An Introduction to Surety Bonds

Small business owners are faced with many of the same challenges, obstacles, and business process requirements as large corporations. They must create a business plan, forecast sales and profit, obtain proper legal advice, secure adequate business insurance, manage accounting and taxes, oversee a workforce, and more. But one requirement that is unique to some businesses is a surety bond.

What is a Surety Bond?

Surety Bond Definition: The definition of a surety bond is as follows: A surety bond is a binding agreement between three parties. This agreement sets forth a financial guarantee by one party ( “surety” ) to another party ( “obligee” ) that a third party ( “principal” ) will fulfill required obligations to the obligee, and that state, federal, and local laws and applicable regulations will be adhered to. Let’s examine each of the three parties.

  • Principal – This is the business owner that is required to present the bond. This might involve a specific project (as is the case in contract surety bonds) or it might be a stipulation for doing business in a particular state (as is the case with commercial surety bonds).
  • Obligee – (pronounced ob-li-jee) This party is the one requiring the surety bond to begin with. In the case of a construction project, this would be the project owner. For commercial bonds, this is typically a municipality such as state, county, city, with states being the most common type of obilgee in commercial surety bonds.
  • Surety – The surety is typically an insurance company that will issue the surety bond to the in exchange for a premium payment, which is much like a standard insurance premium. They are most concerned with determining the risk associated with the agreement. Credit worthiness of the principal is one of the main factors they use when determining the risk, and thus the premium.

Who Needs Surety Bonds?

While the most common form of surety bond is used for construction, there are many types of surety bonds available for a large variety of business and industries such as medical suppliers, mortgage and insurance brokers, auto dealers, health club owners, Notaries Public and more. Surety bonds can be a critical part of the success of any business owner as they help protect public and private investments by providing a secure foundation.

A surety bond is not a form of insurance but rather a financial guarantee or form of credit. This is an important distinction in the definition of a surety bond. The specific type of surety bond is defined by what it guarantees, but essentially all bonds guarantee the fulfillment of a legal obligation between three parties and are designed to protect these parties from financial loss. Additionally, businesses and industries purchase surety bonds to guarantee their customers are protected in the event of contractual problems or default. If a valid claim is made, the surety company will either reimburse the customer or make good on the contract.

Obtaining a Surety Bond

In addition to insurance companies, there are also surety companies who specialize in furnishing surety bonds. These companies use a highly thorough process and analyze the applicant’s business operations, credit history, financial strength, experience, equipment, management, work performance, references, reputation and more.

Many variables affect the cost of the surety bond, but applicants with excellent credit will discover bond rates to be competitive whereas applicants with poor credit may have to consider paying higher rates for high risk bonds. Additionally, applicants will have to offer an equity source as a form of security for the bond in which they are applying.

Examples of specific surety bonds:

Construction Surety Bonds

Any construction project is an investment of both time and money and all parties involved want to be certain that neither is wasted on contractors that cannot finish their part of the job. A Construction Bond is designed to protect the project owner from financial loss or liability when using a contractor to complete the work. Essentially, a Construction Bond guarantees the project owner that the contractor will finish the construction project for which they’ve bid according to the specifications outlined in the contract and will pay all suppliers and subcontractors. As such, surety bonds associated with construction projects are generally referred to as contract bonds, and include the following types surety bonds: bid bonds, payment bonds, performance bonds, construction bonds, subdivision bonds, and site improvement bonds.

Medicare (DMEPOS) Bonds for Durable Medical Equipment

Directed at controlling malpractice and medical fraud, Medicare Bonds, also known as DMEPOS Bonds, are mandatory for manufacturers and suppliers of durable medical equipment, prosthetics, orthotics and supplies. A business that plans to sell and bill Medicare or Medicaid for these products must obtain one of these bonds. In January of 2009, the Centers for Medicare and Medicaid Services (CMS) imposed a bonding requirement which mandates that a company post a $50,000 surety bond except in certain limited cases. Bonds for suppliers that are considered high risk will increase beyond $50,000 while some suppliers may qualify for an exemption.

Mortgage Broker Bonds

For many consumers, purchasing a home is often the most important transaction they will ever make, and they need to know that they are protected in the event of fraudulent or illegal activities on the part of the industry professionals who help them with this transaction. A Mortgage Broker Bond is required for brokers, lenders and bankers in almost every state. The purpose of this bond is to protect the consumer against fraud or other illegal practices and guarantee that the mortgage broker will operate according to the rules and regulations of the state in which they are licensed. A Mortgage Broker Bond not only protects the consumer, it also protects the loan or mortgage provider.

Insurance Broker Surety Bonds

Because Insurance brokers sell a wide variety of insurance types and brands, they can often provide the best options and prices. An Insurance Broker Bond ensures that a licensed insurance broker is ethical and operating according to applicable laws. While this bond protects consumers who might be harmed due to the actions of an insurance broker, it also guarantees that brokers properly account for premiums collected on behalf of the companies they represent. Insurance brokers are liable for the face value of the bond and should anticipate paying higher rates for a high risk bond if their credit is poor. The bond value varies and is based on the forecast of the level of business.

Auto Dealer Bonds

Licensed auto dealers are required to have an Auto Dealer Bond, also known as DMV Bond and Used Car Dealer Bond. The Auto Dealer Bond is a financial guarantee that the auto dealer will operate according to all federal, state and local laws and industry rules and regulations. Designed to protect the consumer from any product or service defects resulting from fraud or illegal actions on behalf of the auto dealer and its employees, these bonds also signify that the auto dealer’s financial information has been reviewed and the dealer has been found competent and financially stable by a surety company.

Health Club Bonds

Health Clubs have become one of the most popular and affordable ways to lose weight and get fit. In the United States alone, there are more than 45 million members using over 30,000 health clubs, but what happens to a membership that has already been paid for when a health club closes? Many states require health clubs to get bonded. A Health Club Bond protects members who have paid for their club membership in advance. Should a health club fail to provide services or close their doors, a Health Club Bond guarantees the refund of membership fees.

Notary Public Bonds

A Notary Public is responsible for authorizing and certifying the identities of persons linked to a contract. In the event of misconduct on behalf of the notary, there can oftentimes be devastating financial consequences. A Notary Bond will protect those persons from a notary’s action or inaction. If the notary makes a mistake, whether intentional or unintentional, a claim can be filed against the bond for financial compensation. Notary Bonds also help to deter the notary from fraudulent or unethical behavior.

How We can Help

BuySurety.com is a wholly owned subsidiary of American Contracting Services, a brick-and-mortar surety bond brokerage firm established in the 1990s. We understand the value of the internet in connecting us with individuals who are in need of personal attention and service. No matter what your credit rating, we can help advise you in the best course of action. Contact us today and let us put together an online surety bond quote for you that will exceed your expectations, whether you need a fidelity bond, contractor bond, dealer bond, or any other surety bond.

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