A contractor (Principal) pays a bond company a premium. In return, the bond company provides a guarantee to a third party Project Owner or another contractor (Obligee) on the contractor's behalf. If the contractor does not perform, the Obligee can make a claim against the bond.
No. Performance Bonds cannot be cancelled once they are issued. Performance Bonds guarantee an underlying contract. Therefore, the contact must be completed, cancelled or terminated and the performance bond will follow suit. An exception to this rule is if the Obligee is willing to return all original performance bonds before the contract has started. You can read more about Performance Bond Cancellation here.
No. Performance Bonds are underwritten by surety bond companies based on the financial strength and perceived ability of the Principal and other indmenitors. Therefore, they will not transfer the obligation to others. The Principal may subcontract their obligation to others but the Principal and Indemnitors are responsible for the obligation until the contract is complete and any warranty or maintenance period has expired. This can be a significant consideration for Principals when selling their business.
A Performance Bond guarantees an underlying contract. A performance bond is not released like a letter of credit. Once the contract is complete and any warranty or maintenance period has passed, the performance bond’s obligation is finished. There is no need to get the performance bond back from the Obligee or close it out. Generally, the surety bond company will send Contract Status Report requests to the Obligee to know when the contract has been completed and when the maintenance period has started.
Small bonds under $1,000,000 can be approved and issued in a matter of minutes for those Principals with good credit. Click here to apply.
For larger performance bonds or bond programs, we need to collect underwriting information including financial statements on the company, personal financial statement(s) on the owner(s), an application, bank information, etc. Once we receive this information, we can typically have a Performance Bond Program or approval set up within 24 hours. More difficult circumstances may require longer lead times. For example, a contractor utilizing the SBA Bond Guarantee Program should expect a few days for approval.
In the United States, Performance Bonds can only be written by licensed property and casualty insurance agents. Although many insurance agents can sell surety products, most do not have the expertise or proper surety bond company access to do so. Agents then must be appointed with licensed surety bond companies.
Unfortunately, fraud exists in performance bonds. Customers should verify that they are getting a surety bond that is highly rated by a service such as A.M. Best and list in the U.S. Treasury Circular 570 in most cases and always on Federal projects. Avoid buying “Individual Performance Bonds”. These are performance bonds that are not backed by a Corporate Surety Bond Company. They are often fraudulent and do not satisfy the requirements of many contracts.
Performance Bonds are original, legal documents. Instead of processing performance bonds directly, many surety bond companies appoint approved bond brokers and give them the authority to sign on their behalf. This is referred to as a Power of Attorney. For the performance bond to be valid, it needs to be signed by an individual listed on the surety bond company’s Power of Attorney and the surety bond company’s seal must be on the performance bond.
The answer is Yes as long as a surety bond company has given the broker permission to use an electronic seal. However, the Obligee must still accept an electronic seal. Many Obligees have adopted practices allowing these electronic seals but some still require a “wet seal” from the broker.
The SBA has a program for Performance Bonds. However, the SBA is not a direct writer of Performance Bonds. Instead, the SBA provides incentives for surety bond companies to write bonds for Principals that may not otherwise qualify. The SBA does this by providing reimbursement to surety bond companies if they suffer a loss on an approved account. These reimbursement guarantees range from 80%-90% of each Performance Bond written, depending on the status of the contractor. In return the SBA collects a fee for this guarantee which is currently 0.6% of the contract price. Learn more about the SBA Surety Bond Guarantee Program here.
Typically, yes if the bankruptcy is completed and discharged. A contractor that has filed a recent bankruptcy may have to use the SBA Surety Bond Guarantee Program discussed above and/or use other surety bond assistance such as funds control or collateral. The contractor should also expect to pay a higher performance bond cost.
No Peformance Bonds are not insurance. Although they are often written by insurance companies and insurance agents, Performance Bonds are very different from insurance. Performance Bond resembles a credit product and underwriting assumes that the surety bond company will not suffer a loss. Performance Bonds always require indemnity. This means that if the surety bond company suffers a loss, they will seek reimbursement from the Principal and Indemnitors. On the other hand, insurance is written with the expectation of losses. The insured is only responsible for a portion of the loss through deductibles and coinsurance. You can read more about the differences between Surety Bonds and Insurance here.
Most surety bond companies require personal indemnity from all shareholders with more than 15% ownership. This means that the owners put their personal assets at risk in return for bonding support. Since surety is essentially a credit product, they expect the owner(s) to stand behind the company personally. However, some surety bond companies will agree to waive personal indemnity for Principal’s with strong balance sheets and good experience. The requirements for these waivers varies by surety bond company. You can read more about personal indemnity here.
