For contractors and business owners in a wide range of industries, surety bonds are an unavoidable part of operating their organization. However, that doesn’t mean they are forced to take on high-cost bonds which can cost hundreds or thousands of dollars more than what is necessary. The key to securing low-rate surety bonds is being informed about the process and knowing what is taken into account when determining your cost. Here are a few things to be aware of before you approach a surety company looking for a bond:
1. Check your credit
The first thing any surety company will do when you walk through the door is run a credit check on you and/or your company. Just like having a good credit rating can get you lower interest rates on car loans, they can also get your company lower costs for bonds. Before applying for a surety bond, check your credit and make sure everything is correct and up-to-date. One or two bad marks can deliver a serious blow to your overall rating. Fortunately, reporting errors or mistakes can generally be cleared up with just a few phone calls.
2. Balance your books
A large part of bonding consideration, especially when it comes to contract bonds, lies in whether or not your company has the capital necessary to complete a job. Have your in-house accountant comb through your company’s financials to make sure you actually have sufficient funds to see the contract through. If necessary, free up capital by selling off investments to keep a majority of funds liquid and easily accessible. Following responsible accounting practices at all times will ensure that you are able to present an accurate picture of your company’s assets to a bonding company.
3. Toot your horn
Having a well-established network of references and contacts can go a long way to getting you a lower bond rate. The amount of experience a company has in the industry where they are seeking work weighs into their overall credibility and reliability to carry out the contract. To apply for a bond, ensure you have proof of previous work which has been completed satisfactorily.
4. Make your choice
Different bonds come with different rules and regulations associated with them. The sheer number of different bond types can be overwhelming, so consult a professional to ensure you are applying for the bond best suited to your company. In many industries there are well-established standards for the kind of bond necessary, but new business owners may need a unique bond specially-tailored for their operation.
5. Read your rules
Bonding guidelines can vary widely by state, but some basic online research should give you a good overview of what you are required to obtain. Unfortunately, you don’t get brownie points for securing a surety bond worth more than your state’s required minimum amount. Save yourself additional costs by knowing the exact amount of bonding you need to operate in your state and locality. You can find this information online or call your state’s licensing board for details.
HB 369: Insurance Code Definitions
This act revises the Insurance Code. This will create separate definitions for surety and fidelity as lines of insurance. Previous law defined fidelity and surety as one line of insurance.
On a national and global scale, more and more vehicles are being purchased and driven than ever before. With the ever increasing amount of vehicle owners on the road, both the value of new and used cars, and the risks associated with car buying have increased alongside. It goes without saying that as more vehicles are being sold at higher prices than ever before, opportunities have arisen and been exploited by dishonest motor vehicle dealers around the country that have sought to take advantage of customers.
Whether it be a used-car dealer masking a vehicle defect from a customer, or a new vehicle dealer taking advantage of car buyers via overly excessive prices, threats certainly exist for today’s new and used car buyers. Additionally, the growing number of “chop shops”(garages that illegally modify/resell stolen vehicles) nationwide is additional cause for concern. While these types of instances are clearly the minority, unfortunately it’s always the corrupt few that cause the greater masses of honest business owners to endure necessary control measures.
How can these threats be mitigated?
Amidst this growing threat to consumers, states and municipalities have responded with new, stricter laws governing the sale of automobiles (new and used). Such laws have been designed to protect consumers from misrepresentation and fraudulent activity by auto dealers. As is the case with many other commercial bonds, these laws require motor vehicle dealers to become licensed in their state of operation and also to obtain either a used car dealer bond or a motor vehicle bond (also known as an auto dealer bond) in order to ensure they comply with the applicable laws.
What exactly does a motor vehicle dealer bond guarantee?
As you’d likely infer, the state or municipality requiring the surety bond is the obligee, while the vehicle dealer is the principal. These types of surety bonds guarantee that new and used vehicle dealers will provide purchasers of vehicles with a clear title to the vehicle, and that dealers will not partake in fraudulent activities that could mislead or deceive customers. These guarantees apply to not only the auto dealers but their sales force as well.
