For every business, surety bonds are so important.

However, there are so many business owners who don’t know what surety bonds are or how they can be advantageous to their business.

Surety bonds provide extra protection in deals that are usually not so well protected under standard agreements. A lot of people mistake surety bonds for insurance bonds but there are some key differences. In order to implement a surety bond to benefit your business, it is first vital to have a full understanding of what a surety bond is and how it works.

This article is a guide to how to know when your business needs surety bonds.

The Various Surety Bond Options

There are various types of surety bonds, but when it comes to businesses, the most common is called contract bonds and they provide protection for the various parties in an agreement. These parties are the obligee, the principal, and the surety which provides the protection. There are four different types of contract bonds: payment bonds, maintenance bonds, bid bonds, and performance bonds.

Performance Bonds

Performance bonds ensure that contractors do all their work as stated in their agreement with the principal. A performance bond ensures that anyone you hire has an extra burden of responsibility which will result in a well-completed project. Performance bonds give principals peace of mind that the contractors they hire will complete everything to a high standard. If the contractor does not, they will be financially liable, and so it gives them further incentive to do a good job. 

Payment Bonds

With a payment bond, the obligee is assured that no labor or material costs will be left outstanding by the principal after a job is done. This is very important for the obligee as it ensures that they won’t be left to pay the outstanding costs if the principal fails to do so.

Maintenance Bonds

A maintenance bond ensures that a contractor will return to finish and repairs that are needed after a job is needed, or that alternatively, they will pay for these repairs. This is necessary because it means that the principal will not be left to pay for necessary repairs because the contractor started the job and then just disappeared without completing their tasks to the standards that were agreed in the contract.

Bid Bonds

Bid bonds are required for a principal to make a bid for a contract. Bid bonds guarantee that after a contract has been awarded, the surety party makes sure that the principal meets all of their financial obligations. Bid bonds are important for contractors because they make sure contractors are paid in full for their work by the principal.

The Three Parties in a Surety Bond 

Insurance bonds only have two parties; these are the insured (the party who gets the insurance) and the insurer (the party who provides the insurance). Surety bonds have two similar parties called the obligee (usually a contractor) and the principal, but they also have a third party, the surety. 

The three parties all play an important role so it is vital to understand these roles. To help make it clearer, let’s use the example of a building project:

The principal is the party that receives the services that are agreed upon in a contract. In the example of a building project, this will be the construction firm that hires a contractor to do a specific job.

The obligee is the party which performs the service and is then paid by the principal. In this example, the obligee will be a plumbing or laboring contractor who will contribute to part of the project as stated in their agreement with the principal.

The surety is the party that is unique to a surety bond and makes sure that both the obligee and the principal live up to their side of the agreement.

How a Surety Bond Works

Every agreement between a principal and an obligee carries some risk, so in order to reduce the risk, a surety is ideal. No matter which kind of surety bond is in action, essentially what the surety does is if one of the other two parties fails in their duties, the surety first recompenses the injured party and then goes after the party who breached the agreement. If a contractor does not complete their tasks or does a bad job, the surety pays the principal and then takes action against the obligee. If a construction firm fails to pay a contractor, the surety pays them instead and will then take action against the principal.

Surety bonds are excellent for every kind of business and if your company is looking to hire or be hired by another party then you should always consider using a surety bond. They guarantee performance, reduce the risks that are potentially present in every business arrangement, and ensure that everyone pays or receives what they are due.