This is Matt. Matt is a contractor who has just been awarded a new construction project. When Matt meets with the project owner, he tells Matt that a performance bond will be required on the project. Unfortunately for Matt, he doesn’t know what a performance bond is, what it will cost, or how to get one.
Fortunately, Matt remembers he knows Josh at Axcess Surety. When Matt arrives at Axcess, he has a lot of questions for Josh. Josh explains that a performance bond is a three-party agreement. The contractor is called the principal and is making a guarantee to the project owner, or higher-tier contractor. This party is called the obligee. The surety is a third-party bond company that is backing the contractor’s performance. The performance bond guarantees that the contractor will complete the project according to the contract and specifications.
A performance bond provides the obligee with valuable protection. If the contractor does not complete the contract, the bond company will step in and finish the project, or provide capital to complete the construction. Josh warns Matt that performance bonds require indemnification. The contractor must sign an indemnity agreement with the bond company. If a loss happens and the bond company has to pay out, they will seek to be reimbursed by the contractor and other indemnitors.
It is common for company stockholders to indemnify the bond company personally. Josh tells Matt that a performance bond generally costs between 0.5% to 3% of the contract amount. A performance bond cost is based on the type of work being performed, the underwriting strength of the contractor, and the surety’s filed rates in that state.
So how do you get a performance bond? It depends on the amount. For performance bonds $1 million and less, most contractors can get one with just a simple credit check. For larger projects, a contractor must go through underwriting referred to as the three Cs, which stands for credit, character, and capacity. Credit refers to a contractor’s financial strength, and underwriters will look at company financial statements, personal financial statements, available credit, project trends, et cetera.
Capacity refers to a contractor’s ability to handle the project and total workload. Bond underwriters will review a contractor’s equipment, staff, estimating and accounting systems. Character refers to a contractor doing what they say. Often, underwriters ask for project references, supplier references, and interviews with key management.
Matt wants to know what else he should know about performance bonds. Josh tells him that performance bonds are often written with other contract bonds, such as payment bonds and maintenance bonds. Josh also tells Matt that he should check to make sure the performance bond meets the contract requirements. It is common for contracts to require a performance bond that is listed on the US Treasury 570 circular. This is also referred to as a T-listing.
Additionally, many contracts require that the performance bond company have a rating of A- or better from a rating service such as AM Best. Not meeting these requirements could result in a contractor’s performance bond being rejected. Matt has his performance bond and the project can start. If you need a performance bond or have any questions on surety, do what Matt did and call Axcess surety today.