In each of the 50 states, individuals who sell or serve as brokers for the sale of real estate are required to obtain both the pertinent licenses and real estate agent bonds and/or real estate broker bonds in order to legally conduct business. For these types of surety bonds, the respective state is the obligee (entity requiring the surety bond), while the real estate agent or broker becomes the principal by the nature of them being required to post the bond.
What exactly do they guarantee?
States require these surety bonds in order to guarantee that real estate agents and brokers will abide by all applicable laws governing real estate sales. They also guarantee that agents and brokers will correctly account for and remit money held in trust for their customers. Furthermore, real estate agents and brokers bonds provide protection for the public against any misrepresentation or fraud attempts.
Are real estate agent and broker bonds written freely?
While real estate agent bonds and real estate broker bonds are written frequently, underwriters do apply necessary scrutiny when writing these types of surety bonds. As with most bond types, underwriters are required to conduct a thorough review of both the applicant’s business and personal financial statements. They also take a look at the agent or broker’s business experience, their reputation with their local real estate board, and their procedures for handling and account for customer funds.
Mortgage broker bonds, mortgage banker bonds and mortgage lender bonds are all obviously closely related to one another in that they all provide some sort of guarantee for the performance on a person or entity involved in a mortgage loan. Often times the same (or very similar) bond form may be used for each of these types. However, they differ in who and what exactly they guarantee. These commercial surety bonds are actually named after the principal of each bond. For example, the principal for a mortgage broker bond is the mortgage broker required to obtain the surety bond.
Mortgage brokers submit mortgage loan applications on behalf of their customers to individual banks and lenders, and then assemble loan costs and escrow funds to submit to banks and lenders they’ve opted to do business with. Mortgage bankers and lenders offer mortgage loans and various other forms of secured as well as unsecured loans.
Subsequently, each of the 50 states require that these businesses (mortgage brokers, mortgage bankers and mortgage lenders) obtain necessary licenses to conduct business in that state, and also that they post either a mortgage broker bond, mortgage banker bond or a mortgage lender bond. These surety bonds are required by the state, which for these bond types happens to be the obligee for the bond, of the respective principal (mortgage broker, banker or lender) in order to guarantee that the principal will follow all applicable state laws pertaining their specific industry, and also that the principal properly accounts for and remits funds received from customers. These surety bonds also protect the public from any form of fraud or misrepresentation by the bond’s principal, while allowing the state to keep a hold-harmless agreement for any such misconduct.
There are numerous types of surety bonds that fall under the license and permit bond category, and they can come with a wide variety of guarantees. Below is a list of the primary classifications for guarantees that accompany different types of license and permit bonds.
Compliance-only Bonds: These types of surety bonds guarantee that principals will be in compliance with all pertinent laws for a specific activity or business.
Compliance bonds with third-party liability: Similar to compliance-only bonds, these types of license and permit bonds guarantee that the principal will comply with the laws pertaining to the activity they are licensed for. However, they also come with a guarantee that the surety will pay damages to any third-party group or individual that happens to suffer from any losses incurred due to non-compliance by the principal.
Forfeiture Bonds: When dealing with this classification of license and permit bond, a surety must forfeit the entire amount of the surety bond in the unfortunate event that the principal does not complete a project per the terms of the contract, or is otherwise found to be non-compliant. What makes this different from many other guarantees, is that instead of simply paying for damages incurred as a result of a contract violation the surety must forfeit the entire amount of the surety bond. This is common for license and permit bonds that come with a financial guarantee.
Tax or Fee Bonds: This type of license and permit bond guarantees that the principal will both properly account for and remit taxes and fees collected through the their business operations. Common examples are liquor tax bonds, fuel tax bonds, and sales tax bonds.
Merchandising and Dealer Bonds: Simply put, this classification of license and permit bond guarantees that a principal partaking in merchandising activities will comply with all applicable laws and regulations. Essentially, they act to deter fraudulent practices or misrepresentation by a principal, and provide the necessary protection for the public. A common example would be an auto dealer bond, which protects the public from fraudulent practices by a motor vehicle dealer.
