There are three parties to every surety bond agreement, which is a legally binding contract:

• The “obligee” is the state or local agency requiring the surety bond.
• The “principal” is the party required to purchase the bond.
• The “surety” is the company underwriting and issuing the bond.
• The obligee sets the required amount of the bond, which is the maximum amount that will be paid out on a claim. The obligee also spells out the conduct required of the principal in order to avoid claims against the surety bond.

Any party who suffers a financial loss because the principal has violated the terms of the bond has the right to file a claim against the bond. The principal is solely responsible for paying all valid claims.

However, the surety will often pay a claim and wait to be reimbursed by the principal. This ensures timely settlement of the claim and gives the principal some time to gather the necessary funds.

What the principal in a bond agreement actually pays for a surety bond is a small percentage of the required bond amount established by the obligee. That percentage, known as the premium rate, is determined by the surety company based on the applicant’s credit score and other indicators of the likelihood of claims being filed against the bond. Those with good credit can expect a rate of 1-3%. Those with poorer credit may pay a higher premium.

No claim against a bond will be paid until the surety company has investigated and determined that it is valid. After making payment to a claimant, the surety company will demand reimbursement from the principal.