Contractors Bond
Business transactions are fueled by the presence of contracts. Without the legal stipulations that contracts outline, it would be difficult for businesses and their customers to engage in meaningful transactions and to give/deliver services.
Contracts are normally backed by surety bonds that protect the recipient of service from incurring damages as a result of a negligent service provider. One of the most common sureties issued is a contractor surety bond. These are issued by licensed contractors, construction companies and businesses that hire employees to provide services on their behalf.
The primary purpose of these bonds is:
- To ensure that licensed businesses adhere to the required state and federal laws.
- To protect customers from incurring damages from negligent businesses
- To provide an extension of credit to service providers in case they violate a contract with a customer.
What is a general contractor bond?
A contractor surety bond is a type of surety bond issued to persons or businesses that provide services based on an agreed contract. The basis of the bond is to guarantee customers that the business will fulfill the terms of the contract. In the event that a business offering a service violates the contract, then they will be liable for any damages incurred by the customer.
There are three main parties involved in a contractor surety bond. The principal (service provider), the obligee (service recipient), and the surety (the insurance company that provides a bond). When the principal agrees to provide services to the obligee, the obligee will often require some assurance from the principal that the service will be provided to the standards agreed upon in the contract.
A bonded contractor will issue a bond to the obligee, pledging that if they violate the contract, they will compensate the obligee for any damages. The surety is the insurance company that issues a bond to the principal and agrees to honor any valid claims made by the obligee.
What are the types of contactor bonds?
There are three main classes of bonds for contractors:
- Construction bonds are surety bonds that are issued for public construction projects. When the state or federal government requires the services of a construction company for a public project, they often request a bond from the company as a guarantee for their services. The primary purpose of the bonds for contractors is to protect public funds from being embezzled by a negligent contractor. When a construction company is hired to carry out a public project, they will issue a surety to state/federal governments, which guarantees that if they violate the contract, a state can make a claim against the bond. In this way, the public project has some level of insurance against suffering financial damages.
In some cases, the actions of negligent contractors can lead to costly financial damages on the part of the project owner. For example, a construction company may fail to perform their duties to the expected quality standards, or they may fail to compensate for their subcontractors. In addition, they may also cause damages to the property of the obligee. In such cases, the construction bond can protect the obligee from the damages they are likely to suffer as a result of these activities. The federal government, therefore, requires that any construction project that will cost $150,000 or more to be carried out by a bonded contractor.
- Contractors license bonds are a type of bond that is issued to licensed contractors. Many different businesses are required to obtain a license from the bond state in order to operate. These include plumbers, insurance brokers, electricians, vehicle dealers, and many other service providers. Any type of business that is licensed by the bond state is required to obtain a contractor license bond. This bond protects customers as well as the state from any damages caused by the licensee (the principal).
Customers can, therefore, seek the services of contractors within the state knowing that they have a level of protection against negligence on the part of the bonded contractor. By customers exclusively seeking the services of a bonded contractor, they can be compensated for any damages they incur by making a claim against the bond.
Another purpose of a bond is to ensure that the licensee conducts its business in accordance with state regulations. There are normally various codes that govern multiple industries. Licensees are required to adhere to these codes as they operate their businesses. Any code violations such as committing fraud, not following state guidelines and defrauding the state can lead to financial damages for customers or state. With a contractor license bond, the bond state or other affected parties can make a claim on the bond to be compensated by the surety for damages.
- Fidelity bond protect businesses (principals) from damages that are caused by their employees. Licensed businesses that hire employees to provide services to customers are liable for any misconduct committed by their employees. In some cases, employees can engage in theft, dishonesty, or they may perform a job that is below the standards of the contract. These protect the bonded contractor in many cases.
Customers who are aggrieved by the employees of a company can make a claim against the fidelity bond for compensation. The surety will then process the claim and honor it on behalf of the principal. Fidelity bonds, therefore, act as a form of contractor bond insurance. They protect the business from the actions of negligent employees while providing assurance to customers for the services offered.
Why are contractor bonds important?
General contractor bonding is extremely important. Construction companies, licensed contractors, and businesses that rely on employees to provide their services all benefit from contractor bonds. These bonds provide an extension of credit to the business in the event that they cause damages to a customer or to the bond state. Claims made on the contractors license bond can be honored by the surety company, after which the business will reimburse them at a later date.
Most bonds for contractors are also issued at a fraction of the cost of the bond's face value. In fact, contractor bonds are typically issued at 1-15 percent of the face value of the bond. For example, a plumber required to issue a $1,000 surety by the state can obtain it for as low as $100.
Principals that issue contractor bonds also portray a level of professionalism, responsibility and commitment that makes them more competitive for jobs.
Contractor bonds are also beneficial to customers seeking the services of licensed businesses. They can enjoy a level of protection against accidents, negligence, theft or the misconduct of service providers as well as their employees.
Working with reputable contractors bonding and insurance companies is a vital part of properly bonding your operation. NFP only works with highly-rated contractors bond companies. Call us today, and let us answer your questions. If you are a bonded contractor or need a contractor's bond, give us a call.