Surety Bonds are often confused with insurance. In reality, the two products are very different. Learn more about the differences and similarities between these two products.
A Surety Bond is a three-party agreement that guarantees the performance, compliance or payment by one party to another party and that guarantee is backed by a third-party bond company.
An insurance policy is a two-party agreement where one party agrees to indemnity another for a covered loss in exchange for a premium payment.
From the definitions above, we see that surety bonds are a three-party arrangement. The surety bond company provides a guarantee to an Obligee in exchange for a premium payment from the Principal. If a loss occurs, it is the Obligee that receives the benefit and not the Principal.
On the other hand, insurance is a two-party agreement. The insurance company provides coverage directly to the insured in exchange for a premium payment. If a loss occurs, the insurance company pays the insured.
Another difference between surety bonds and insurance is the financial responsibility of the party purchasing the coverage. For surety bonds, the Principal must sign an Indemnity Agreement and reimburse the Surety Bond Company if a loss occurs. A surety bond loss can be financially devastating to the Principal. In these ways, surety bonds more closely resemble a credit product.
Insurance also has financial responsibility to the purchaser of the product. These are shared costs from deductibles and coinsurance. However, once a deductible and coinsurance has been met, the insured has no further financial liability. In fact, an insurance policy is purchased to prevent financial devastation to the policy owner.
Surety Bonds are similar to a credit product. Because the Principal on the Bond is expected to perform and reimburse the Surety Bond Company for all losses, the bond underwriter reviews a Principal’s financial strength, credit, track record and qualifications for completing the obligation. In fact, Surety Bonds are written on the assumption that losses will not occur at all. Bond Underwriters are tasked with not writing surety bonds for Principal’s who they feel are incapable of completing the guarantee.
Alternatively, insurance products are underwritten on the “Laws of Large Numbers”. It is expected that a certain dollar amount of losses will occur for the class of insurance the policy owner is purchasing. Underwriters closely look at what an insured is doing to mitigate and reduce those losses, along with their previous loss history to determine if the insured is a good risk and what their chances for losses are moving forward.
If a Surety Bond Company pays a loss on an account, they will almost always lose major money on the client. Alternatively, an insurance company expects to pay a certain dollar amount of losses on each client.
Since surety bonds are written with the assumption that a loss will not occur, they can be priced affordably. Surety Bonds usually cost 0.5% – 3% of the underlying obligation. Costs are based on the qualifications of the Principal, the type of obligation being bonded, and a Surety Bond Company’s filed rates. Surety Bonds would be an unaffordable product if they were priced like insurance.
Insurance is priced based on the expected losses of similar products in the industry. The insurance company then increases or decreases the price depending on how they believe the Policy Owner risk compares to the industry.
There are a couple of main reasons that surety bonds and insurance are often confused.
The biggest reason many parties confuse surety bonds and insurance is that the same broker often sells both policies. The same property and casualty license is required to sell both Surety Bonds and Insurance in all states. This is unfortunate as these are very different products and the education needed to be an expert in either field is completely different from the other.
Many brokers trying to make additional income over the years have proceeded to sell both products and are most likely not an expert at either. Giving bad advice, using wrong terminology and other mistakes by brokers has led to many people confusing the two.
Another reason for confusion in the two products is created because the companies writing surety bonds are often also insurance carriers. According to the Surety and Fidelity Association’s 2021 year-end results, 9 of the top 10 Surety Bond writers in the United States also write property and casualty insurance. Only Merchants Bonding Company made the top 10 and is not currently a writer of insurance products.
Having companies write both products has created confusion over the years. Customers see the same names on their surety bonds and insurance policies and believe they are similar products.
Fidelity Bonds protect against acts of dishonesty such as when an employee steals from the employer or an employer’s customer. At one time, these fidelity bonds were the only way to obtain this coverage. However, in recent years many insurance carriers have started offering insurance coverage for these exposures. These products can be interchangeable, but the insurance coverage is generally less expensive than fidelity bonds. However, higher limits may only be available through fidelity bonds.
Surety Bonds and Insurance should not be confused. Both are valuable ways to manage and minimize risk. However, failure to understand and distinguish the two products could cause a party to take unnecessary risks, and not get the protection they are hoping to receive. Contact the surety experts at Axcess anytime for any questions regarding surety bonds. You can also visit our Surety Bond FAQ Page and Learn Page for important topics and resources on surety bonds.
No. Surety Bonds and Insurance have different purposes, underwriting, costs and guarantees. However, the same companies and brokers often write both products.
No bonding generally refers to a surety bond that protects a third party against the Principal’s default on an obligation. Liability insurance protects the policy owner from amounts they may owe due to their negligence.
In this sense, bonded means protected by fidelity coverage which covers theft of money or property. Insured means covered by property casualty insurance such as General Liability and Workers Compensation.
Axcess Surety is the premier provider of surety bonds nationally. We work individuals and businesses across the country to provide the best surety bond programs at the best price.
