Tag: construction bonds

Are Contractor Performance Bonds Really Necessary

Are Contractor Performance Bonds Really Necessary?

More often than not, you can hear someone sharing their unpleasant experience where they hired a person that turned out to be unreliable, did a sloppy and unsatisfactory job, went over the budget limits or the deadline, and so on. The most common method for avoiding such situations is through a performance bond.

What are performance bonds?

A performance bond is issued between a contractor and a client (sometimes referred to as an obligee), and usually there’s an insurance company or a bank acting as a mediator. The point of the performance bond is to make sure the contractor fulfills a job that was requested by an obligee. So, for example, say you want to build a house and you find a person willing to do that job for you. However, you want to make sure he uses the money you give only for building the house, so the two of you form a performance bond.

How Do Performance Bonds Work?

Let’s follow the mentioned example, and let’s say the house you want to build is worth $100,000. In most cases, here the contractor would reach out to an insurance company. Then, depending on these three factors:

· Bond type

So a performance bond in this case.

· Bond amount

In this case, $100,000

· Contractor’s risk

The reputation that a contractor has, along with his previous work and similar contracts that he fulfilled or didn’t fulfil.

Ultimately, the contractor will either fulfill the requirements stated in the performance bond or he won’t. If the contractor you found builds the house you want without a hitch, he gets the money and you get the house. If, however, he takes too long, spends too much money, or you get an unstable, unsafe or uncomfortable house, the insurance company will refund all the money you invested, which was stated as the bond amount.

This way, both parties are protected, and you will be assured that the work done would be exactly what you requested.  Here is a closer look at how they work.

How Much Do Performance Bonds Cost?

It depends on the final factor mentioned before – contractor’s risk. If the contractor is a well-known and widely respected constructor that already had deals with the same insurance company, they know that they won’t have to pay the refund, since he’s not likely to disrespect his part of the agreement. In this case it is usually requested from the contractor to pay around 0.5-1% of the total bond amount, and vice-versa, an unknown or first-time contractor would be requested to pay from 5% to even more than half the total bond amount.

Are Performance Bonds Really Necessary?

This mostly depends on what type of work you want done. For construction work, such as the example that we followed until now, it’s almost always necessary. If you’re dealing with other areas of work, or you’ve found a contractor that you personally know (a friend of yours, for example) and you’re sure he’ll fulfil his part of the agreement, you might want to bypass the performance bond process. However, in most cases, it’s better to be save than sorry.

What are the Different Types of Contractor Bonds

What are the Different Types of Contractor Bonds?

Do you work in the construction industry or have a client in the construction industry? Have you heard the term bonds or contractor bonds? If you don’t know what contractor bond is, worry not. Contractor bond is an assurance to the obligee that he/ she will perform as promised. If the contractor fails to perform, then the surety company (issuer of bond) will pay damages to the obligee (project owner). The amount of claim plus the cost is then recovered from the contractor by the surety company. This’s exactly how bonding works. When the contractor is hired, it’s always required that a bond is secured. The contract bonds assist in regulating the construction industry.

The following are the major contact bonds used.

Bid bonds

This bond protects the project owner by assuring that the contractor will honor the original bid amount when entering the contract. The obligee can sue the contractor and the issuer of the bond (surety) to implement the bond. Frequently, bid bonds are normally presented with other financial proposals to the project owners. Also, note that not all projects require bid bonds.

Performance bonds

This is a bond that assures that the contractor concludes the job according to terms of the construction contract. In short, this bond ensures that the project is completed satisfactorily as outlined in the contract. It protects the obligee from contractor’s poor quality work or failure to complete the project. If the contractor leaves the job incomplete or completes poorly, or past the deadline, then the surety may be liable to complete the job, or contract a replacement contractor, or compensate the project owner for completing the project.

It’s normally attached with payment bond as both protect the obligee from suffering losses due to faults of the contractor.

Payment bonds

It ensures that suppliers and subcontractors are properly paid for their input to a project. If the suppliers and subcontractors fail to get their dues, then they are reimbursed by the surety who will, later on, be reimbursed by the contractor.

Contract license bonds

This bond enables the contractor to be licensed for a project. The contractor has to purchase this bond in order to be qualified for a project. The contractors will always face consequences if they try to work on projects without a contract license bond or if they use an expired one. Repercussions may include weighty fines and license revocation.

For many construction companies, qualifying for contract bond can always be an annoying part of the business. Getting to know the different types of contract bonds and understanding how they work enable contractors to appreciate bonding process. It’s imperative to consult before entering into a contract bond.