Reclamation and Environmental Protection Bonds: These types of surety bonds guarantee that any land altered or damaged during the course of business operations by a principal will be fully restored to its original state upon completion of work. Details on what specific restoration must take place should be included in the permit filing, and often times can include actions such as planting grass seed, replacing topsoil, etc. In regards to the environmental protection guarantee, principals must promptly clean up any spillage or runoff that could unintentionally pollute local land or water in the vicinity of the principals operation.
For more information, see our section on License and Permit Bonds.
If you don’t know what to look for, purchasing a surety bond can appear to be a challenging process. There are numerous surety bond companies and bond agents around the country to choose from, so I have provided four things for customers to consider that will help them find the bond that is right for them.
Total Cost of the Bond
The annual total cost of the surety bond to the customer is a very significant factor to look at when shopping for a bond. While this is definitely not the only element that should be considered, it is typically the first place most people look for. This should include premium rates from the surety bond companies as well as the bond agents you purchase them through. All else being equal, customers should look to buy bonds that take the least amount of their hard-earned money as possible. However, as you’ll see below, when it comes to the surety bond industry, all is else is not always equal. Bond companies as well as agencies that represent them can vary greatly.
Quality Customer Service
The level and quality of customer service provided by a bond agent is of particular importance and should not be overlooked, particularly for customers that plan on renewing their bonds. You want to look for skilled agents that can quickly turn bonds and get them to the customers that need them in timely, efficient manner.
Turnaround time is especially important for customers attempting to purchase contract bonds. The most successful agents are those that truly lookout for the best interests of their customers and work to develop lasting business relationships. Such a relationship with a trusted, knowledgeable agent will benefit both parties and can provide principals (customers) with valuable business advice.
Conduct Background Checks
While bond companies and agents will conduct financial/credit checks on you, the customer, you too have the ability to conduct background checks on prospective sureties. You can do so by looking up the company on a database known as the Federal Treasury List. All sureties are given annual ratings by a number of organizations. Based on the documents they are required to submit, the sureties are assigned a letter grade. This letter grade is updated annually, and should be easily accessible to all who would like to find it. It should be attainable from surety bond agents, because they represent the sureties to prospective customers. Additionally, customers may want to consider how much experience a prospective agency has in the industry in which their specific bond type falls under, because it can possibly expedite the process and help you get exactly what you need.
Ease of Renewal Process
Another factor that may not jump out at customers at the beginning of the surety bond purchasing process is the ease of the renewal process. It goes without saying that this should be of significant importance for customers that know they’ll need to renew their bonds in the coming years. Requirements for the renewal of a bond may vary between different companies and agencies. Customers may want to find out how often they will be required to provide updated financial statements to their agents, such as balance sheets, income statements, statements of cash flow, as well as credit reports. Requirements established in writing by sureties and agents must be met by principals in order to prevent termination of a needed surety bond.
While the aforementioned factors are not the only things to consider when shopping for a surety bond, they will definitely help steer you in the right direction, and should help customers find the right bond from the right company and agency.
Today, a majority of surety bonds are purchased by principals through surety bond producers, also referred to as surety bond agents. This does not only pertain to contract bonds, but all other surety bonds to include the numerous commercial bonds available, as well as court bonds. Surety bond producers serve as middlemen between those in need of bonds, and the deep-pocketed surety bond and insurance companies. Top bond agents are knowledgeable about the surety bond industry, and the industries in which they provide bond service, such as the construction industry. Many work as part of bond agencies that focus on suretyship, but can also be a part of certain insurance agencies that have surety departments. The best, most professional surety bond producers have well-established relationships with multiple surety bond companies. This allows the agents to help find their customers (principals) the surety company that is the best fit for their particular needs.
When it comes to the construction business, surety bond producers not only help contractors obtain their required surety bonds, but they also can provide additional business advice, technical expertise, and managerial consulting. A good surety bond producer can become part of a contractor’s support network, providing invaluable bonding advice for the short and long term.
At first glance, some people may assume that mortgage bonds (mortgage banker bonds, and mortgage broker bonds) are all the same. While there are some similarities between the two types of commercial bonds mentioned above, there are also some clear differences which this article will outline.
