What a Surety Bond is All About
Bonds have been with us from as long ago as 2750 BC with evidence of a tablet containing surety contracts in Mesopotamia. However, many people today still do not know what they entail. A number of people define bond as insurance. Nevertheless, the truth is that there are a whole lot of differences between the two.
The Essentials of a Bond
While many people rightfully define bond as simply a surety, a surety bond is a means of ensuring that a particular obligation will be fulfilled, and if not, some amount of payment will be made. It involves three parties: the obligee, the principal, and the surety. While the obligee is the obligation’s recipient and the principal is charged with fulfilling the obligation, the surety gives an assurance that the principal will deliver on the promise. In other words, we define bond as a risk transfer mechanism whereby as an obligee, you are promised that you will be protected against incurring losses in the event that the principal does not fulfill the terms of the contract.
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Difference between Sureties and Insurance
Bonds and insurance are both popular mitigation tools, and kicks into gear as a means of protection when the unexpected happens. Therefore, making a distinction between them can prove to be confusing, given that ‘surety insurance’ and ‘surety bonds’ are terms often interchangeably used. However, it is important to know the differences between the two if an attempt to define bond is to be successful.
In our effort to make the differences clear, we find it important to remind you that insurance involves the spreading of risks among a group of clients with similar interests. Therefore, the losses are shared among a number of policy holders, often running into thousands. On the other hand, we basically define bond as an agreement between three parties. In addition, there are generally no expectations of loss and the risk falls not on the insurance company but on the person who bought the bond: the principal.
To get a clearer picture, define bonds as a kind of credit. The premiums usually pay for underwriting, pre-qualifications, and such services. It is like taking a loan from a bank, in which case you will pay an interest that is not a means of covering losses emerging from default incidences, but as a fee for the money you have borrowed.
How Bonds Work
Sureties are offered by bonding companies. Once you purchase one, you have formally entered into a contract with the person who needs the bond and the surety company. The two are known as the Obligee and the Surety.
There are possible outcomes from a bond agreement. If all the obligations set out within the bond are fulfilled, your contract together with the duties specified therein continues uninterrupted. On the other hand, inability or failure to fulfill the obligations set out in the bond may lead to a claim against the bond.
Remember, the obligee may still draw out a claim against the surety even when the principal has fulfilled the duties. Usually, this happens when the obligee thinks that there was unlawful or unethical conduct in the course of fulfilling the obligations. In addition, it is wise to keep in mind that the burden of paying for the claims lies squarely on the principal’s shoulders. While the bonding company will pay the obligee every penny of the bond, you will have to pay it back the amount it has paid in full since you will be, in writing, required to indemnify the surety company off the responsibility of covering the losses in the event of violations of the bond’s conditions.
Define a Bond
Types of Bonds – NSPE
There are tens of thousands of different types of bonds with requirements, regulations and amounts varying from state to state; accordingly, people living and working in different countries and state define bond differently. Since they are a major requirement in the construction industry, contracts bonds are the most popular. Under them are performance bonds, bid bonds, and payment bonds, all meant to ensure that the principal fulfills all the obligations set out in the construction contract.
We cannot attempt to define bond without mentioning court bonds. They are simply a means of guaranteeing that fiduciary duties will be performed faithfully or that court costs will be met. As the name implies, they strictly belong to the courts, and come in during litigations or trials.
Other types of sureties include License and permit bonds requiring the principal–in this case the licensee—to observe federal and state rules and regulations. Notary bonds ensure that notaries conduct their business with ethics in mind. In addition, you can take a business service bond or fidelity bond as a way of protecting your business or a lost title bond if you lost your car title and wish to prove ownership of the vehicle.
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What is Guaranteed in a Defined Bond?
Before you define bonds, remember that different types of sureties are designed to provide different guarantees. For instance, license and permit bonds guarantee that the person taking them understands and observes the rules and regulations set out in a particular license. Violations of the bond include misrepresentation, late payment, or fraud. They then lead to a claim which, upon inability of the principal to settle the disputes arising from them, the surety company takes charge and pays for the claim.
If you are in the construction industry and you take up a contract bond, you are simply assuring your client that the job will be completed exactly as you agreed. This way, you build more confidence on the part of your clients. However, if you fail to fulfill the obligations set out within the bond, the surety company will ensure that your customers don’t incur losses as a result of your violations. It may either pay the customer a certain amount of money or exploit other options in an effort to ensure that the construction work is completed.
In an attempt to define bonds, many people fall into the misconception that sureties are insurance for their enterprises. In our effort to define bond, however, we agree that there are a few similarities between the two. Nevertheless, remember that they are very few. In fact, the only important one is that the two are a form of protection against losses in unfortunate incidences which everyone has reasons enough to hope never happen.
The differences between surety bonds and insurance policy have many glaring differences. The greatest among them is that while insurance protects the policy holder, a bond protects the entity requiring it. For instance, if insured persons get into an accident and make a valid claim to the insurance company, they get paid and that is the end of the story. On the other hand, the bonding company pays the obligee if the claim on your bond is proved valid, and in the end, you will be required to make the full payment of the bond to the surety company.
Remember, there is usually no way of escaping a repayment to the bonding company in case you violate the bond. The surety ensures that you sign a contract binding you to an agreement that you will pay it in case it meets the cost of losses incurred as a result of violations to the bond. A simple way to define bond, therefore, is a guarantee that one of the three parties—the principal—involved in an agreement will ensure that all conditions in a contract will be observed.
Contact NFP Surety for a hassle free, bond purchasing experience. We are the experts, and have been bonding different entities all over the country since 1984. Call us at (800) 863-3210! If you have any questions, contact us, and we’ll gladly define bonds for you.