Whether you’re a seasoned contractor or newer to having your own business, you’ll likely soon be in a situation where a surety bond is required. While there are many questions contractors have around surety bonds in general, one popular one is:
What types of contracts usually call for a performance bond?
Before we can list what type of contracts require a performance bond, it’s important to understand why anyone would need this type of surety bond.
What is a Performance Bond and What Does It Guarantee?
A performance bond is a guarantee (or a type of surety) issued by a surety company to guarantee to a third party that the contractor will complete a contract per the terms and conditions as specified. The performance bond can be used by owners or general contractors to ensure duties are fulfilled and the work gets 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 if the bond is being required of a subcontract).
- The Surety: This is the company issuing the performance bond guaranteeing the work of the contractor.
The Performance Bond Process
Successfully qualifying for a performance surety bond typically involves reviewing aspects of the contractor’s business experience and various level of financial information. The specific requirements for a contractor to be issued a performance bond depend on the size of the surety bond you need and how many outstanding bonds you will have at any one time. Since the size of the bond is highly relevant to the performance bond process, below you’ll find them organized according to size the contractor needs to get:
- Bonds less than $750K can typically be obtained with a simple one or two-page application based on the credit of the individual(s) who owns the construction company and their past experience of similar sized jobs.
- Bonds over $750K to $1.5 million require financial statements from the company and personal financials from the individual(s) who own it. Internal financials are acceptable if they are prepared well and correctly. A CPA can help here.
- Bonds over $1.5 million may require the contractor to have a CPA prepare their financials, and provide additional schedules and information that help the surety to track a contractor’s job performance.
For projects that are larger than the numbers listed above , we strongly encourage contractors to read this article: 4 Factors Your Surety Company Considers When Bonding Larger Projects – CSBA
Since the process to qualify for a performance bond from a surety company can be fairly unique from contractor to contractor, it’s important to align with a quality surety agent specialist to ensure the process is timely and as error-free as possible.
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When is this Surety Bond Required for Contractors?
Now that you understand what a performance bond is and how a contractor can get one, what types of contracts usually call for a performance bond?
Usually, a performance bond is required for a contractor when the construction project is funded by tax dollars, which essentially means any public construction project will require bonding. However, a private company might also require a performance bond to help mitigate risk. While the primary reason for anyone requiring a performance bond is to help guarantee contractual obligations will be fulfilled, they also double to protect the owner if a contractor must file for bankruptcy or has other financial issues that would stop them from completing construction.
How a Surety Bond is Different than Insurance
Many contractors think a performance bond is similar to having insurance, which is incorrect. There are several key differences between a performance bond and insurance:
- Unlike insurance, when it comes to performance bonds, the contractor/principal gets no direct benefit, rather the bond benefits the obligee/owner or the general contractor if required for subcontractors.
- Performance bonds are underwritten and priced by surety companies under the assumption of not having any losses. That’s why they require financial statements and dig into your company’s operational history. Insurance companies expect loss on an insurance policy.
- Surety companies will require a contractor to reimburse and indemnify the surety provider against losses under the bond. This is highly different than insurance policies like general liability or workers’ compensation. With those, a contractor wouldn’t have to reimburse the insurance company when making a claim.
Despite the differences, many contractors who need performance bonds will turn to their long-term insurance agent to be issued the bond since that is who they are familiar with. This is an option, but not the best one. To find out more on why no contractor should seek surety bonds from their insurance agent, we encourage you to read this: The Difference Between a Surety Specialist and Insurance Agent
The key to getting performance bonds with minimal hiccups and in a timely fashion is working with a quality surety specialist, like CSBA, where their entire focus is surety bonds and growing a contractor’s company. This is our singular goal at CSBA, helping California contractors navigate the surety bond process, growing their bonding capacity, and helping them to secure larger construction projects to further benefit their company.
We at CSBA have a team of surety underwriting specialists with over 225 years of combined experience in guiding contractors to make sure their work is focused on construction while ours is dedicated to your surety bond needs. Having that team and focus allows us to have key relationships that not only get you the performance bond you need, but better match you with surety providers, and give insider insight to growing your bonding capacity.
We invite you to explore the CSBA difference and put worrying about when you need a performance bond aside.
Get a Performance Bond quote now
We want to know more about how we can help your construction company get the right contractor bond for your next project.