Mortgage Banker vs. Mortgage Broker: Most surety bond companies classify mortgage banker and mortgage broker bonds in a similar fashion, but there are some operational elements to each that differentiate the two. Mortgage brokers serve as a “middleman” by bringing principals together with banks that end up loaning qualified principals funds. Mortgage bankers (also referred to as mortgage lenders) are the entities that actually lend money to the principals, and they act as both the banker and broker for the loan. Understanding the difference between a mortgage broker and a mortgage banker (or lender) is the first step toward understanding similarities and differences between mortgage broker and banker bonds.
Bond Amounts: Perhaps the most obvious difference between the two types of bonds lies in the amounts in which they are commonly written for. Mortgage banker bonds are typically much larger, or written for much more money, than mortgage broker bonds are, and can be two to three times the size of mortgage broker bonds. Therefore, qualifying for mortgage banker bonds can be much more challenging for a prospective principal.
Bond Forms: Every state will have a separate bond form for mortgage banker and broker bonds, which will spell out exactly that the specific bond guarantees. The bond forms may differ depending on the language of each state. While any given state’s bond forms for each type may appear similar, it is important to carefully read the bond form, or work with a knowledgeable bond agent, to ensure you understand exactly what is being guaranteed.
Similar Risk for Mortgage Bankers and Brokers: Contrary to popular belief mortgage banker and mortgage broker bonds both have very similar risk factors. Seeing that the bond amounts for mortgage banker bonds are on average significantly higher than those of mortgage broker bonds, most people would think that mortgage bankers face more risk, however that assumption is not necessarily accurate. While the nature of a mortgage banker’s job makes the risk they face obvious to most, the many challenges mortgage brokers face seem to level the playing field when it comes to risk. Recent studies have further proven that the claims ratios for both types of bonds are comparable.
While there are some similarities between Surety Bonds and an Irrevocable Line of Credit (ILOC), there are some significant differences that make surety bonds more cost-efficient and beneficial to prospective customers. This article will briefly explain surety bonds and ILOCs are, how they work, and what makes them different from one another. After reading this article, you will understand the benefits to posting a surety bond, and will be able to see how they can actually save you money.
What is a Surety Bond?
Surety Bonds are three-party agreements involving the surety (bonding company), obligee and principal. (Note: Surety Bond Producers are also involved to facilitate the process, and find the best rates for customers.) Basically, an obligee is requiring a principal to purchase a surety bond in order to guarantee that they will perform per the terms of a contract or agreement. By paying a premium for a bond, which is typically 1-3% the bond amount, the principal purchases the financial backing from deep pockets of the surety bond company. Collateral is only required from the principal in unique, very high risk situations where the likelihood of a claim is increased. Even in these circumstances, the surety will often accept an increased premium over the need for collateral.
What is an Irrevocable Line of Credit (ILOC)?
An Irrevocable Line of Credit is also a guarantee of performance, but it is handled differently than a surety bond. An ILOC is a letter of credit issued to an obligee to guarantee that the principal will perform, but in creating this letter of credit, the bank freezes the principal’s liquid assets in the total amount of the ILOC. Since this amount of funds is frozen by the bank, the principal cannot access it until the bank releases the line of credit. If a claim arises, the obligee is able to use the letter of credit to access the funds held by the ILOC. Obtaining an ILOC can be tough for principals that truly value their liquidity.
Comparing the Costs
While at first glance, the premium rates and service fees for a surety bond may make it appear to be more expensive than an ILOC, potential customers look at the whole picture before coming to such a determination. When you consider the long run, surety bonds usually end up being less expensive than ILOCs and can help principals save money. While service fees for an ILOC (roughly 1% the amount of the ILOC) are typically lower than premiums bond rates for a surety bond (roughly 1-3% the bond amount), purchases of an ILOC have a bank freeze cash assets for the total amount of the ILOC. Customers that purchase surety bonds typically do not have a collateral requirement, and experience much more liquidity. They are able to invest the freed up assets and make money by doing so. In a money market account, for example, the principal could earn 3-4% on dividends, vice having their cash made off-limits to them. This is a clear illustration of how surety bonds can save you money when compared to an ILOC.
Conclusion: Surety Bonds are often the Better Option!
