What Role Do Surety Bonds Play in Construction?

As a business owner, one of the investments you have to make is getting the insurance coverage to protect your business, yourself, and the people who work for you. Deciding on the type of coverage needed depends mostly on the kind of business you operate. Let’s dive deeper into the specific need for surety bonds in the construction industry.

The role of surety bonds in construction

Due to the inherent risks in operating a construction business, contractors are typically required to be “bonded,” especially when bidding for large private projects. A surety bond is a statutory requirement when bidding for government projects. It ensures the legitimacy of bidders and eliminates unqualified ones.

A surety bond is not your usual insurance policy. It provides support to the contractor and ensures project completion. It also aids in the contractor prequalification process, payment protection for subcontractors, and project completion protection to the public. NM Surety Bonds is an excellent example of how surety bonds serve the construction industry.

A surety bond is a three-party contract entered into by the surety, principal (the contractor), and obligee (the project owner). Sureties perform an in-depth review of the contractor’s business operations as part of the prequalification process. This ensures that the construction industry meets the required levels of quality and helps minimize the risk for project owners.

The surety company presents the following criteria for contractors:

  • Must have a good reputation
  • With the ability to meet current and future obligations
  • Experience to fulfill contract requirements
  • Has the necessary equipment to perform the work or the capability to obtain them
  • Exhibit financial ability to support the work
  • Excellent credit history
  • Possess strong bank relationship and line of credit

Types of Surety Construction Bonds

Below are the most common types of construction bonds. Choose one that best suits your company’s needs.

Bid bonds

Bid bonds are a written assurance from the guarantor, usually a bank or an insurance company. It is submitted to the customer (also known as the principal) to ensure that the bidder (or contractor) will enter into the contract and perform the terms of the contract. To be more competitive when bidding for a project, it is vital for a construction company to submit bid bonds. This is a must when bidding for government projects.

The bid bond will have to be replaced by the performance bond once the bid has been awarded and the contract is underway, which brings us to the next point.

Performance bonds

Performance bonds protect the owner from financial loss in case of a contractor’s inability to fulfill the contract. Similar to the bid bonds, this is issued by a bank or insurance company. The crucial condition is the provision for investment or collateral property to serve as backup for the surety.

Payment bonds

Payment bonds stipulate the contractor’s obligation to uphold the terms and conditions of the contract. It gives assurance that the contractor will be able to pay its material suppliers, workers, and subcontractors.

Maintenance bonds

Maintenance bonds provide protection against defective workmanship or materials used in the completion of a construction project. This bond will compensate the owners from losses resulting from such defects.

Contractor license bonds

Some construction owners think that this type of bond protects the contractor. In reality, contractor license bonds protect the general public. It ensures that the contractor will perform the terms of the contract according to stipulated regulations. This is very important for government projects that are funded by taxpayers’ money.

How do you apply for surety construction bonds?

As long as you are clear on what surety bond works best for your business needs, it’s easy to apply for one. Here are two ways to apply for construction bonds. 

Fast track application

The applicant’s credit history plays a significant factor in this type of application. Fast track applications can be used for projects or contracts below $250,000. The application should be submitted along with a copy of the contract or bid specs plus job cost breakdown.

Bond kit application

Bond kit application is used for all contracts regardless of the size and scope of work and should be submitted with the copy of the contract or bid specs.

The typical cost of construction bonds ranges from 0.5% of the contract amount to as high as 4% of the contract value. There are several factors to consider in determining the actual cost. One major factor is the construction company’s creditworthiness. Notwithstanding the cost, having a surety bond allows the contractor to bid in big projects confidently. It provides support in the event of cash flow issues in the middle of the project. At the same time, it gives the owner confidence that they are protected if the contractor is unable to fulfill the terms of the contract.

About Daniels Insurance, Inc.

At Daniels Insurance, Inc., we have a unique understanding of the risks that businesses like yours face on a regular basis. With the backing of our comprehensive coverages and our dedication to customer service and quick claims resolution, your business will be fully protected. For more information, contact us today at (855) 565-7616.