Bonding for Federal Construction Projects

The Miller Act (40 U.S.C. §§ 3131-3134) was enacted in 1935 to protect subcontractors and suppliers and make sure that federally funded projects are completed according to the contract.

This was enacted because government property cannot have a mechanic’s lien placed upon it, which means subcontractors and suppliers risk non-payment. The Miller Act enforced two requirements to prevent this:

• Performance Bonds – These guarantee that the contractor will complete the project according to the terms of the contract.
• Payment Bonds – These ensure that subcontractors, suppliers, and laborers receive payment for their services. If a contractor fails to pay, the bond ensures financial protection for those involved.

Are There Any Exemptions to the Miller Act?

There are some exemptions for the Miller Act requirements and these include:

• If a project falls below the $100,000–$150,000 threshold, it may still require alternative financial assurances, such as irrevocable letters of credit or escrow agreements.
• Projects awarded under emergency provisions or certain small business set-aside programs, where the federal government may waive bond requirements.
• Some federal projects fall under alternative procurement methods.

If a smaller project falls below the $100,000–$150,000 threshold, they may still need other forms of financial assurance, like irrevocable letters of credit or escrow agreements.

The most common types of bonds required for federal construction projects are performance bonds, payment bonds, bid bonds, and supply bonds.

Performance bonds

One of the biggest concerns with federal construction projects is that the contractor could become insolvent and default on a contract or that the quality of work will be substandard, requiring it to be redone by another contractor. Performance bonds guarantee satisfactory project completion in accordance with contractual requirements and guarantees that funds will be available to compensate the project owner in the event that the contractor fails to live up to that performance guarantee.

Payment bonds

Payment bonds usually are required in conjunction with a performance bond to guarantee payment of laborers, subcontractors, and suppliers in accordance with contractual obligations.

Bid bonds

Bid bonds may be required from contractors bidding on a federal construction project as a way to ensure that the winning bidder will go ahead and accept the contract. Such bonds will compensate the federal project owner for the cost of having to go through the bid solicitation and evaluation process again to select another contractor, should the awarded contractor decide not to proceed with the contract. It is standard to provide a 20% bid bond as security on bids for federal government contracts.

Supply bonds

A supply bond sometimes is required as a guarantee that money paid to a contractor for the purpose of purchasing supplies actually is used for that purpose. It also ensures that the contractor doesn’t cut corners and substitute inferior materials for those specified in the contract.

There are three parties to every federal construction bond:

1. “Obligee” (the project owner) requiring the bond
2. “Principal” (the contractor) purchasing the bond
3. “Surety” (the company) guaranteeing the bond

Any violation by the principal of the terms of the legally binding surety bond agreement that causes a financial loss by the obligee can result in a claim against the principal’s construction bond. The legal obligation to pay claims belongs solely to the principal.

The surety will investigate each claim received, decide whether it is valid, and approve it for payment if it is. Because the surety has guaranteed the payment of claims, the surety normally pays any valid claim initially and is then reimbursed by the principal. This ensures prompt compensation of the injured party and gives the principal some time to gather the funds to cover the claim.

Repaying the surety for claims paid on the principal’s behalf is not optional, as the surety is indemnified against any legal liability for claims. The principal’s legal obligation to pay claims simply shifts to repaying the surety. Failure to do so can result in the surety taking legal action against the principal.

Purchasing a construction bond requires payment of a one-time premium that is a small percentage of the required bond amount. The obligee establishes the required bond amount (also known as the bond’s “penal sum”), which is the maximum amount that will be paid on a single claim. The surety sets the premium rate for each bond based largely on an underwriting assessment of the principal’s creditworthiness.

The best indicators of risk involve the principal’s financial capacity, prior work portfolio, and credit score. The surety will use these metrics to assess the risk and determine the bond capacity (limits) of the subject contractor.

If the contractor fails to meet the terms of the contract, then the federal government, subcontractors, or suppliers can file a claim against the bond. First the surety will investigate to see if the claim holds validity. If the claim is legitimate the surety will pay the obligee (the claimant). At this point, the contractor is legally required to repay the surety for the amount paid on their behalf. Failing to do so can lead to legal action and difficulty obtaining future bonds.

Factors That May Influence a Contractor's Bonding Capacity

Factor	How It Affects Bond Capacity
Financial Strength	Surety agencies review financial statements, cash flow, and profitability. A strong balance sheet increases bonding capacity.
Credit Score	Higher credit scores show lower risk, leading to higher bond limits. Poor credit may require collateral or increased scrutiny.
Industry Experience	Contractors with a proven track record in similar-sized projects qualify for larger bonds.
Past Performance	A history of completed projects without defaults reassures sureties and strengthens bonding potential.
Existing Workload	A contractor’s total active projects influence whether they can take on additional bonded work.
Collateral or Indemnity	Some bonds require personal or business collateral, especially for high-risk contractors or large projects.
Working Capital	Surety agencies consider available liquid assets (cash, accounts receivable) to ensure a contractor can fund project costs before payments are received.

How to Increase Bond Capacity

If a contractor's bonding capacity is too low for a federal project, there are steps they can take to improve this:

1. Reduce debt, improve cash flow, and maintain strong liquidity.
2. Build a better credit history by avoiding late payments and resolving debt.
3. Complete mid-sized projects successfully and progress to higher values.
4. Work with an experienced surety agency who can help you create a plan to achieve success.

Yes. Small businesses also qualify for federal construction bonding through programs like the Small Business Administration Surety Bond Guarantee Program. This program helps contractors who might not meet traditional surety requirements by backing up to 90% of the bond risk. A contractor in this position should work with a surety agency like Surety Bonds Professionals, which participates in SBA programs.

If the contractor fails to meet the terms of the contract, then the federal government, subcontractors, or suppliers can file a claim against the bond.

1. First the surety will investigate to see if the claim holds validity.
2. If the claim is legitimate, the surety will pay the obligee (the claimant).
3. At this point, the contractor is legally required to repay the surety for the amount paid on their behalf. Failing to do so can lead to legal action and difficulty obtaining future bonds.