For those who qualify, surety bonds are more often than not the best choice for prospective principals for numerous reasons. As you can see, in the long run they usually end up being cheaper than ILOCs. Not having to put down collateral for a bond allows customers to invest their capital, which would not be the case for those who purchase ILOCs. Being more liquid provides increased flexibility in day-to-day operations. Customers deciding between a surety bond and ILOC must make themselves informed of the different options available to them, and by doing their homework, and not just looking at premium rates and service fees, they will see that surety bonds can be much more beneficial to their company.
Over the past decade, the surety bond industry has seen some significant changes that have changed the industry landscape, particularly when it comes to high risk bond programs. Companies that were dropped by their bond companies as a result of bad credit, etc, have been forced to find new bond agents in order to help them attain new surety bonds. This created a slew of challenges for agents, as they now have to find markets for these customers with credit problems, and will typically require significant collateral in order to write a bond for someone with bad credit. To serve these types of principals, Bad Credit Surety Bond Programs came into play.
High Risk = Higher Premium: Before there were high risk bond programs, underwriters of surety bonds would only write bonds for customers (or principals) that presented little to no risk of having a claim arise against them. In other words, they went after a “0% loss ratio”, and the bond companies were in a position to do so. With Bad Credit Surety Bond Programs, the underwriters of bonds are able and willing to write bonds for principals that are higher risk (of having a claim), and can do this by approving them at higher premiums. Similar to insurance companies, surety bond underwriters can approve a wider array of customers, but approval for those more likely of having a claim is obviously comes at a cost to the principal… higher rates.
Collateral vs. Increased Premiums: Early on in the process, Bad Credit Surety Bond Programs brought about a need for bond companies to require collateral from principals. This tends to be a cumbersome, time-consuming process that involves a lot of administrative effort, and therefore many bond companies decided to avoid the collateral requirement by offering higher premium rates to their principals. Customer preference depended on the specific principal’s financial situation. Typically, however, the bond programs that offered higher premiums vice collateral were less expensive for the first year of the bond, but over time those that required collateral proved to be less expensive. This was due to the fact that the collateral would eventually be returned to the customer (roughly a year after the bond’s release) if no claims arose.
Knowing Your Options: It is important for principals with bad credit to understand what all of their options are. While many Bad Credit Surety Bond Programs are designed to meet the needs of customers with poor credit, and often times prove to be the most cost-effective option, they are the only option available. For example, an Irrevocable Line of Credit (ILOC) is an alternative whereby the bank will freeze liquid assets of a principal in an amount equal to the total amount of the surety bond they would need to purchase. This would only be more preferable for principals with enough liquid assets to comfortably have the amount of the ILOC frozen by a bank. For customers that truly value their liquidity, and ability to quickly have cash on hand, an ILOC is probably not a viable option. While ILOCs have traditionally had services of around 1% the cost of the line of credit, the money market rate will have an impact on that as well, and can significantly raise the annual rate of the ILOC for the customer. For example, if the money market rate is 5%, and the service fee for the LOC is just 1%, the actual annual rate the principal pays for the ILOC is 6%. Customers must understand the choices available to them, and should choose the option that best fits their specific needs.
Outlook: High Risk Surety Bond Programs have been around for more than 5 years now, and it does not appear that they are going anywhere in the foreseeable future. More and more companies are willing to write surety bonds for principals with bad credits, and those that carry some sort of risk of having a claim arise. While increased premiums are part of what makes bonding companies willing to do this, the increasing number of bonding companies writing high risk has created competition. Competition is obviously a good thing for the customers, in this case the principals with bad credit, because it will eventually drive premium rates down, making Bad Credit Surety Bonds more affordable.
Like many industries in our economy, theU.S.construction market has taken a hit as a result of the recent credit crisis. Many constructions projects throughout the country have either stopped or been slowed down, and subsequently, the construction bond portion of the surety bond market has seen changes as well. Specifically, perhaps the greatest change to the construction bond market is the level with which underwriters of surety bonds apply scrutinize the cash flow, or financial health, of contractors seeking surety bonds for their businesses.
