While there are many varieties, a surety bond is essentially an agreement between three parties–a principal, an obligee and a surety–assuring them all that something will happen. In general, surety bonds protect consumers and hiring parties, also known as the obligees, from fraud, abuse and penalties.
The most common surety bonds required in the U.S. fall under the license bond umbrella. These bonds are required to be filed with a federal, state or local business license to ensure that the bonded principal will comply with all rules and regulations mandated per their specific license.
In the construction industry, surety bonds guarantee that the principal, or the contractor hired to do a job, will perform the task as outlined in the official contract. If the principal does not, then the surety, pays the obligee money to get the job done and to cover any damages, penalties or other costs incurred. The principal then repays the surety for this claim.
For a more in depth explanation, visit our page titled “What is a surety bond?“.
Rates depend on multiple factors, including obligees’ risk preferences, applicants’ credit ratings and the type of bond required. For license and permit bonds, applicants with strong personal credit usually pay annual premium between 1% and 3% of the total bond amount. Applicants with higher personal risk or applying in higher-risk markets typically pay between 5% and 15%.
To learn more about bond prices, view our section on Surety Bond Cost.
First apply for one. Once your application is approved, your agent will let you know how much your bond premium will be and will give you an agreement with the bonding company. After you pay your premium and provide a signed copy of the agreement, you will receive your original bond along with a power of attorney from the surety. In most circumstances, the principal will be required to sign the original bond prior to filing it with the obligee.
For a more detailed explanation, view our section on The Bonding Process.
The length of time from application to issuance varies depending on the type of bond, promptness of premium payment and other factors. Most bonds are approved instantly upon completing our online application, and are generally issued one to two days after receipt of payment and a signed copy of the agreement.
Surety bonds and insurance are miles apart. Although both require premium payment, the similarities end there. Insurance premiums are payments that help transfer a certain amount of risk and responsibility to the insurance firm. The insurer then pays a given percentage of any damages or losses incurred by the insured person. The idea behind insurance is to protect the person who buys it from suffering unduly for mishaps that, while regrettable, are usually inevitable in everyday life.
Surety bonds, on the other hand, aim first to shield the obligee–not the bond buyer. While bonds do provide principals extra time to pay off claims if needed, they mostly give principals an incentive not to have mishaps or claims in the first place. Premiums for surety bonds are more like service charges; the principal is still responsible for paying the full amount of the claim as well as the bond premium.
For more information on the topic, read our section titled “Surety Bonds vs Insurance“.
Bond companies are not all created equal. Some will only consider bonding strong applicants with stellar personal credit, while others offer high risk bond programs designed to help just about anyone become bonded. Before taking the time to apply, applicants should consider whether or not a bond company will meet their needs and be an acceptable surety for the obligee. Our agency only works with bond companies that have A-Rated AM Best Ratings or better, and are approved with the U.S. Department of Treasury to write federal bonds. This is how we can guarantee that a bond written through one of our sureties will be accepted.
To find out what you need to know about bond companies, read our Bonding Company Guide.
First and foremost, you will need a surety bond when the customer demands it. When contracting with the government or even a private company or citizen, this entity will require any contractors to buy a surety bond before work can begin. This is because the surety bond assures them that you will honor your contract and provides penalties if you don’t. In short, surety bonds protect customers, and they will only work with people who provide this protection.
Surety bonds also have many attractive features. Principals seldom have to put up collateral, leaving capital available for investment. The interest earned usually outweighs the amount paid for the bond premiums.
The principal buys a surety bond from the surety and pays a premium, or a percentage of the bond sum. In return, the surety extends the principal surety credit, essentially telling the obligee that this project is guaranteed to work out, whether done with this particular contractor or not, at no extra cost. The principal then follows the terms of the bond to finish the project; if no claims arise the principal pays nothing but the bond premium.
A false misconception about surety bonds is that they are a form of insurance. Surety bonds are instead a form of credit whereby principals are required to provide payment for claims. The primary benefit of obtaining a surety bond is that they will rarely require the principal to provide collateral, which can act to free up capital. Payments made by principals for bond premiums are usually less than the principal could earn if they were to make conservative investments with the capital made available. This makes surety bonds more attractive than alternatives such as posting cash or obtaining a letter of credit.
Yes. However, payments for the renewed bond are usually invoiced and due months before the original bond expires. Check the terms of your specific bond agreement to see when bonds expire and may be cancelled. Be sure to pay your renewal premium by the specified due date to avoid cancelation.
The principal is the person who applies for and buys the bond. In general, these are contractors and other business owners hired to do work, or required to be licensed.
The obligee is the entity–usually a governmental department–that is requiring the guarantee of a surety bond.
The surety is the institution who financially backs the deal, assuring the obligee that work will be done properly, or that the principal will comply with the terms of their license.
In essence, contract bonds only ensure that work will be completed. They are almost exclusively used for construction contracts, while a wide variety of license bonds–including those that cover car dealerships, freight brokers and health clubs–simply make sure practitioners uphold federal and local laws that protect the consumer from physical and financial harm. As the name implies, no specific contracts for work are signed or needed with license bonds.