types of bonds.

A Performance Bond is a form of guarantee by the Surety Company, that a project will be completed according to the specifications mentioned in the contract. If the Principal fails to do so then it becomes the responsibility of the Surety Company to complete the project or have it completed.

The payment bond is a guarantee all the sub-contractors, workers, and laborers working on the project will be paid by the Principal.

These two bonds work in tandem to ensure a project is completed lien free. In many cases, both types of Bonds are required for construction projects. Sometimes, in rare cases, a payment bond may be required without the need of buying a performance bond. Bonding Companies generally offer Performance and Payment Bonds together so clients might pay one price for both types of bonds.

When applying, financial statements including balance sheets, income statements, cash flow statements, and a work in progress schedule with full disclosure are all required to complete the process.

Performance Bonds Explained

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A Performance Bond ensures the satisfactory completion of a project by the Principal in whose name the bond is issued. Generally these are used in public construction and commercial projects.

How do Performance Bonds Work?
The insurance or surety company issues a Surety Bond known as the Performance Bond. The contractor is known as the Principal who is liable to fulfill the contract according to its specifications. If the Principal fails to do so it becomes the responsibility of the Surety Company to complete the project or have it completed. Apart from Civil projects, Performance Bonds are usually required for projects in excess of $250,000.

How are Rates for Performance Bonds Determined?
The type of work, the estimated duration of the project, and the warranty on the work being done all go into determining the rate of the Performance Bond. Surety companies see many types of contacted work including excavation, concrete work, engineering construction, and architectural construction.

The overall credit worthiness of the contractor may impact the rate. The stronger the credit, the lesser the rate is likely to be. The Surety Company will look at many financial statements including balance sheets, income statements, cash flow statements, and a work in progress schedule when evaluating an application.

Different Types of Contract Surety Bonds for the Construction Industry

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Surety bonds are commonly required to manage the risk associated with construction projects. They are an agreement which ensures a contract will be completed should the contractor be unable to do so. There are mainly three types of contract surety bonds, which are:

Bid bond: Also known as a bid guaranty or bid surety, the bid bond is an assurance from a third party (an insurance company or bank) in written form to the client by the contractor (bidder) with a bid. This bond guarantees the contractor will enter into the project for the price quoted in the bid. This builds trust in the bidding company where they will become more likely to have their bids accepted in the future.

Performance bond: A performance bond assures a client the contractor is capable of performing the project. It protects the client from loss by providing legal and financial protection.

Payment bond: A payment bond is another important type of surety bond which guarantees the contractor will pay the sub-contractors, suppliers, and laborers who are working on the project.

Surety bonds are generally approved by the surety only when they are confident the contractor is qualified to perform the contract and is financially sound to withstand the assorted risks involved in the completion of the given construction project.

How Do Surety Bonds Work?

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A surety bond is a contractual agreement between a project owner, contractor and a surety company to ensure the project will be completed as per contract terms. Be it federal construction project or a service contract, contractors are required to obtain surety bonds from surety bonding companies. After performing a rigorous pre-qualification process and analyzing the contractor’s financial position, a surety issues the bond to the project owner. Here are various types of surety bonds which may be issued.

  • A Bid Bond assures the contractor will enter into a contract for the price quoted in his bid. This bond prevents the contractor from increasing the bid price on the project after entering into a contract with a project owner or not entering into the project if low.
  • A Performance Bond guarantees the contractor will perform the work as per the terms of the contract.
  • A Payment Bond guarantees the contractor will pay all suppliers and subcontractors as per the terms of the contract.
  • A Maintenance Bond guarantees the contractor will solve all maintenance issues during a specified maintenance period after the completion of the project.
  • A Warranty Bond assures the contractor will repair any defects in the project during the warranty period.

The surety company calculates the surety bond cost based on the contract amount based on the contractor’s financial credentials. Most surety bonds don’t require collateral or security but a contractor must pay bond premiums. Once a contractor obtains a surety bond, the surety company assures the contractor will perform the contract, and this increases the contractor’s ability to obtain work.