It’s important to understand why this additional scrutiny is being placed on the contractors’ cash flow by underwriters, because this is happening despite expectations by brokers that rates will be stable for the near future. However, theU.S.construction market’s recent decline forced related insurance rates (premiums) to fall during the second quarter of this year, which was the first quarterly drop in insurance premiums in the past few years. Additionally, the current market situation has caused a major increase in competition for construction jobs/projects nationwide. Construction companies are forced to lower their prices to get much needed jobs, and therefore their profits (profit margins) are naturally going to take a hit. This makes accurate, efficient management of companies’ financial statements essential to their financial well-being, and possibly to the survival of the business. In particular, proper management of the balance sheet, and the statement of cash flows (SCF) is crucial to a construction companies’ success, because often times they can work for up to a couple of months on a project before they begin receiving cash from customers. Constructions expenses and payroll can add up quickly in this environment, and therefore cash flow is vital. Underwriters of surety bonds understand this, which is why they are taking a close look at contractors’ cash flow.
On 1 July 2009, California State Assembly Bill 180 will become operative, and will set forth tighter laws governing the state’s Foreclosure Consultants.
AB 180 allows homeowners the right to cancel on a contract up to 5 business days, as opposed to 3 business days, as was previously the case, and also makes delivery of a cancellation notice easier than before. Furthermore, the bill prevents foreclosure consultants from getting a power of attorney from the homeowner, regardless of the purpose.
In July 2009, upon becoming operative, the bill will require allCaliforniaforeclosure consultants to register with the Department of Justice, and also to purchase a $100,000 surety bond (commercial bond) in order to guarantee they all foreclosure consultants follow state law. The Department of Justice will then have proper oversight of the foreclosure consultants throughout the state of CA. The surety bond requirement was put in place to benefit/protect homeowners.
We recently posted an article on the two major categories of surety bonds: Contract Bonds and Commercial Bonds. However, another less common yet significant category of surety bonds are Court Bonds. While this category of bond does not make up as much of the surety bond market as the previously mentioned categories, it is important to understand what they are, and the primary types of surety bonds that fall under court bonds.
In a nutshell, court bonds are a form of surety bonds that are required in many court proceeding in order to allow litigants to engage in the requisite legal proceedings. They can ensure that a person has the necessary protection from possible loss that could come about as a result of courts outcome. Court bonds can also guarantee that a person assigned as a fiduciary carries out his/her duties in accordance with the terms of an agreement or the orders of the court.
Here are the most common types of Court Bonds:
- Appeal Bonds - Required by a court before any appeal is made.
- Guardianship Bonds - These types of bonds ensure that legal guardians of minors or incapacitated individuals will not misuse any funds that are supposed to utilized to support that individual. (also known as Custodian Bonds)
- Probate Bonds - Bonds that are required by the court to guarantee the proper distribution of assets by the executor of an estate whenever an person passes away or becomes incapacitate. (also referred to as Estate Bonds, Executor Bonds, and/or Fiduciary Bonds)
For many new to the surety bonds industry, the renewal process can difficult to initially grasp. The purpose of this post is to shed light on the timing of renewal payments in order to prevent unnecessary confusion. Typically, invoices for renewals of surety bonds are sent to the principal months before their surety bond expires. Additionally, payments are due months prior to the bond expiration date as well. While some principals may prefer to hold off on paying for a renewal until the day the bond expires, that is not how the process works.
The language of surety bonds requires bonding companies to collect renewal premium payments well before bond expiration. For instance, each surety bond will have a “cancellation clause” that specifically states how much advance notice bonding companies are required to give principal and obligee prior to the bond’s expiration date. Most cancellation clauses require notification to be delivered in writing either 30, 60 or 90s prior to expiration. Hence, cancellation clauses must be considered when determining when payment for renewals will be due to the bonding companies, which as I previously stated can be a few months out (prior to bond expiration).
To understand surety bonds, and how they work, it is best to start off by breaking them down into larger groups or categories. There are two major categories of surety bonds: Contract and Commercial Bonds. In this article, I will briefly explain what each of the previously listed bond types guarantees, and will also provide you with a few examples of each.
