Five things you should know about contractor bonding
Posted by Danielle Rodabaugh on Mar 18, 2015
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If you're a contractor who's worked in the industry for very long, you've probably been required to purchase a surety bond at some point. But how much do you really know much about these risk mitigation tools, other than the fact that you're required to buy them from time to time? From my experience as a surety specialist, the answer is usually "not much." Construction professionals have to learn about contractor bonding the hard way far too often — after they've had their bonding requests denied by numerous surety providers. Only then do most construction professionals become interested in these little understood insurance products. Contractors who have an understanding of contractor bonding will be better prepared to undergo the surety bond application process when the time arises. With a basic knowledge of contract bonds, construction professionals know what it takes to qualify for a bond, as well as why they're required to purchase one in the first place. As such, this article will explore five key aspects of contractor bonding that every construction professional should know.
1. Contractor bonding ensures construction professionals are properly licensed.
Government agencies at state and local levels typically require construction professionals to purchase contractor license bonds before they can be legally licensed to perform certain tasks. The surety bond process requires the contractor to prove financial stability as a way of ensuring clients' investments will be protected should licensing laws be ignored. If a construction professional cannot qualify for or afford the required contractor license bond, a license will not be issued. Changes to contractor licensing requirements are made frequently, so make sure you're always in compliance with the contractor license bond rules in your area.
2. Contractor bonding reinforces industry regulations.
Without contractor bonding, government agencieswould struggle to enforce industry regulations. Contractor bonding holds construction professionals accountable for their ability to follow industry regulations. When contractors fail to follow laws as outlined in their bonds, the government can make a claim against the bond. Government agencies typically establish new surety bond requirements after a contractor's work has resulted in financial loss in one way or another.
3. Contractor bonding is not insurance.
Although surety bonds are insurance products, they do not work as do traditional insurance policies. Whereas most insurance policies function as a way for the policyholder to recover losses, the beneficiaries of contractor bonds are project owners, consumers and government agencies. To put it simply, contract bonds are more like lines of credit. The surety bond amount is guaranteed in case construction professionals should fail to perform as expected. When contractors fail to fulfill their duties under the bond's legal obligations, the obligee can make a claim on the bond to gain reparation. Most bonding agreements include an indemnification clause that requires the contractor or contracting firm to repay the surety for losses if a claim is made. From time to time, contractors cannot afford to pay for their claims, in which case sureties must eat the losses. This is why surety providers are so stringent during the application process.
4. Contractor bonding can be difficult to qualify for.
When surety providers underwrite contract bonds, they risk losing money. Because sureties intend to minimize the risk that comes along with contractor bonding, they thoroughly review contract bond applications. The process usually involves a review of past contractor bonding, work performance and financial credentials that often include credit scores. If any of these three factors seem questionable, the surety might deny a construction professional's request for a bond.
5. Contractor bonding can be expensive.
Surety bond premiums will vary for each contract bond you have to provide. The exact surety bond cost you'll pay will depend on a few factors, including
- the contract's projected cost
- the state, county or city in which you get the bond
- your professional experience and previous work history
- your bonding history
- your financial credentials
The stronger your application, the lower your premium will be. Unfortunately, lack of experience and poor financial credentials can hinder a contractor's ability to qualify for a bond. As such, contractors who are new to the industry and those who have low credit scores can have trouble qualifying for surety bonds required of large government projects. If unable to purchase the surety bond(s) as required, a contractor or contracting firm will not be awarded the project. By finishing projects on time and without error, contractors can increase their bonding capacity. Contractors should always pay all subcontractors and material providers on time as well. Managing finances and projects in a responsible manner can help contractors be better prepared to apply for their contract bonds. Recognizing these factors will improve your ability to secure the contract bonds you need for a lower price.
Danielle Rodabaugh is a principal for SuretyBonds.com, an online surety bond agency that issues surety bonds nationwide. As a part of the company's ongoing educational outreach program, Danielle writes informational articles that help construction professionals answer the question "what is a surety bond?" -- Danielle Rodabaugh SuretyBonds.com Stay Current With All Bonding Info! Google+ Twitter Facebook
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