What is a Surety Bond?

When two parties enter into a agreement such as an exchange of service or the delivery of goods.... for payment.  This agreement is actually 'a promise of exchange.'  Often times one of the parties will require the purchase of a Surety Bond which guarantees the performance  of  the other party.  A Surety Bond provides a 'financial' guarantee that the contract will be completed according to the terms agreed upon by both parties.  In other words its a form of  insurance, but it's called a bond. (see the difference below)

Example of a Surety Bond

An example would be a contractor who promises to perform work for someone who promises to pay them (say $50,000) when the work is complete.   Since the party who is requesting the work to be completed, has a lot to loose if it doesn't happen, they might ask for insurance to compensate for their loss if the work is not completed.

Parties to a Surety Bond

• The Obligee - The party requesting the bond (the person requesting the work to be performed)
• The Principal - The party required to get bonded and perform the guarantee (the contractor)
• The Surety - The company that issues the bond (insurance) and backs it financially

The Difference Between a Surety Bond and an Insurance policy

 Surety Bond pays the person who requested the bond, an insurance policy pays the person who purchases the bond.

Typical Cost of a Surety Bond

The cost of a surety bond is usually a small fraction of the total bond amount.  In the example above, the contractor would purchase a surety bond in the amount of $50,000. The cost of a $50,000 bond might a couple % points of that amount. Other factors will also be considered such as the work history and experience of the contractor and/or their credit score.

What Event Triggers a Surety Bond Payment

f the work is not completed according to the written contract and the Obligee can prove financial harm, payment will be made to the Obligee which can then in turn be used to hire another contractor to finish the work.