What are Surety Bonds?

As a consumer doing business with a company, you will frequently notice businesses that advertise being bonded and insured. As a company, depending on your industry, you may be required by law or contract to be “bonded”. What exactly does this mean? How does it affect the business owner and the consumer doing business with a particular company? Here we look at the process of bonding and specifically surety bonds.

What Does It Mean To Be Bonded?

Most businesses that provide services to consumers at their home or place of business are required to be bonded. When a contractor or other business providing services is bonded, the consumer is protected in the event the contractor fails to deliver services as promised or in the event of damage or theft while services are being performed.

For example, if you hire a contractor who walks out halfway through the job or has an employee who helps themselves to your family heirlooms, you have the option to seek compensation. When a business is bonded and insured, consumers have protection against common problems that would otherwise leave them suffering a financial loss.

What is a Surety Bond?

In most cases, when a business claims to be bonded, they are in fact stating they have a surety bond. A surety bond solidifies an agreement between the principal and the obligee. The principal is the company required to purchase the surety bond which guarantees a certain level of service and quality of work which will be performed in the future. The obligee is the party seeking protection from any damage or financial harm done by the principal.

A surety bond is not insurance. With insurance you pay a premium, and if needed file a claim to be reimbursed or made whole. A surety is slightly different in that it guarantees the contractor will fulfill his obligation, and becomes liable for that obligation should the contractor fail to perform.

Why You Should Deal with Bonded and Insured Companies

A surety bond is supplied by a third party, a financial guarantee. Surety companies will issue a bond to the principal; in turn becoming an intermediary between the principal and the obligee.

When a surety bond is in place, the consumer has an added level of protection that the terms and conditions of a contract or agreement will be met by the bonded company. Should the principal fail to perform duties or complete work as promised in a contract, the consumer can recoup any loses through the surety bond. Although the most common industry where surety bonds are issued is construction and home repair, surety bonds are used in a number of industries to protect one party from the fraudulent or unethical acts of another. This insures industry members, consumers, and even government entities are protected when entering a contract with a business.

Other businesses’ commonly bonded include but are not limited to, car dealerships, mortgage brokers, cleaning services, nursing homes, collection agencies and heating and plumbing companies. Basically any business which provides a service where there is a potential for fraud or unethical practices which threaten consumers are either required or recommended to be boned.

How are Surety Bonds Obtained?

To obtain a surety bond, the company seeking the bond must submit an application to the bond company, providing any information requested on the application. An annual premium payment is required in order to be bonded. It is important for all businesses to understand the rules and regulations governing their industry to learn when a surety bond is recommended or required. Certain businesses must be bonded in order to provide services. In other industries bonding is not required but recommended to protect both parties.

Example of Claiming Against a Surety Bond

A homeowner needs to put a new roof on their home. They hire ABC Roofing, a contractor that is “licensed, bonded, and insured” to perform the work. The contractor has purchased a surety bond with XYZ Surety Incorporated. The contractor is paid up front for the work on the home to buy materials and get started. ABC Roofing shows up on the first day and begins ripping shingles off the home in preparation of the new roof. However, on the second day ABC Roofing goes out of business. The money is gone and the materials are missing.

In this situation the homeowner can sue both the surety and ABC Roofing for performance. The surety steps in and usually has three options: finishing the contract itself (usually through paying for a new contractor to come out and finish the roof), picking a new contractor to work directly with the homeowner, or letting the owner complete the work himself and paying for those costs.

About the Author

By , on May 30, 2013
Tisha Tolar is a co-owner of Trifecta Strategies, LLC and the author of Gen X. When she is not busy being a fiction writer, she writes personal finance articles for several web sites, including Moolanomy.com.

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  1. I just want to know who or what company or government agency deals with compensations if the principal cannot pay his debts?

  2. Mary Slagel says:

    Great insight. I had heard of this before but I wasn’t completely aware of what it meant.

  3. Maybe this is my ignorance about the subject, but I wonder how large the project has to be for them to be financial viable. What are your thoughts on small home improvements, for example? Thanks for your insight!

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