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A Brief Introduction to Surety Bonds

Posted: October 12, 2021 at 8:19 am / by / comments (0)

There are plenty of things that differentiate a small business from, for instance, a corporation or a major business. However, in terms of how you run them, there are really very few differences. In order to establish both, you need to have a solid business plan, forecast sales and revenue, secure proper insurance, seek legal advice, oversee your workforce, etc. One particular element that businesses of all sizes have to obtain, at some point or another, is one or more surety bonds.

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So, what exactly is a surety bond, you might be wondering. Are there different types of surety bonds, and which ones should you get? What might be the benefits of having surety bonds in the first place? Well, this article is here to help you find out. We will go over everything you need to know about surety bonds in 2021, no matter your business’ size or reach.

Defining Surety Bonds

A surety bond is a binding agreement between three separate parties about a particular project, business, or really anything else. The three parties in question all have a role to play in drafting and enforcing a surety bond, and those parties include:

  • Obligees
  • Sureties
  • Principals

An obligee is a person or an entity that requires the bond. It can be the owner of a project, a business, a city, a municipality, or even a state. The principal is the person or business entity whose job is to obtain the bond itself and pay for it. Finally, there’s the surety itself, the independent guarantor that mediates between the first two. A surety provider provides compensation to the obligee should the principal fail to honor their part of the agreement in some way. The principal is responsible for paying the surety back for any such compensation.

Different Types of Surety Bonds

There can be as many different bonds as there are business arrangements. In other words, there are thousands of bond variants, and dozens of ways to classify them. Most often, we group them into contractor bonds, commercial bonds, and court bonds, based on their intended purpose.

Contract surety bonds are in place when we have a legal contract that we want to see honored. In other words, such bonds cover any and all compensation for the obligee if the principal doesn’t deliver on the contract’s agreed terms, or if the contract defaults. Normally, the documents handle items related to payment, performance, materials, bids, and other minutiae. Some subvariants of contract bonds include:

  • Bid bonds
  • Labor and materials bonds
  • Performance bonds

Unlike contract bonds which deal with specific businesses, commercial surety bonds cover entire markets. Their job is to regulate each market and make sure that no individual or company engages in harmful business practices. Similarly, to contract bonds, this particular type also has its own subtypes:

  • Lost document bonds
  • License and permit bonds
  • Customs and excise bonds
  • Administration, property, and guardianship bonds
  • Sales tax bonds
  • Auto dealer bonds
  • Business service bonds

Court surety bonds are linked to any legal action which the obligee might be pursuing. Their job is to reduce potential financial losses or help the obligee reach their court-specific goal. Usually, we divide them into judicial and fiduciary/probate bonds.

Who Needs Surety Bonds?

The short answer to that is — anyone, really. All businesses within a state that wants to demonstrate how committed they are to ethical business practices and financial responsibility will aim to acquire surety bonds, no matter the nature of their dealings. More often than not, surety bonds online are linked to construction contractors. However, literally any entity can receive these documents, for instance:

  • Auto dealers
  • Public insurance adjusters
  • Mortgage brokers
  • Insurance brokers
  • Loan originators
  • Private investigators
  • Credit repair servicepeople
  • Medical suppliers
  • Health club owners
  • Importers and exporters
  • Notaries public

Interestingly enough, though it sounds complicated, it’s really not that hard to acquire a surety bond. In fact, some bond issuing companies even offer all of the relevant forms online.

The Cost of Surety Bonds

Surety bond cost is a frequent topic online, especially with new, small businesses. We should stress right now that the cost of a surety bond is not the same as the total bond amount. The total bond amount, also known as the bond premium, is the entirety of the sum you receive as the obligee. On the other hand, the surety bond cost is but a mere percentage of that. For example, if you require a total of $30,000 for an auto dealer’s license, the surety can approve you at 10%. If so, the cost of your bond would be $3,000.

Determining the cost of your bond will depend on a few key factors:

  • The type of work you need to be completed
  • Business owner’s personal credit score
  • The business’ financial strength
  • Contract size and scope
  • The state where your company conducts its work

Benefits of Surety Bonds

Surety bonds are not like insurance. In fact, they are quite cost-effective and they allow you the freedom to allocate your assets as you see fit. For instance, you do not have to support a bond with any money or collateral. That enables you to reduce debt, free up some necessary funds, and even tender for more contracts. And unlike a bank guarantee, a surety bond has lower base rates and zero line fees or utilization fees. No matter how you slice it, getting a surety bond is definitely something you need to consider.

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