Considering that both bid bonds and performance bonds are essential to the construction industry, it’s important to understand the details of a bid bond vs. performance bond. There are several key differences between the two that not only help your bidding on projects but can grow your contractor business if both bonds are handled well.
Let’s go over both bid bonds and performance bonds before discussing how they differ and how to get one from a surety.
What are Bid Bonds?
A bid bond helps protect the project owner by guaranteeing that if the contractor is awarded the job, they will accept it and meet all the requirements of the bid, including providing a performance bond to cover the contract This helps prevent a situation where a contractor backs out of a project due to bidding on multiple jobs or purposefully underbidding it..
A bid bond usually involves three parties: the obligee, the surety, and the principal. The obligee is the owner or general contractor of a construction project, the principal is the contractor, and the surety is the bond company that issues the bid bond to the contractor.
When is a Bid Bond Required?
A bid bond is required when the project owner requests it or the project is using public dollars, such as a government project whether federal or California state. If the surety bond is required, then the contractor would need to get the bid bond before going for the job.
What is the Bond Amount?
A bid bond is typically required for 10% of the contract amount and is intended to meet the difference in price between the contractor and second bidder.
What does a Bid Bond Cover?
The bid bond doesn’t “cover” anything beyond the project owner’s losses if a contractor cannot follow through on their bid. It is, essentially, a risk-management tool that assures the project owner that a contractor is qualified, will enter into the contract if awarded, and the contractor will provide the performance bond to guarantee completion of the project.
For more details regarding what California construction companies need to know about bid bonds, we encourage you to read this article: What California Construction Companies Need To Know About Bid Bonds
What are Performance Bonds?
A performance bond guarantees to the project owner that the contractor will perform the obligations of the contract according to its terms and conditions. Like a bid bond, it offers protection against losses if the contractor defaults and fails to perform their obligations. Subcontractors and suppliers can also benefit when a payment bond is issued in conjunction with a performance bond because the payment bond will ensure they will be paid according to the terms of their subcontract.
There are three parties involved with a performance bond: the principal, the obligee, and the surety. The principal is the contractor who will be doing the work and providing the bond, the obligee is the owner of the project or general contractor, and the surety is the company issuing the performance bond guaranteeing the work of the contractor.
When is a Performance Bond Required?
A performance bond is required for projects using public dollars and is mandatory under the Miller Act for federal public works projects. For privately-owned projects, a performance bond is sometimes required to protect the owner or general contractor of the project. Where a performance bond is required, a payment bond may be as well.
What is the Bond Amount?
A performance bond is generally required for 100% of the contract amount.. This is why many contractors include the cost of this particular bond when calculating the bid estimate. To better understand the cost of a performance bond and how it’s calculated, we encourage you to read this article as well: Understanding The Cost of A Construction Performance Bond – CSBA
What does a Performance Bond Cover?
The performance bond protects the project owner from losses incurred as a result of the contractor failing to finish the job or deliver on the contractual obligations. This is useful if the contractor declares bankruptcy, for example, and can’t complete the work. It provides compensation, by way of the surety company, to the project owner so construction can still finish with another contractor.
Bid Bonds Compared to a Performance Bond
While both bonds are important to getting projects and growing your business, there are several differences to highlight when discussing bid bonds vs performance bonds:
What the Bonds Cover
One of the aspects of bid bonds vs performance bonds to note is that each covers something entirely different. A bid bond only covers the bid itself, ensuring that the contractor selected can follow through on the project while a performance bond only becomes necessary once a bid is won and a contract is awarded to the contractor. The performance bond then ensures that the project is completed according to the terms of the contract.
The Amount each Bond Covers
A bid bond is only a percentage of the bid amount while the performance bond usually is for the entire contract amount.
The Underwriting Process
While bid bonds and performance bonds cover different things, they are underwritten the same by surety companies since the bid bond is, in part, guaranteeing that the surety will provide the performance bond. The depth of information that surety companies will look at will depend on the size of the bond needed. Generally, sureties want to see that a contractor has experience similar size and type of jobs and that the contractor has the financial resources to complete the work.
Now that you understand more about bid bonds vs performance bonds, it’s important to work with a surety that is deeply familiar with the bonding process and how they factor into your success.
Here at CSBA, we are committed to improving the financial literacy of contractors throughout California, which is why we write articles on the various types of bonds a contractor will need. We encourage you to look at the differences between others here: Performance Bonds vs. Payment Bonds: What’s the Difference?
It’s important to understand the distinctions, what to expect during the underwriting process, and find opportunities to grow your bonding capacity. Our approach to the surety bond process is what separates us from other sureties, in that it is all we do and is our expertise. We not only help contractors get bonded but give you the tools to structure your business to be more attractive to surety providers and grow your ability to bid on larger projects.
Here at CSBA, we elevate the California contractor. You build the state, we help build your company.