What is a Surety Bond
An instrument where one party (Surety) guarantees the obligations of a
second party (Principal) to a third party (Obligee)
A three party contract between the Surety,
Obligee
Principal Surety
Parties to a Surety Bond
Obligee
Principal Surety
(Contractor) undertakes obligation and provides bond Issues bond
and provides guarantee
(Owner) – Requires and receives protection of bond
Parties to a Surety Bond
Surety Bonds
Vs. Traditional Insurance
Surety Bonds Insurance
3-party 2-party
Indemnification/surety doesn’t pay claims unless your organization fails
Claims are expected & paid
Risk transfer Risk transfer
Duty to obligee Duty to insured
Regulated by State Insurance Departments
Regulated by State Insurance Departments
Premium fee for prequalification services
Premium actuarially determined
Who Requires Bonds?
Public Sector
• Federal Government
• State & Local
Governments
Who Requires Bonds?
Private Sector
• Private Owners
• Lending Institutions
• General Contractors
Contract Surety Bonds
• Bid bonds
• Performance bonds
• Maintenance bonds
• Payment bonds
• Supply bonds
A surety bond offers assurances to the owner of a construction project that the contractor will perform the work specified in the contract and pay
certain subcontractors and suppliers.
Types of Bonds
1. Bid Bond
- Covers bid security - Assures contractor, if awarded a contract, will enter into the contract and provide the required
Performance and Payment
Types of Bonds
2 . Performance Bond
- Guarantees owner the
contractor will perform the obligations contained in the contract documents.
- If the contractor defaults, the Surety has the obligations to fulfill the contractor’s
obligations.
Types of Bonds
3. Payment Bond
- Guarantees the payment of defined subcontractors and material suppliers.
Types of Bonds
4. Maintenance Bond
- Guarantees workmanship and material for a period of time after project completion and acceptance of the work.
Functions of Bonds
- Ensure project completion
- Relieves owner from risk of financial loss due to Mechanic’s Liens
- Smooth transition from construction to permanent financing
- Provides payment protection for subcontractors and suppliers
- Protects public funds on public projects
Prequalification
Surety Bonds
• Capital
• Capacity
• Character
Letters of Credit
• Single focus
•
Quality &
liquidity of
collateral
What Are Bank Letters of Credit?
• Cash guarantee to owner
• Called on demand
• Payment to owner & loan for contractor
• No guarantee of project completion
Borrowing Capacity
Surety Bonds
• Issued on
unsecured basis
• Does not diminish borrowing capacity
• Credit
enhancement
Letters of Credit
• Assets used as collateral
• Diminish existing line of credit
• Can affect cash
flow
Duration
Surety Bonds
• Duration of contract
• Maintenance period
Letters of Credit
• Date specific
• “Evergreen”
clauses
Claims
Surety Bonds
• Surety
investigates
claim of default
• Surety’s options
• Surety pays
rightful claims of certain parties
Letters of Credit
• Payable on demand
• Owner determines validity of claims by subs &
suppliers
Benefits of Surety Bonds
• Protects the interest of labor & vendors on construction projects
• Surety company assumes the
responsibility of
Surety Bonds
Performance Bond Protection
• Re-bid the job for completion
• Arrange for replacement contractor
• Retain original contractor
• Reimburse owner as
required by the bond
Surety
Payment Bond Protection
• Surety pays eligible subs & suppliers
• Protects owner from mechanics’ liens
• Protects
subcontractors from
Surety
Benefits of Surety Bonds
• Qualified bidders
• Reduced risk of liens
• Timely project completion
• Defect protection
Owner
• Contract reviews
• Continuity plans
• Expertise
• Project qualification
• Private construction
• Lending institutions
• Subcontractor protection Contractor
Benefits of Surety Bonds
Cost of Surety Bonds
Bid Bonds Usually no cost
Performance Bonds ½ to 2% of contract price
Payment Bonds Price included in cost of Performance Bond
Maintenance Bonds Price for1 year included;
additional for longer term
Qualifying the Surety
A.M. Best Company
• Rating agency for all insurance and surety companies. A+++ rating is best
• Anything B+ or lower is a red flag
Treasury Dept. Circular 570
• Also know as the “Treasury List”, this publication lists the sureties that are approved for Federal projects and the
P3’s (Public-Private Partnership)
Public Government Agency
• Federal
• State
• Local
Objective :
FASTER COMPLETION and/or LOWER COST
Contract with private entity(s) for any/all of :
• Finance
• Design
• Construction
• Operation
• Ownership
• Maintenance
P3’s Continued
Use of P3’s can vary greatly state by state, &
even within states – Broad use or Limited / Specific project use ……….
Road/Highway – Buildings – Wastewater Treatment Facilities, etc.
Accordingly, state statutes can vary greatly in bonding requirements
P3’s Continued
While bonds still provide basic protection against 1. contractor default & 2. Payment protection for
Subcontractors and Suppliers :
‐Extent of such protection can vary significantly by State
Form and Amount of the Bond or Security
< 100% of contract amount ? – or less ? Conform to Little Miller Act of State, or not ?
Bond or “alternative form” of security ? (Cash, Bank Irrevocable Letter of Credit) ‐ Combination of both ?
P3’s Continued
These inconsistent bonding requirements can =
insufficient payment protection for State’s vendors on P3 contracts
Contract surety bonding requirements on P3 contracts help maintain control for state & local governments
that otherwise relinquish control to the private sector – HOWEVER much of the legislation concerning such is
new and evolving with the “bottom line” presently that ALL parties to P3’s – Government, Contractors &
