Why Surety Bonds Are Always a Good Idea in Every Business

Surety bonds are vital for so many businesses, but unfortunately, so few people understand exactly what they are and how they can be used to benefit their business. Surety bonds add a layer of protection to business deals that are not present in other kinds of arrangements. Many people confuse surety bonds with insurance but they're very different. To utilize surety bonds to your business’s advantage, it is vital to understand exactly what they are and how they work. In this article, we will explain the fundamentals of surety bonds and why they are always a good idea for every business.

What are the Different Types of Surety Bond?

The most common types of surety bonds that are beneficial to businesses are contract bonds and there are four sub-classifications of contract bonds; bid bonds, performance bonds, payment bonds, and maintenance bonds. 

A bid bond is usually required by a principal to submit their bid for a contract. You can learn more about how bid bonds work on this helpful page, but in essence, they state that upon awarding of the contract, the surety guarantees that the principal will meet financial obligations. This is always a good idea for any contractors hired because it ensures they will get paid for their work. 

A performance bond states that a contractor will perform all of the work according to the specifications and the terms of the contract with a principal. This is very useful because the principal can be assured that the work they have paid for will be done and that the contractor will not shirk on the agreement. 

A payment bond states that nothing will be left outstanding as far as labor or material costs or material costs which guarantees that the obligee won’t be left footing the bill because the principal hasn’t paid what they were supposed to. 

The final type of surety bond is a maintenance bond which states that the contractor will come back and complete any necessary repairs or pay for such repairs or finishes that need doing. This is always desirable for the principal because it stops the contractor from starting a job, receiving the payment, and just disappearing and not finishing the job to the agreed-upon standard.

Who are the Parties in a Surety Bond Agreement?

Surety bonds are different from insurance bonds in the fact that you have three parties to a contract as opposed to two parties in a contract as you do with insurance. In an insurance bond agreement, the two parties are the insured who receives the insurance and the insurer who provides it, whilst a surety bond agreement has two similar parties, the obligee, and the principal, plus a third party who is called the surety. Each of these parties plays a key role within the contract and it is really important to understand each party’s role.

The principal in a surety bond agreement is the party that performs the task or obligation that is laid out in the agreement. The obligee is the party that receives the benefit of the task or obligation. The third-party, the surety, acts as a guarantee to the obligee that the principal will fulfill the agreement. In business terms, your business will usually be either the principal or the obligee. It is this extra level of guarantee that makes surety bonds uniquely beneficial in a business arrangement because it offers protection to both the principal and the obligee.

How Does a Surety Bond Work in Practice?

Whilst there is a certain amount of inherent risk in every business arrangement, all parties want to mitigate that risk and that is where a surety bond is so useful. The addition of a surety into an agreement adds extra protection for all the parties involved. In a surety bond business agreement, the surety is the company that gives the obligee money if the principal fails to perform or something happens where the principal needs to pay the obligee. Surety bonds work in a similar way to lines of credit in that if the surety has to payout, the principal must pay the surety back on those funds, including litigation costs and other out of pocket expenses.

Every business deal carries a certain amount of risk, but whilst that risk is accepted because of the promise of tempting returns, all businesses are looking for any way possible to minimize the risk. A surety bond is one of the best ways to mitigate risk because it brings in a third party who guarantees that the various parties are protected. If you are making a new business deal and you have concerns about the other party, look into securing a surety bond to give you peace of mind.

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