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What is the Purpose of a Surety Bond?

November 13, 2021

What is a surety bond's purpose?

The principal, the obligee, and the surety form a three-party arrangement known as a surety bond. The principal is the entity that must demonstrate financial strength in order to meet a financial obligation. The most typical example is an insurance business that wants to be able to pay out rewards to its customers in the event that something goes wrong. Many car insurance firms, for example, are obliged by state law to hold a surety bond guaranteeing their ability to pay any claims filed by their clients.

Before withholding resources from you, the obligee is usually a government agency or official who seeks proof that you will keep your obligations (cash money). This could be as basic as obtaining planning authorization for a new structure or receiving approval from a government body to conduct business with them.

Finally, the surety acts as your guarantor, ensuring that if something goes wrong and you can't keep your promises, they will. If something goes wrong, they're basically filling in for you. The surety assures that the principal will fulfill their responsibilities, which is why it's called a "surety" bond.

Is a surety bond beneficial?

Surety bonds are a wonderful idea since they protect you both legally and financially. When dealing with a significant contract or deal with government agencies, you'll almost always require proof that your company is financially sound enough to meet its obligations. The best approach to ensure this demonstration of strength is to use surety bonds.

Many firms are concerned about what will happen if something goes wrong. Consider the case of a business owner who has a merchant account with their bank to accept credit cards. They believe everything is fine until they receive a letter from their bank alerting them that there has been a security breach and that, as a result, they are liable for any losses incurred by the bank because the breach occurred on their end. This tiny business is now considering bankruptcy because it can no longer afford all of the bills coming in from customers who do not have money in their accounts.

This is where a surety bond displays its worth, because the surety is burdened with all of these liabilities (the firm no longer has to pay for them), and they will terminate the bond, alerting you that you are no longer covered by this agreement.

What is the duration of a surety bond?

A surety bond might last anywhere from one year to five years, depending on the demands of the business owner. The shorter-term bonds are ideal for new enterprises that want immediate proof of strength due to an impending sale or deal that requires permission from a government agency (the city planning department, for example). If you want to save money on monthly filing fees and merely pay once a year,

Your credit report will not reflect a surety bond. Because they aren't loans, it doesn't matter how you paid them off or whether you paid them off at all; they won't show up on your credit report.

Is a surety bond a form of debt?

A surety bond is not a loan. You won't have to worry about paying back monthly installments or having your credit downgraded because it's not a loan. It won't appear on your report, and acquiring one will have no effect on your company's financial situation - this is how much banks trust you with their money!

A filing fee of roughly 2% of the entire amount protected under the agreement is charged when you purchase a surety bond. Let's assume you require $100k in coverage from a surety business, and they charge 1-2 percent as a fee to cover the surety bond (you'd spend anywhere between $2,000 and $4,000).

A surety bond demonstrates that you have the financial means to meet your obligations. If something goes wrong, it also protects you from third parties. Finally, it can keep you out of bankruptcy if something goes horribly wrong and you suffer a significant financial loss.

For a surety bond, what credit score do I need?

A strong credit score is required, but not necessarily a great one. You might be able to secure a bond even if you don't have a credit score at all, depending on the surety firm you choose. Many lenders may need that your company has been in operation for at least two years before considering approving a surety bond, but it's worth investigating what other restrictions the companies you're interested in may have to make the process go more smoothly.

Starting a new business or expanding an existing one can lead to the acquisition of a surety bond. Because it protects both parties from loss or financial disaster, a surety bond allows payments to be paid without risk of interruption. However, if everything goes well and there are no issues, banks may take a look at it after three years (depending on the situation and the amount of coverage you're seeking).

For example, if you wanted to borrow $5 million from a bank to construct a new building and have your surety bond accepted as collateral, you'd need an excellent credit score. If you're just starting out in business and simply require $100,000 in coverage, they may be satisfied with good or mediocre credit. In the end, having solid credit, but not necessarily exceptional credit, should not prevent you from obtaining one.

Check out Axcess Surety Bonds to know more!

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