Colorado Contractor License Bonds
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What Are They?
Construction contracting is governed by state and municipal laws and building codes. When a contractor license bond is required, the purpose is to help ensure that licensed contractors operate in full legal compliance.
Contractors whose business practices aren’t completely lawful and ethical can commit infractions that ultimately end up causing project owners and others financial harm. Contractor malfeasance also reflects badly on all contractors, not only the relatively few careless or shady ones. While Colorado contractor license bonds help ensure contractor compliance, they also provide a way for parties financially injured by a contractor’s actions to be compensated for monetary damages.
Who Needs Them?
The only contractors subject to statewide licensing requirements in Colorado are plumbers and electricians. However, general contractors are required to obtain local licenses in many municipalities. In some local jurisdictions, obtaining a contractor’s license requires the applicant to furnish a contractor license surety bond. Contractors need to be diligent in finding out what licensing and bonding requirements exist in the areas in which they do business.
How Do They Work?
Every contractor license bond is a legally binding agreement among three parties known as:
- The obligee (the licensing body requiring the bond),
- The principal (the contractor seeking a license), and
- The surety (the bond’s guarantor).
Each of these parties has different rights and responsibilities.
For example, the obligee establishes the required bond amount. This is sometimes called the bond’s “penal sum,” because it is the maximum penalty the principal could have to pay to the obligee or other injured party.
The principal is legally obligated to pay all valid claims. And the surety determines which claims are valid. The surety also sets the premium rate for the bond and, as the bond’s guarantor, agrees to lend the principal the funds needed to pay a valid claim.
It’s important to understand how the surety’s guarantee works. The surety has guaranteed that claims will be paid but is indemnified against any legal liability for damages owed to claimants. The surety typically pays the claimant directly as an extension of credit to the principal.
This gives the principal time to gather the necessary funds and repay the resulting debt to the surety. Most sureties allow installment payments over a certain period of time, especially for larger claim amounts. Because the legal obligation to pay claims rests entirely with the principal, not repaying the debt can result in the surety taking the principal to court to recover the funds, plus court costs and legal fees.
What Do They Cost?
To figure out the annual premium cost of a Colorado contractor license bond, multiply the penal sum by the premium rate, which the surety assigns through underwriting. The premium rate is determined for each applicant, based largely on the principal’s personal credit score. The better the principal’s credit, the lower the premium rate will be.
Why is the principal’s credit score so important? As with any other kind of loan, it’s a reliable measure of the risk inherent in lending money to a given individual. Someone with good credit poses relatively little risk to the surety, while the risk of not being repaid for claims paid on behalf of a principal with lesser credit can be much higher.
A well-qualified principal typically will be assigned a premium rate in the range of 0.5 to 3 percent.
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