The construction business buys more surety bonds than any other industry in the nation. Between the licensing and permit bonds required by most states and municipalities and the contract bonds you should be demanding from your subs, the bond business does quite well in this area.
Of course, bonding does save everyone money in the long run, encouraging contractors to build to plan and pay the subcontractors hired to help. You can save even more money on the surety bond and license fees by doing a little research.
What is a surety bond?
Surety bonds are not like other insurance products. A bond is a contract between three parties rather than two. It's a written agreement between the owner or government entity, the contractor, and the insurance company. It is a guarantee that the contractor will perform the work specified by the contract and financially protects the owner or client if the work is not completed or is not performed according to the agreement.
The surety bond protects a party other than the policyholder, which is usually the contractor. In this case, the bond is financial protection for the project owner or state government.
The California State Licensing Board is the largest obligee in the U.S. The board regulates contractors in 44 classifications totaling 287,394 active state contractor licenses.
Types of surety bonds
License and permit bonds are often required by state and local government. These bonds are purchased to guarantee compliance with any licensing or permitting requirements.
Most license and permit bonds are relatively small and can be quickly underwritten based on the worker’s credit history. Often they can be issued the same day as the application is written.
A contract bond is the one that guarantees the contractor will follow all specifications of a construction contract, including performing all required work and paying any subcontractors, laborers, and suppliers.
Bonds are required by most project owners to guarantee payment, performance, and compliance obligations for commercial construction projects.
Who sells surety bonds?
Until very recently, you could only obtain a surety bond by going to an insurance company that provided them as one insurance product among many. Now there are online providers who specialize in surety bonds and sell them on a national scale.
The online bond providers do nothing but surety bonds and quickly become an expert at issuing them in the states where they operate. Better yet, these companies fill their websites with information you can use to educate yourself and ask plenty of questions.
You have access to a trained and dedicated bond expert who has probably answered the same questions a thousand times and is ready to teach you, too. These bond experts can be a resource for thousands of types of bond obligations within the U.S.
Also, specialty providers such as these use software solutions and other applications that are specific to surety bonds. Since they deal with a single type of product, their processes are highly efficient with simplified bonding processes.
With efficiency comes lower costs, which are passed on to bond purchasers in lower rates and premiums. Even though basic contractor bond amounts have gone up in recent years, the efficiencies won through technology improvements and other activities have kept the premiums for bonds low.
Applying for bonds
Any insurance is heavy on documentation; bonding is no different. Applications are tedious, even with a streamlined process, and the initial application rejection rate is 50% to 60%.
The most frequent reason for rejection is the failure to complete the application correctly. Other disqualifications are due to:
- Gaps in contractor experience
- Criminal history
- Missing or incorrect surety bonds
Some states are attempting to address the complicated process of obtaining surety bonds through electronic bond filing and establishing databases of contractor compliance records.
Other states have tried to simplify things by offering an online bond submission portal in addition to the database. If you can create electronic files of your documentation, you can upload your information to get an online quote.
As we mentioned above, much of bond processing is moving online, similar to other industries. Many insurance carriers have invested in developing proprietary electronic portals for bond submission and automated underwriting.
Volume surety bond providers are seeing a significant increase in efficiency in these areas and have been able to lower bond costs.
Finding the savings
Multi-year bond options are available, often for 20% to 40% discounts on the premium for the second and third years. While not available in all states, it’s worth asking your insurance or surety company if this is an option for you.
Premiums are based on the risk you present to the insurer. When you apply for a bond, the insurer will look at how you take care of financial obligations, which includes a look at your personal credit rating.
For larger bonds, these companies will also seek out business credit, your business, and personal financial statements, how much industry experience you have, and anything else that could provide them with a hint of how likely you are to file a claim.
If you are wondering how they find out some of these things, look no further than online search engines and social media.
How to become bonded
Most government contracts require contractors to be bonded. Being bonded is also an attractive benefit to new clients outside the government sphere and can work as a marketing point.
However, not every contract requires you to be bonded. If you do need to obtain a surety bond, you newed to prepare beforehand.
- First, contact your insurance agency about whether you need to be bonded. In some industries or cases, business insurance may be a better product for you.
- Next, be sure you keep your reputation sterling and stay out of legal trouble; a police record can wreck your chances of obtaining a surety at a good price or at all. Part of the process of granting surety bonds is a criminal background check.
- Finally, all of your documentation must be up-to-date. The surety company will probably want to see your year-end financial statements for past three years or more. Your paperwork may even be audited by a CPA.
To get bonded, call your state’s regulations or licensing department or a professional board to verify the bond requirements. It is possible a license you already hold is also proof of bond.
Then, call up your insurance company or look up a seller in the surety bond marketplace. If you have trouble securing a bond, contact the U.S. Small Business Administration to inquire about the Surety Bond Guarantee Program. The SBA may be able to help by guaranteeing 70% to 90% of the surety’s risk.
Purchasing surety bonds for yourself or requiring them of your subs does not need to be a complicated or expensive process. Within the past several years, companies specializing in surety bonds have taken the process online, simplifying and streamlining the bond process while keeping premiums low.
Keep your documentation and finances in order, and you should have little trouble getting a license or contract bond.