Surety bonds can be confusing but they don’t have to be. Think of it as a three party contract… There’s a principal, an obligee, and a surety. A principal is most like your role, as the business owner, in a surety bond. An obligee is the group requiring the bond. That’s typically who you’re performing work for that wants to know that you, the principal, will complete the work that you promise. Lastly, the surety is who claims responsibility of guaranteeing that the contract’s terms are met in full.
You, as the principal, have to prove yourself to the surety in order for them to have your back. It’s really as simple as that. The surety will complete an evaluation of your company to determine whether or not you should be able to perform the promised work and if they’re willing to bond, or support, you. If your business is unable to meet the contract’s terms satisfactorily, the surety company will step in to fulfill your obligations but then you are held responsible for making the surety whole. The surety will seek reimbursement for their losses.
Bond requirements can vary at the state, county, city or even project level. Each obligee will be different so as a principal, you will need to get specifications from them as to what they are asking for. Expect lots of information to be required for the surety as well. They want to be 100% sure they know what they’re getting into and committing to! They may request personal and corporate financial statements, resume’s for key personnel, references, prior project experience, etc.
There are many different types of bonds applicable to different situations. The most common bonds are contract, commercial, court and fidelity. Contract bonds are typically used in the construction industry whereas commercial bonds are more for licensed businesses that need to meet safety requirements set forth by public, legal, or government authorities. Court bonds are more for protecting plaintiffs and defendants from fraud or financial harm and fidelity bonds protect business from losses as a result of employee dishonesty and/or fraud.
Some may get surety bonds and insurance policies confused. The main differences are:
- Surety bonds are intended to ensure a commitment by the principal, and a loss is not expected.
- Insurance policies guarantee coverage for a loss and are meant to protect the consumer purchasing the policy.
- Surety bonds are paid one time whereas insurance is typically paid in premiums over time