The first category of bonds I will discuss are contract bonds. Contract Bonds are purchased by a contractor (or principal) from a surety at the request of a project owner (obligee), and essentially provide obligee with assurance that the principal will perform in accordance with the terms of the contract (i.e. complete the work, pay subcontractors, material suppliers, etc.).
Examples of Contract Bonds:
- Bid Bonds – Bonds that guarantee that a contractor will enter into a contract at the amount bid and post the appropriate performance bonds.
- Construction Bonds – These are bonds designed to guarantee the performance of obligations under a construction contract.
- Payment Bonds – These bonds guarantee payment of the contractor’s obligation under the contract for subcontractors, laborers and materials suppliers associated with the project.
- Performance Bonds – Guarantee performance of the terms of a contract by a contractor.
- Site Improvement Bonds – These bonds guarantee that any public property that was disturbed or altered during the conduct of a private project will be completely restored upom completion of the project.
- Subdivision Bonds – May be required by local government to ensure that landowners follow-through and complete mandatory public improvements made to their property by builders.
The next category of bonds we will cover are commercial bonds. There are litterally hundreds of different types of Commercial Bonds, which guarantee the obligee that the principal (purchaser of the bond) will perform per the terms outlined on their specific license, etc. The obligee for this type of bond is typically some sort of government entity.
Some examples of the many types of Commercial Bonds are:
- ARC Bonds – Required by the Airlines Report Commission.
- Auto Dealer Bonds – Bonds required by each state to ensure auto dealers abide by state regulations.
- Broker Bonds – The different types of Broker Bonds available are Freight Broker, Insurance Broker and Mortgage Broker Bonds.
- Cigarette Tax Bonds – Cigarette distributors may be required to obtain this type of bond to ensure payment of taxes.
- Collection Agency Bonds – Bonds required by a governing body to ensure collection agencies operate within rules and regulations.
- Freight Broker Bonds (BMC-84) – These federally-mandated bonds must be obtained by freight brokers to ensure delivery of brokered goods.
- License & Permit Bonds (not listed) – Due to the very high number of bonds nation-wide that fall under this category, this link will provide general information on license & permit bonds.
- Liquor Tax Bonds – Bonds required to guarantee the payment of taxes collected on liquor and other alcoholic beverage sales.
- Mortgage Broker Bonds – Bonds that are required by many states to ensure that mortgage brokers operate in accordance with all pertinent rules and regulations of that particular state.
- Sales Tax Bonds – Required by the government to ensure timely payment of sales tax by a company.
- Telemarketing Bonds – These types of bonds are required by the state to ensure that telemarketers, or phone solicitors, follow all rules and regulations set forth by that particular state in the conduct of their solicitation.
Contract and Commercial Bonds can also each further broken-down into many more sub-categories (i.e. A License & Permit Bond is a sub-category of Commercial Bonds), and some of these sub-categories can have numerous different types themselves. Each and every sub-category of surety bond is underwritten differently by the surety bond companies, and there may also be different application requirements for each types as well.
Today, most surety bond consultant firms focus significant effort towards internet sales and marketing. While the development of the internet has made the sale of certain bonds such as commercial bonds much easier, it has not been a major source of new business for all bond types. For instance, construction performance bonds, which generate some of the highest premiums of all surety bonds, have seen relatively small increases in new business generation via the internet, industry wide. To understand the significant difference in internet-based sales volume between commercial surety bonds and construction performance bonds we can look to three reasons:
1. Geographical location
2. Complex underwriting
3. Difficulty adjusting to new ways of doing business
Geographical location: When dealing with a construction performance bond, some sureties may have difficulty providing significant financial backing to a contractor (principal) and is not geographically close to their bond agent.
Complex underwriting: The paperwork involved in writing a construction performance bond (contract bond) can be much more time-consuming and complex than some of the commercial bonds out there.
Difficulty adjusting to new ways of doing business: We’ve all heard the saying “you can’t teach an old dog new tricks.” Historically, most people that have been purchasing construction performance bonds are used to getting such surety bonds from their insurance company. Since that is “the way they’ve always done it”, many people/businesses find it hard to change.
