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.

Differences between Contract Bonds and Commercial Bonds

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Contract and Commercial Bonds are the two main categories of surety bonds. Although both bond types are issued by a surety company, they are distinct in their usage and application.

  • Contract Surety Bonds
    Contract bonds are exclusively secured by firms guaranteeing a contract. It is a contractual agreement between three parties: project owner, contractor, and a surety. The surety company guarantees the contractor will complete the project as per the specifications of the contract. There are several types of contract bonds including Bid Bond, Performance Bond, Payment Bond, Maintenance Bond, Warranty Bond, and Advance Payment Bond.
  • Commercial Surety Bonds
    Commercial bonds are required on the basis of a legal statute. A commercial bond is a guarantee of financial performance. These bonds are required by municipalities or public authorities to protect the general public against loss in the event of violation of regulations. Commercial bonds are comprised of several types of bonds including a license and permit bond, court/judicial bond, tax preparer bond, notary bond, process server bond, and other miscellaneous types of bonds.

Both contract and commercial surety bonds are underwritten by a surety company. It is important for you to work closely with a surety bonding company to make sure you receive the right surety bond at the best terms.