How Does a Surety Bond Work?
Jul 28, 2020
Find out how a surety bond can help your business.
What is a Surety Bond?
A common question is how does a Surety Bond differ from insurance? A Surety Bond or Surety is not exactly an insurance product but rather, a type of professional credit known as a bond or guarantee. It can be often be procured through insurance companies and are usually offered by insurance providers and brokers. However, it is not technically an insurance product. Instead, it falls under the broader umbrella of risk management and transfer options that an insurance provider can offer.
A Surety Bond is defined as a contract among at least three parties. Let’s outline them:
- The Obligee: Client of the principal and intended recipient of any losses from the Surety Bond
- The Principal: The primary party who will be performing the work of the contractual obligation
- The Surety: The one issuing the bond, who assures the obligee that the principal can perform the task
Surety Bonds guarantee that an individual or a corporate entity will meet the terms of a contract or fulfill a duty in accordance with all applicable regulations and laws. They offer fiscal protection for the public, employers and project owners.
Usually, a Surety Bond or Surety is a promise by a surety or guarantor to pay one party (the obligee) a certain amount if a second party (the principal) fails to meet some obligation, such as fulfilling the terms of a contract.
Which Industries Need Surety Bonds?
Including but not limited to:
- Notary Public
- Collection Agencies
- Health Clubs
- Travel Agencies
- Auto Dealers
- Medical Equipment Providers
What is an Example of a Surety Bond?
- The City of Toronto (the Obligee) wants to construct an office building and hires ABC Contracting (the Principal) for the job. ABC is required by the municipality to secure a construction performance bond to guarantee that they will fulfill the terms of the contract. ABC Contracting will buy a construction performance bond from a reliable and trusted surety company, likely through its insurance provider (the Surety).
- The Surety Bond protects the municipality by guaranteeing the performance of the contractor to fulfill the obligation to meet the agreement. If ABC fails to fulfill the obligation, then Surety Company must provide compensation to the municipality, or in this case, to the City of Toronto.
How does a Surety Bond help?
You may still be wondering, "So what is the point of a Surety Bond?" Why do you need a Surety? There can be different benefits to getting a Surety Bond if you're the Obligee or the Principal. Sometimes, Surety Bonds are mandated by one or more Obligees in a transaction or deal to ensure a fallback in case the Principal fails to uphold their agreement. Sometimes, the Principal obtains a Surety themselves to build trust with the client - as a gesture of professionalism.
How Much Do Surety Bonds Cost?
The quick answer is that it depends on the type of bond. Certain types of bonds are more expensive than others. A Surety Bond cost for a notary public bond is usually fairly inexpensive (less than $100) while the Surety Bond cost for an automobile dealer bond can be more expensive (anywhere from $1,000 to $10,000 and beyond.)
How is the Rate for a Surety Bond Calculated?
It is a form of financial credit so your surety bond rate is largely dependent on your credit score. There are other criteria used in calculating surety bond cost such as:
- The type of bond; some bonds are riskier than others
- The amount of the set/requested bond by the party enacting it; higher bond amounts will logically cost more than set lower bond amounts
- The risk level exhibited by the applicant; credit score, financial history, character etc.
Our Foxquilt team of insurance experts has a combined total of 50+ years in prudently advising corporations and individuals, of all types and sizes and across a range of industries, on Surety Bonding. We hope that by providing examples and explanations for complex concepts, such as Surety Bonds, you have one less thing to worry about and can focus more on what you love - your business! If you have further questions about Surety Bonds, our team of professionals are always happy to help review your scenario and guide you to a Surety that fits your needs. At Foxquilt, contractors and other business owners can leverage their community to get smarter Business Insurance tailored to their needs with exclusive savings as well. Get a quote online today.
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