The internet is clearly not just a fad. It is here to stay and be around for the foreseeable future. As more and more people use the internet, internet sales will continue to rapidly grow, and this will most certainly include the sale of construction performance bonds. In today’s high-tech world, sureties will need to stay at the cutting edge. Today, an increasing number of sureties are allowing bond agents to write surety bonds in each and every state in which they are licensed to do so. In an attempt to expedite the often cumbersome, time-consuming underwriting process, many companies are expanding their capacity. Finally, many contractors are beginning to realize that while purchasing a surety bond from the same company that provides them insurance may seem like an efficient way to operate, that is often times not the case. Many of these insurance agents do not have the breadth of knowledge that a surety bond agent can provide them, nor can they match the premiums. As more and more contractors come to this realization most will look to the internet to help them find the surety bond agency that is right for them.
If you’re like most people, you probably have no clue what a “surety bond” is. There are a lot of people out there that may have been required to purchase a surety bond, or currently have one, but still do not completely understand what it is or why they were required to purchase the bond.
So why are people required to purchase surety bonds?
The simple answer is that you (the principal) would like to do work with someone, or some government entity, that is requiring you to purchase a surety bond (the obligee). However, WHY is the obligee making you obtain the surety bond? The answer to this question will vary depending on the type of business you are involved in, and the specific type of surety bond you are required to purchase. There are literally dozens of different types of surety bonds, but for simplicity we can break them down into three major categories: Commercial Bonds, Contract Bonds, and Court Bonds. Commercial bonds are required to cover the person the principal is doing with work, known as the obligee. Contract bonds are a means to ensure that the principal will complete the work for the obligee per the terms of their signed agreement. The last category of surety bonds, court bonds, can be required by the obligee for numerous different reasons. Guardianship bonds, a type of court bond, are in existence to guarantee that a guardian acts in the best interest of the minor and/or incapacitate person who they are responsible for. Another type of court bond, appeal bonds, are required to ensure that someone found guilty in a court of law does not flee from authorities. And the list goes on…
As you can see, different surety bond types are required for numerous reasons. If need to purchase a surety bond, and would like to know more about what it is and why you are required to obtain the bond the best thing you can do is take a close look at the blank bond form for that specific surety bond to find out what exactly it is guaranteeing. These forms will provide detailed information for each bond type. The previous paragraph only provides general information on the three major surety bond categories.
A “surety bond” is a three-party agreement between the following people or entities:
The principal is the person who is trying to purchase the bond. The obligee is the person or entity that requires the principal to purchase a surety bond. Lastly, the surety is the carrier that financially backs the guarantee.
While the principal is required pay a bond premium to purchase the surety bond, they do NOT receive financial support from the surety in the event that claim arises. The surety bond itself covers the obligee, or in other words the client of the principal. To further understand this concept, I’ll use a real world example. Let’s say a construction company (the principal) is hired to build a structure for someone (the obligee). If for whatever reason the construction company wasn’t able to finish the job, a claim would arise on their surety bond. In this case, the person/entity that hired the construction company to do the work would receive money to pay someone else (another construction company) to complete the work. The surety would then require the principal to provide the requisite payment for the claim in addition to any legal costs that may arise.
Not everyone that applies for a surety bond will be qualified for one, because underwriters do not want to write bonds in cases where the possibility of a claim arising is highly likely. This is something that differentiates surety bonds from insurance. When dealing with customers, insurance companies come up with premiums/rates assuming that claims will take place in the future, and therefore their rates are adjusted based on the likelihood of such losses actually occurring.
With insurance, a person is required to pay an insurance premium to their insurance company which essentially transfers most (if not all) risk from the individual purchasing the insurance to the insurance company. The only similarity between insurance and a surety bond is the payment of a premium, because when a person pays a bond premium for a surety bond they (the principal) do not transfer risk to the surety, and instead the payment of claims will fall on the principal’s shoulders. When dealing with surety bonds, the protection goes to the person or entity that requires the principal to purchase the bond (the obligee).
When dealing with losses, insurance companies typically expect to make payment for a certain percentage of a given claim. However, surety companies do not expect to make such payments on claims, and instead treat the premiums paid for surety bonds as service charges. The premiums essentially authorize the principal to use the surety’s deep pockets for financial backing, which provide the required guarantee.