Performance Bonds for Contractors
Performance bonds guaranteed the satisfactory completion of work that you have earned through the bidding process. If you do not complete the work project as specified the surety that issued the bond will be asked to hire and pay another contractor to finish the work you didn’t complete. Once a surety completes the work of pays the penal sum of the performance bond, they will seek recovery for their outlay from you and your assets. Bid and performance bonds are not insurance. The premium you pay is a fee for using the creditworthiness of the surety as testimony to your character and capabilities. The only party that can make a claim against the bond is the Obligee. The obligee on a performance bond is the one to whom you owe the obligation of performance.
What sets you up for successful bidding is the work you do in advance with me to set up your bonding relationship. Since performance bonds are underwritten based in some large part upon the way you have handled your business and credit relationships in past work, starting in advance of your need for a bond is very important suggestion to obtaining the bond limits you may need. Getting yourself set up to bid on work that requires a bid and performance bond shouldn’t be the last thing you do before sending in your bid!
As covered in the Bid bonds section, performance bonds for contractors are considered Surety Bonds and are generally needed when public and municipal entities contract for work that exceeds $25,000, although that amount may not be the same in every jurisdiction. If you have set up a bond relationship and have work that requires a bid bond that is inside of the pre-authorized limits set up for you, your bid bond is replaced with the performance bonds when you are awarded the contract for the bid work. Now the confidence the Owner had in your bid becomes an obligation of performance to the specifications of the work to be done. Once you accept the work and the bid is awarded to you, the company that issued you bid bond will provide the performance bond for the amount of your bid accepted or negotiated as a part of the process of helping you earn the business. The owner still expects you to be qualified for the work, expects you to have thoroughly considered the work specifications, and expects you to take on the work as agreed. For the bond underwriter in moving from a bind bond to performance bonds is the amount of their obligation. Once you have been awarded the bid their obligation changes from 5-10% of the bid amount to the total of the estimated work you have estimated and were awarded to do.
We suggest pre-qualification is you have never bonded before but any change in a bond relationship requires careful planning so that you have the bond limit available for the kind and types of work, and work volume, that you might ordinarily encounter operating your business. If you are new to bonding and bidding on work requiring bonds, our advice is to start using your bond relationship on smaller jobs where you and the bond company can become familiar with your ability to accurately bid the work. How you handle the bids and the work you speaks loudly about your abilities. As you are able to demonstrate the ability to bid accurately, win work, and complete it on budget and on time, you will earn the trust of the bond underwriter. In no time at all you the underwriter will be more able to accommodate your need for greater and greater bond authority and more freely offer you higher and higher limits so you can bid, win, and complete work where higher limits of performance bonds are needed.
The cost for a Contractor performance bond is usually determined on a case by case basis with some margin removed for longer and larger bonds where a good and established relationship has developed. For most initial bonds a good range to consider is about 3-4% of the contract amount but the rates will vary based upon a few variables that make specifying a rate difficult in this type of presentation. The fee for the performance bond is a fully earned fee for the length of the project and until it is complete without a calendar limitation. Most bond underwriters re-evaluate your financial statements and financial position every two or three years as a routine process but may take a look more often when indicated by results or events. Work in hand and not yet marked as complete is one of the limitations that may prevent the underwriter from offering additional bid bonds. Think of bonding as being similar to a credit limit. Some companies offer easy bond qualification programs that are usually capacity limited to $100,000 to $300,000 of maximum total outstanding bond amounts. Higher limits are more thoroughly underwritten and subjected to more stringent underwriting requirements and the appetite for each bond writer differs from one to another. Keeping a good balance sheet is important if you want to bid on higher value projects and work.
The standard of the industry today for projects where federal money is a sizable portion of the funding, the Miller Act guides the requirements and specifies that all bidders submit their bids with a bid bond. This then means if you are awarded the contract, you will have to provide a performance bond. These bonding practices have leaked into private project construction bidding and today almost all project owners and property developers have developed specifications to require you to submit a bid bond whether they request one to be provided in any given project..
Companies writing surety bonds including performance bonds must meet certain financial requirements. Insurance companies produce a statutory report of their financial condition at least once a year and an image of this statement (summarized) is often required by the Obligee to verify that the Surety meets minimum conditions. Their statement is referred to as Certificates of Authority. The United States Department of Treasury produces a circular 570. This circular changes periodically so follow the link to view qualified sureties for federal projects. One other note here. It is not necessary that the surety be an insurance company but most of them are. Individuals and companies that can meet the qualifications may be acceptable sureties for federal projects.
As a general rule you will be asked to submit the following in order to properly consider your request for bid and performance bonds:
- At least two years of CPA prepared financial statements. Usually reviewed statements are required.
- A copy of the contract for the work to be performed and the bid specifications.
- A properly and completely filled in application for a bond with the surety,
- Personal financial statements of the principal owners including the list of property owned.
- Occasionally, tax returns are required.
Find a sample Certificate Of Compliance here issued in Ohio.
I have spent almost my entire 4 decade insurance career working with and insuring small business owners and contractors and tradesmen. I maintain regular office hours Monday – Friday and from 9 – 5 most days for your convenience. If those hours won’t work, call and schedule time with me that is mutually convenient at most other hours of the day and week. You can reach me at (513 779-7920. My office is located at 8114 Paul Manors Dr, West Chester, OH 45069.