Surety is somewhat a complicated term, mainly because it’s the legal frame that involves three separate parties, unlike regular insurance, which only involves two. It’s a type of guarantee, which is issued by the surety or the guarantor to the party that is conducting business (which is also known as the principal). Surety guarantees that the principal will meet the obligation and fulfill all terms of the contract they have signed with the third party (or the obligee). Surety protects obligees’ interests and guarantees that principal will provide exceptional service to the government, other businesses or individual clients.
Many business owners consider surety as an unwanted necessity. Since the Miller Act, the government requires them to buy surety bonds in order to get their license or to bid or work on federally funded construction projects. This also prevents them from realizing some of the best benefits of surety coverage. In this article, we’ll explain surety bonds and list some of the benefits they bring to the business owners.
Different types of surety
You’ve probably heard that there are several types of surety. Bonds are usually categorized depending on their purpose. So there are:
1. License bonds
If you’re just opening a service business and you want to get a license and make it legit, you’ll probably need to obtain a license surety bond. With this type of surety your customer base (or the general public) acts as the obligee and the bond protects them in case you fail to provide the adequate service. There are many different types of license surety bonds, depending on the type of business you wish to start. For example, there are:
- Auto dealer bonds – protect your buyers and allow you to sell vehicles and operate your dealership.
- Freight broker bonds – protect shippers and motor carriers from freight brokers, who don’t follow the FMCSA
- Mortgage broker bonds – allow you to start a mortgage business and protect your future clients;
- Contractor bonds – are different from the regular contract bonds, because they only allow you to operate as a contractor. Government or your clients may also ask for additional surety for some of your future contract projects.
2. Contract bonds
Contractor bonds are the most common type of surety. These bonds are required for public contractor jobs, but corporate and individual clients might also ask you to get them. It’s much easier for bonded construction businesses to find clients because surety serves as a guarantee for their work. There are also several types of contract surety bonds, depending on what type of bidding or project they relate to:
- Bid bonds – allow contractors to bid on government funded projects;
- Performance bonds – lets contractors work on the project after their bid was accepted;
- Payment bond – guarantees that contractors will pay off all of the sub-contractors and suppliers they work with;
- Maintenance bond – guarantees that contractor will conduct regular warranties and allows them to bid on projects that require this type of obligation;
- Supply bonds – are created for suppliers and allow them to bid on projects that require them to supply materials or machinery;
3. Other bonds
Since license and contract bonds are the most common type of surety, we’ve decided to put all other types of commercial bonds into a separate group. Surety principles can be used for protecting the interest of different obligees. These are some of the most popular types of commercial surety bonds:
- Fidelity bonds – protect your customers from employee theft;
- Court bonds – guarantee that the accused party will show up in court;
- Title bonds – guarantee the ownership of the vehicle, and are used by car owners whose titles are lost or stolen.
Benefits of surety bonds
We all know the benefits surety bonds bring to obligees. Although business owners are very reserved when it comes to buying surety bonds, this legal frame offers plenty of benefits for them too.
- They improve principal’s reputation, by making sure that their projects will be successfully completed.
- Surety allows contractors to bid and work on big government funded projects and they don’t require any type of tangible security. Contractors are free to use their assets for completing the project or funding their business growth.
- Surety companies offer legal and technical assistance to companies that have troubles with finishing the project.
- Surety company guarantees that contractors will only pay what they owe.
Of course, all of this goes if you do business with a reputable surety bonds company (you can find useful surety company ratings here).
If you think about it, surety provides the same level of protection to both obligees and principals. It protects obligees money, but it also makes sure that every project gets done and that contractor’s reputation is left intact. This allows contractors to continue their work, even after expensive failed projects that would otherwise lead them to liquidation and bankruptcy.