California Performance Bonds
What is a Performance Bond?
A performance bond is required for many kinds of construction jobs. What they essentially do is guarantee that the contractor performing the work will meet their contractual obligations with the owner or general contractor on the project. Ultimately, this helps to ensure that work is done as agreed to.
There are three parties involved with a performance bond:
- The Principal: The contractor who will be doing the work and providing the bond.
- The Obligee: The owner of the project or general contractor.
- The Surety: This is the company issuing the performance bond guaranteeing the work of the contractor.
3 Key Differences between a Performance Bond and Insurance
It can be easy to confuse performance bonds with insurance. Afterall, performance bonds are technically issued by insurance companies, called surety or bond companies, through insurance agents. Those agencies like CSBA that specialize in surety are often referred to as surety agents.
There are three main differences that distinguish performance bonds from most insurance products:
- The contractor (principal) applying for the performance bond receives no direct benefit. Instead, the bond provides a benefit to a third party (obligee) owner or general contractor that the principal is working for.
- Performance bonds are underwritten and priced by surety companies to theoretically not have losses. Therefore, surety companies have to do their due diligence when evaluating contractors financially and operationally to ensure they believe they can perform the work.
- Surety companies require the contractor to indemnify and reimburse the surety against losses under the performance bonds. This is a major difference compared to most insurance products like general liability and workers compensation. With those products, a contractor doesn’t have to reimburse the insurance carrier for a covered loss. That would defeat the purpose of the insurance. Not so with surety, which is more of a credit extension like banking.
How to Apply for a Performance Bond
To obtain a performance bond, surety agencies will look at several kinds of financial records and review aspects of the contractor’s business experience. The requirements will depend on the size of the performance bonds you need and the total amount of bonds you will have outstanding at any one time.
- Bonds less than $750K – These can often be obtained with a simple one or two page application based on strong credit of the owners of the company and past experience of completing similar size jobs.
- Bonds over $750K to $1.5 million – Financial statements for the company and owners personally will be required. Internally prepared financials are usually acceptable if they are accurate and in good order.
- Bonds over $1.5 million – When getting into higher levels of bonding, engaging a construction oriented CPA may be required. These provide a higher level of assurance to the surety company along with reports that allow them to track job performance.
- In addition to the financial requirements above, past experience of profitably completed similar size and type projects is important to surety companies, as past results are usually an indicator of future success. To understand the 4 most important factors sureties look for when bonding larger jobs, read our article.
The right surety bond agency can assist and guide you through this process, ensuring that you obtain a performance bond and get it timely. No two contractors are the same, and an agent well-versed in surety like CSBA, can make sure the requirements are tailored to your unique needs and situation.
We have a detailed article that explains the differences here, but the short answer is that the performance bond secures the contractor’s promise to complete a job within the terms and conditions outlined at the agreed price while the payment bond protects subcontractors, vendors, and laborers against nonpayment.
Usually, a performance bond is released when the project is completed, though some public projects stipulate that a contractor gives a warranty following completion that the performance bond covers.
The performance bond covers the owner of the project against losses if the contractor fails to deliver on the project within the contractual provisions.
Since performance bonds guarantee the completion of the contract, they last until the project is finished along with any required warranty period included in the agreement.
If you have any questions about our California performance bond services or wish to partner with CSBA for your contractor bond needs, we invite you to contact us.
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