Contractors Surety Bond Definition
A contractor’s surety bond is a three party contract between a principle (the contractor who must procure a bond), an obligee (the entity that requires the bond such as a government agency, supplier or project owner) and the surety providing the bond. The bond guarantees the contractor will act in accordance with contractual stipulations or government laws as outlined by the obligee. If the contractor fails in its performance obligations to the obligee, the surety agrees to financially compensate the obligee for damages up to the bond amount, which must then be reimbursed to the surety by the contractor in addition to any legal costs incurred to settle the claim.
A Brief History of Surety Bonds
The origins of surety bonds are debatable but some evidence exists that the concept of surety-ship may have first appeared in written law with the legal code of Hammurabi in 1790 B.C. Records indicate the first corporate surety may have been the Guarantee Society of London, which was founded in 1840 and subsequently liquidated in 2007. Today, the concept and use of surety bonds is prevalent throughout government and private industry in the United States, with many applications commonly occurring within the construction industry.
Types of Contractor’s Surety Bonds
There are many types of contractor bonds that are commonly required and each generally falls under one of two categories: Contract Bonds and License Bonds. There are seven categories of contract bonds as listed below; which are sometimes referred to as construction bonds. Each is required by either private industry or a government entity depending on the application. License bonds on the other hand are only required by various government agencies, not private industry.
It’s important to note that alternatives to bonding may exist in some circumstances. Some entities such as the Contractors State License Board in California will allow a contractor to post cash in lieu of a bond, though this strategy is not without considerable risk.
Site Improvement Bond
Contractor License Bonds
Contractor license bond amounts and requirements vary by state, so contractors should check with their local state regulators for specific details. In California, all licensed contractors are required to obtain a $25,000 contractor’s bond as a condition for maintaining an active license by the Contractors State License Board. The license bond, as provided by an authorized surety, guarantees a contractor will operate according to acceptable business practices as outlined in Business and Professions code 7071.6.
Who Benefits From A Contractors License Bond?
Contrary to popular belief, a contractors license bond does not benefit a contractor as liability insurance would. Conversely, it protects the public (including employees of the contractor) from the contractor and his/her actions including defective construction work, license law violations or unpaid wages.
How Are Contractors Surety Bond Rates Determined?
In consideration for acting as a financial intermediary between a contractor and an obligee, surety’s charge a fee called a premium which is based on a number of factors depending on the bond type. Because the relationship between the contractor and surety is largely credit based, many surety bond rates are largely driven by a contractor’s credit profile and/or financial capacity, though not all. Most bond premiums range between 1% and 5% of the bond amount.
Generally speaking, $25,000 license bond rates start as low as .65% of the bond amount, or about $100 per year on a multi-year bond. To see how much your bond would run, just enter your license number in the “Instant Bond Quote” box on the top right of this page and click “Get Quote” for a free, no obligation California contractors license bond quote.
By Jeremy Schaedler