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If you have any questions about surety,
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A surety bond is a guarantee, in which the surety
guarantees that the contractor, called the “principal” in the bond, will
perform the “obligation” stated in the bond. For example, the “obligation”
stated in a bid bond is that the principal will honor its bid; the
“obligation” in a performance bond is that the principal will complete the
project; and the “obligation” in a payment bond is that the principal will
properly pay subcontractors and suppliers. Bonds frequently state, as a
“condition,” that if the principal fully performs the stated obligation,
then the bond is void; otherwise the bond remains in full force and effect.
If the principal fails to perform the obligation stated
in the bond, both the principal and the surety are liable on the bond, and
their liability is “joint and several.” That is, either the principal or
surety or both may be sued on the bond, and the entire liability may be
collected from either the principal or the surety. The amount in which a
bond is issued is the “penal sum,” or the “penalty amount,” of the bond.
Except in a very limited set of circumstances, the penal sum or penalty
amount is the upward limit of liability on the bond.
The person or firm to whom the principal and surety owe
their obligation is called the “obligee.” On bid bonds, performance bonds,
and payment bonds, the obligee is usually the owner. Where a subcontractor
furnishes a bond, however, the obligee may be the owner or the general
contractor or both. The people or firms who are entitled to sue on a bond,
sometimes called “beneficiaries” of the bond, are usually defined in the
language of the bond or in those state and federal statutes that require
bonds on public projects.
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TYPES OF SURETY BONDS |
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BID BONDS
A bid bond guarantees the owner that the principal
will honor its bid and will sign all contract documents if awarded the
contract. The owner is the obligee and may sue the principal and the
surety to enforce the bond. If the principal refuses to honor its bid,
the principal and surety are liable on the bond for any additional costs
the owner incurs in reletting the contract. This usually is the
difference in dollar amount between the low bid and the second low bid.
The penal sum of a bid bond often is ten to twenty percent of the bid
amount.
PERFORMANCE BONDS
A performance bond guarantees the owner that the
principal will complete the contract according to its terms including
price and time. The owner is the obligee of a performance bond, and may
sue the principal and the surety on the bond. If the principal defaults,
or is terminated for default by the owner, the owner may call upon the
surety to complete the contract. Many performance bonds give the surety
three choices: completing the contract itself through a completion
contractor (taking up the contract); selecting a new contractor to
contract directly with the owner; or allowing the owner to complete the
work with the surety paying the costs. The penal sum of the performance
bond usually is the amount of the prime construction contract, and often
is increased when change orders are issued. The penal sum in the bond
usually is the upward limit of liability on a performance bond. However,
if the surety chooses to complete the work itself through a completing
contractor to take up the contract then the penal sum in the bond may
not be the limit of its liability. The surety may take the same risk as
a contractor in performing the contract.
PAYMENT BONDS
A payment bond guarantees the owner that
subcontractors and suppliers will be paid the monies that they are due
from the principal. The owner is the obligee; the “beneficiaries” of the
bond are the subcontractors and suppliers. Both the obligee and the
beneficiaries may sue on the bond. An owner benefits indirectly from a
payment bond in that the subcontractors and suppliers are assured of
payment and will continue performance. On a private project, the owner
may also benefit by providing subcontractors and suppliers a substitute
to mechanics’ liens. If the principal fails to pay the subcontractors or
suppliers, they may collect from the principal or surety under the
payment bond, up to the penal sum of the bond. Payments under the bond
will deplete the penal sum. The penal sum in a payment bond is often
less than the total amount of the prime contract, and is intended to
cover anticipated subcontractor and supplier costs. |
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