This is common in credit relationships. If there was a performance bond claim, a surety bond company does not want to argue over which assets belong to the Owner and which belong to their spouse. This is also a means of ensuring that Corporate assets are not shielded by transferring them to the spouse. Surety Bond companies are very reluctant to provide a waiver of spousal indemnity if the other spouse is signing. They may be willing to exclude certain assets in writing if it makes sense. You can read more about indemnity here.
Performance Bonds are typically unsecured credit. Most surety bond companies do not file liens against assets unless the contractor is in a claim situation. Also, surety bond companies must investigate performance bond claims and be careful to pay only if the claim is found to be valid. On the other hand, letters of credit are typically secured by hard assets and receivables. They are also usually “irrevocable”, meaning that once committed, there is very little protection for the person posting the letter. You can read more about the advantages and disadvantages of surety bonds versus bank lines of credit here.
Yes. Companies with solid financial strength and experience can still get performance bonds with bad credit. The reasoning for the credit issues will need to be disclosed and usually the expectation is that there will be a plan to correct things moving forward. Even without strong financial strength, there are tools to help get performance bonds. These include the SBA Surety Bond Guarantee Program, collateral, funds control and other tools to make getting performance bonds easier.
Typically to get your performance bond premium refunded, you need to return the original performance bond to the bond company. Performance bond premium cannot be refunded off copies alone because they are legal documents that are by nature non-cancellable. Also, the performance bonds must be returned before the project starts or at least very early on in the project before much work has taken place. This prevents adverse selection of an Obligee returning a bond once the project is almost complete or when they are sure there will be no issues.
Performance Bonds guarantee a contract and these bonds are invoiced based on the amount of the underlying contract. In many cases, the contract amount changes throughout the life of the project. An increase in the contract amount will lead to an overrun which means the surety bond company is entitled to additional premium. A project decrease would result in an underrun which means the surety bond company owes you a refund of some of the bond premium.
A Performance Bond guarantees that an obligation will be completed according to the contract. A Payment Bond guarantees that subcontractors and suppliers will be paid on the project and therefore be lien free. Another way to say this is that a Performance Bond guarantees that a project will be completed for an agreed amount. On the other hand, a payment bond guarantees that the bills will be paid. A Performance Bond can be written by itself but is often written with a Payment Bond. There is no additional charge when the two surety bonds are written together. Together these two bonds provide valuable protection for a construction project. Read more about the differences between these two bonds here.
Yes. There are many different companies that write Performance Bonds. Each company has their own underwriting appetite. Some companies prefer net worth, while some prefer working capital. Some concentrate on Fortune 500 companies, while some look for small and mid-sized businesses. Also, different surety bond companies have different financial strengths which determines their ability to write performance bonds. Having a variety of surety bond companies writing Performance Bonds is a good thing for contractors. It ensures there are solutions for all types of situations.
The U.S. Federal Government maintains a list of surety bond companies who they approve of doing business with. This list is the Treasury Department’s 570 Circular. This is sometimes referred to as a “T-Listing”. The list also gives the largest performance bond amount each surety bond company can write to the Federal Government. Often, surety bond companies have agreements with re-insurers or other surety bond companies if the project is larger than their Treasury Listing. You can check your company’s T-Listing here.
Surety Bond Capacity refers to the total surety bond credit that a surety bond company extends to the Contractor (Principal). Although many factors are considered, typically surety bond capacity is a multiple of analyzed working capital and/or net worth. Surety bond capacity can be both “bonded” and “total”. Bonded is of course the amount of bonded work a surety company will support. Total is the most work a surety company will support for a Principal regardless of whether the work is bonded or unbonded.
Although these are both types of Contract Surety Bonds, they are not the same thing. A Bid Bond guarantees that a Contractor will enter a contract at the bid price, and if asked, provide a performance and payment bond. Performance Bonds guarantee the completion of a project after the Principal has bid or negotiated it. A Performance Bond is regularly issued after using a Bid Bond on a project. However, a bid bond is not required to issue a performance bond. You can read more about Bid Bonds here.
Surety Bonds are a broad category of guarantees between three parties. A Performance Bond is a type of Surety Bond that is included in the Contract Bond category.
There are many other questions that could arise regarding performance bonds. We will keep updating our list as questions come in. Our surety bond experts are available to answer your questions anytime. Contact us today.
Other Frequently Asked Questions
Performance Bonds Cost 0.5% - 3% of the contract amount depending on the financial strength of the Principal, the type of work being guaranteed, the completion time, the warranty if any and the surety's filed rates.
No. Performance Bonds do no appear as an asset on a balance sheet. Performance Bond obligations are typically added in the notes section of a CPA prepared financial statement.