Construction Bond Basics – Contract Basics Too!

There are certain construction bond basics you should be familiar with.  Depending upon the work a surety bond is usually required in some form or another on every construction project. Having a general understanding of surety bonds and construction bonds that you may be required to provide is essential to your business success. The better you know this topic the better it can be for your business.

1. License and Permit Bonds – Contractor Registration Bonds

These surety bonds are guarantees to a licensing or permit-granting authority, such as a municipal or county building department. The penalty amount (which is the amount of the bond) is paid to the municipal or county authority when you have failed to complete work according to the building codes. This helps assure enforcement of the building codes and the completion of work you undertake subject to building code enforcement.

2. Bid Bond Basic Info

A bid bond is submitted with your bid for work where a performance bond is going to be required to earn the contract. A bid bond helps to assure that you will accept the work at the price bid, that the bonding company will issue a performance bond, and that you are qualified to complete the work according to plan specifications. The bond amount is paid by the Surety to the Obligee to offset the cost of accepted other bids where cost is higher.

3. Performance Bond Basic Info

Once you have been awarded contracts for work you have bid on the Obligee requires a performance bond to assure that you complete the work according to specifications and on schedule as much as humanly possible. If you default on your agreements the Surety may be compelled to step in and pay the bond amount or hire tradesman to finish the project contract that was unfulfilled. Your assets are then subject to attachment by the Surety since bonds are not insurance and they want to recover their payments on your behalf. Payments for bonds are not premium, they are fees attached to the financial guarantee that a bond represents.  Here is an image of the American Institute of Architects AIA A312 Performance and Payment Bond.

4. Supply Payment Bond Basic Info

The Supply Payment Bond is a Surety Bond that guarantees that all subcontractors, laborers, and material suppliers will be paid for their services and that the project will be free of mechanics liens when complete. Like all Surety Bonds the agreement is between the Surety, Principal and the Obligee.

Other Terms that You May Encounter in Bid Contracting:

1. Mechanics Lien

A Mechanics Lien is a legal attachment or claim made by a contractor, sub-contractor, or other supplier of goods and services in the construction industry to help assure that payments delayed are eventually received. Until the Mechanics Lien is cleared a property may not be able to license or finance the property.

2. Notice of Commencement

A “notice of commencement” is a filing made by the property owner with the County Recorder’s Office before any work begins that provides the exact details that Contractors, sub-contractors and material suppliers will need to prepare any Mechanics Lien. There are specific legal requirements about what the Notice must contain. Under some interpretations it also establishes liens that have higher priority such as a lender on the project, a Surety, etc.

3. Hold Harmless Agreement

A hold harmless agreement is an attempt to minimize litigation and results in the surrender of rights of recovery against general contractors and project owners that might be pursued by the sub-contractor’s insurance provider conducted as a normal course of affixing the degree of responsibility for injuries or property damage, and in seeking recovery for payments made for liability on the project for injuries or damage to property.

4. Additional Insured Requests – Certificate Holders

You will be asked in most instances to provide evidence of your liability insurance coverage that complies with the stated requirements of the project. This evidence of coverage is commonly communicated on an Acord “certificate of insurance” form. In almost every instance you will also be asked to add the primary contractor and property owner as an “additional insured” on the Acord form. There is a place on the form to note the name, address, and contact person as “Certificate Holder” and boxes for noting the status as “additional insured” and whether a “waiver of subrogation” is included.

5. Waiver of Subrogation

A waiver is a relinquishment of legal rights. A Waiver of Subrogation is a waiver of the rights of the sub-contractor’s insurance company of any rights of recovery against other tradesman to which the “waiver” was given. Almost every insurance policy contains a subrogation provision so that the responsible parties can be pursued for recovery of amounts your insurance company has had to pay to protect your legal interests.  Subrogation literally means to “replace in position of rights” and payment of an insurance claim by your insurance carrier confers the transfer of any rights for recovery that may exist from you to the insurance carrier.  Subrogation exists within insurance to protect insurance companies from fraudulent claims and is consistent with the theory behind insurance and liability that the negligent parties should be held responsible for the dollar cost of the loss.