This means that the contractor’s capital, character & capacity have been analyzed by a surety underwriter, and that the surety underwriter has determined that the contractor can perform certain types of work within established parameters. Based upon that determination, a surety company who must be listed in the U.S. Treasury Department’s list of acceptable sureties, will issue surety bonds guaranteeing the contractors performance and/or payments within the resolved guidelines.
Ideally, the surety company wants to see three years of audited business financial statements along with work in progress schedules, accounts payable and accounts receivable schedules, company & contractor histories, bank references and a completed questionnaire. A surety agent’s job is to retrieve this information from the contractor, verify its completeness, evaluate the provided information and submit it to the surety company that will best match up with the contractor’s needs and capabilities. Special arrangements and/or SBA backing for emerging contractors or those with explainable prior difficulties may be possible. Some surety company have a simple application for contracts less than $100,000. Surety for these small contracts is based solely on the established credit of the applicant. Maximum surety limits are determined by the surety company’s underwriting guidelines.
License or Permit bonds
All licensed contractors are required to post a license bond in order to be licensed. A license or permit bond requires that the principal complies with the laws, statutes, ordinances and regulations pertaining to that particular license or permit. This bond is usually written for a one-year term. The contractor must file with the Contractors State License Board a Contractor’s License Bond (cash deposit). If a contractor’s license is suspended or revoked due to a violation of the Contractors License Law, the contractor must file a disciplinary bond with the Contractors State License Board if the contractor’s license is to be reinstated or reissued.
For a nominal charge, a contractor can obtain the assurance of an independent financial institution, that it will receive the product which is the subject of the purchase contract or be compensated for damages it may incur. Following an extensive qualification process, the issuance of the bond is an indication that a surety company has confidence in a contractor’s ability to complete the terms of its customer contracts and/or support the financial obligations of the contract. A customer benefits from this intervention by the surety company since unqualified bidders will probably be unable to provide surety support for the transaction.
A third party (‘surety’) will issue a non-cancelable guarantee (‘bond’) on behalf of a contractor (‘principal’) for the benefit of a customer (‘obligee’) that the terms and specifications of the bid or contract will be complied with. Surety is not insurance, it is intended to assure and protect the obligee not the principal. Surety is the act of a person or corporation making themselves liable for another’s debts, defaults or obligations, and so forth.
A contractor who meets stringent financial strength tests and demonstrates a consistent capability to meet customer contractual obligations, will be able to qualify for bonding.
A surety will do one of the following:
- make arrangements to have the contractual obligations fulfilled
- compensate the customer directly for financial loss incurred, or
- forfeit the full amount of the bond as a penalty for default
The contractor cannot unilaterally modify the protection afforded by the bond nor does the contractor receive any benefit under the surety bond.
A contractor can obtain several types of surety bonds, such as bid, performance, warranty, maintenance, supply and special purpose bonds.
A bid bond is issued by the surety company to the owner of the project in lieu of a required cash deposit. The cash deposit (usually 10% of the bid amount) is subject to full or partial forfeiture if the contractor is the low bidder and fails to either execute the contract or provide the required performance and/or payment bonds. The bid bond assures and guarantees that should the bidder offer the low bid, the bidder will execute the contract and provide the required surety bonds. Nearly all public sector jobs and many private ones require the posting of a bid bond or cashier’s check at the time the bid is submitted. The surety company normally charges an annual bid bond service undertaking fee ranging from $250-$350. This fee covers the charges for any and all bid bonds provided within that time period.
A performance bond is a non-cancelable commitmentissued by the surety company to the owner of the project (obligee) guaranteeing that the contractor will complete the referenced contract within its set terms and conditions. The surety company is in effect co-signing the contract. A payment bond guarantees that all subcontractors, labor and material suppliers will be paid leaving the project lien free. The premium rate for performance/payment bonds varies upon the contract price, type of work, strength of the contractor and the surety company. The rate can range from less than 1% to over 5% of the total contract price. The payment bond is added at no additional charge (the Miller Act of 1935 requires that any contractor performing a federal construction contract post a payment bond along with their performance bond. This ensures that all federal buildings a properties remain free of liens filed by unpaid suppliers of materials and direct labor). A payment only bond is billed at about 50% of the regular premium. The premium is based upon the actual job not lasting more than 18 months. Any jobs longer than 18 months accrue additional premium. Premium is always based upon the contracts final value.
A bond required by a general contractor of a subcontractor guaranteeing that the subcontractor will fully perform the subcontract and pay for labor and materials.
Maintenance or Warranty bond
While not normally required, can sometimes be required by the owner of a construction project. It provides coverage for defective workmanship or faulty materials discovered after the project has been completed. The bond typically has a financial limit at around 10% of the final contract amount.
Submitted by a contractor/supplier to another party once he has been awarded a contract to supply a specific product to the other party. It guarantees contract performance by the contractor/supplier, according to the contract specifications, terms and conditions. The surety company backs this guarantee up to the financial limit of the bond, which is often at 50% or even 100% of the contract amount.
Are submitted by a developer/home builder to the local municipality or county at the time he wants to file a lot map or obtain a building permit. Subdivision bonds guarantee that specified improvements, such as streets, sidewalks, curbs, gutters, sewers, water mains, will be installed by the developer/home builder within a certain time period and according to the governing body’s requirements. The surety company backs this guarantee up to the financial limit of the bond.
For public works projects, a municipal government must withhold retainage and must also have a contractor’s performance and payment bond on file. For public works contracts under $35,000, these requirements may be waived under a Limited Public Works Process. For public works contracts under $25,000 that are not processed under the Limited Public Works Process, the agency may, in lieu of a performance and payment bond, retain fifty percent of the contract amount for a period of 30 days after date of final acceptance, or until receipt of all necessary releases from the Department of Revenue and the Department of Labor and Industries and settlement of any liens filed.
Municipal governments normally withhold 5% of money due the contractor for a public improvement or work until completion and/or acceptance of the contract. This money is to be set aside as a trust fund for the protection and payment of anyone who performs labor, provides materials, supplies or equipment or subcontracts to the prime contractor. The State Department of Revenue has lien rights against this fund for payment of unpaid taxes and the Department of Labor and Industrial Services has lien rights for non-payment of prevailing wages. A contractor can submit a retainage bond for all or any portion of the contract retainage in a form acceptable to the agency and from a bonding company meeting standards established by the public body.
The performance and payment bond will be in the amount of 100% of the contract amount, except that cities and towns may by general ordinance, fix and determine the amount of the bond. The bond cannot be for less than 25% of the contract amount. Anyone who has a claim against the bond must file such a claim within 30 days from and after the completion of the contract with an acceptance of the work by the affirmative action of the board, council, commission, trustees, officer, or body acting for the state, county or municipality, or other public body, city, town or district. Claimants shall present to and file a notice in writing substantially as shown in the statute.