Surety Bonds and All You Need to Know About Them
We all know what insurance is and how it works. We need it to cover our financial losses in different scenarios. However, not everything can be covered under insurance. This holds true in the case of work contracts which normally don’t receive insurance coverage. For them, it’s a surety bond that provides the much-needed financial protection.
But what are surety bonds exactly?
Surety bonds are a form of a binding contract between two parties, with a third party issuing the bond. The first party is a principal, who needs a contract from an obligee (second party), who is also the project owner. The third party is typically a bank, although several private players also issue such surety bonds.
How Do These Bonds Work?
The principal (often a contractor) is bound to work for the obligee (project owner) under the surety bond’s terms and conditions. The third party guarantees optimal performance from the principal since he is bound by the bond. If the principal fails to deliver or defaults, the surety company compensates the project owner, thereby saving them from monetary loss.
Surety bonds create a win-win situation for all. The contractors get a better chance of winning the contract. The project owners get an assurance of getting the work done to their satisfaction. Even the surety companies get their due by issuing surety bonds according to the credibility of the principal.
Aren’t Surety Companies at a Risk of Loss?
Surety companies know that there is always a risk of incurring loss for them. This is why they run an extensive check on the principal’s background, their past performance, work ethics, and so on. The lower the reputation of a principal; the higher will be the guarantee value of the surety bond. Even the bond itself would cost a lot more to the principal.
This way, surety companies always ensure that even they don’t take a loss if the principal fails to live up to expectations. They recover that loss value from them in the future.