Surety bonds are widely used in industries such as construction, government contracting, energy and utilities, real estate, and finance to provide project owners, clients, and regulatory bodies assurance against loss. Because surety bonds and insurance have some features in common, it’s not unusual for people purchasing a surety bond for the first time to assume they can pay for it in monthly premium payments, like they pay for their insurance policies. But that’s not generally the case.
Understanding the structure and payment frequency of surety bonds is essential for managing cash flow and budgeting effectively.
Surety Bond Professionals is a family owned and operated bonding agency with over 75 years of experience. With access to a broad range of surety markets, our expert agents are ready to assist with all of your construction bond needs.
Types of Surety Bonds and Payment Structures
First, let’s make the distinction between surety bonds that are a one-time purchase for a specific period of time and others that are renewed annually for as long as they must remain in force. Bid Bonds are a good example of the former.
Bid Bonds
Bid bonds are used in competitive bidding situations to guarantee that the winning bidder will enter into a contract and provide the necessary performance and payment bonds. They serve a short-term purpose, from bid submission until the winning bidder enters into a contract with the project owner. At that point, the bid bonds submitted by all bidders are canceled.
A bid bond premium (a small percentage of the bid amount) typically is a one-time non-refundable payment made when the bid is submitted. However, in some cases, the winning bidder’s premium may be credited toward the cost of the required performance and payment bonds.
Performance Bonds
Performance bonds are an example of longer-term surety bonds. They are required as a guarantee that a contractor will complete the project according to the contract terms. The guarantee is secured by the legal agreement that the guarantor (known as the “surety”) will extend credit to the contractor for the purpose of paying claims if that becomes necessary. This “loan” costs the contractor a small percentage of the total bond amount, that percentage being the premium rate. The premium rate usually is in the range of 0.5% to 3% depending on the project’s size and complexity, as well as the contractor’s creditworthiness.
Performance bond premiums are paid annually or as a one-time premium for the duration of the project. If the project extends beyond the initial term, or if additional bonds are required for subsequent phases, the premium may need to be renewed.
License Bonds
Certain surety bonds must be renewed annually to remain in force. License bonds are the best example. In states or local jurisdictions that require contractors to be licensed, applicants for licensure must furnish a contractor license bond. These bonds have a duration of one year (or two, in some cases) and must be renewed when they expire. Failure to renew an expired license bond can result in license suspension or revocation. Purchasing a license bond is a prerequisite for obtaining a license in many occupations.
Why Surety Bonds?
In many instances, the legal requirement is to provide security in the form of cash, an irrevocable letter of credit, OR a surety bond. So why is it that in such cases, most people will choose to purchase a surety bond? It’s primarily a matter of cash flow management. Why tie up what could be a substantial amount of cash or credit for a year or more when there’s the option of paying a small percentage of that amount as a surety bond premium? Maintaining adequate cash flow is always a concern for contractors and other businesses.
Can I Pay in Installments?
Some surety bond providers allow bond purchasers to pay premiums in installments rather than requiring a lump sum payment upfront. Whether installment payment plans are available depends on the surety bond agency, the type and amount of the bond, and the purchaser’s financial circumstances.
When an installment plan is offered, it typically includes a down payment followed by a series of scheduled payments over a specified period. Such payment plans often involve additional fees or interest.
Working closely with surety professionals will help you understand payment structures and negotiate favorable terms. Construction contractors, in particular, may have multiple projects going on at the same time. Establishing a relationship with a reputable surety not only can qualify a “frequent flyer” for flexible premium payment terms but also expedite the underwriting process and build their bonding capacity over time.
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