Construction Surety Bonds

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Cameron Ross
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1 Construction Surety Bonds September 17, 2014 Presented by: Walt Caldwell

2 What is a Surety Bond An instrument where one party (Surety) guarantees the obligations of a second party (Principal) to a third party (Obligee) Obligee A three party contract between the Surety, Principal, and Obligee Surety Principal 2

(Principal) to a third party (Obligee) Obligee A three

3 Parties to a Surety Bond Parties to a Surety Bond Obligee (Owner) Requires and receives protection of bond Issues bond and provides guarantee Surety Principal (Contractor) undertakes obligation and provides bond 3

bond Issues bond and provides guarantee Surety

4 Surety Bonds Vs. Traditional Insurance 3-party Surety Bonds 2-party Insurance Indemnification/surety doesn t pay claims unless your organization fails Risk transfer Duty to obligee Regulated by State Insurance Departments Premium fee for prequalification services Project specific Penal sum Claims are expected & paid Risk transfer Duty to insured Regulated by State Insurance Departments Premium actuarially determined Usually term specific Policy limits 4

organization fails Risk transfer Duty to obligee Regulated by State Insurance Departments Premium fee for

5 Who Requires Bonds? Public Sector Federal Government State & Local Governments 5

6 Who Requires Bonds? Private Sector Private Owners Lending Institutions General Contractors 6

7 Contract Surety Bonds Bid bonds Performance bonds Maintenance bonds Payment bonds Supply bonds A surety bond offers assurances to the owner of a construction project that the contractor will perform the work specified in the contract and pay certain subcontractors and suppliers. 7

owner of a construction project that the contractor will perform the

8 Types of Bonds 1. Bid Bond - Covers bid security - Assures contractor, if awarded a contract, will enter into the contract and provide the required Performance and Payment bonds. 8

9 Types of Bonds 2. Performance Bond - Guarantees owner the contractor will perform the obligations contained in the contract documents. - If the contractor defaults, the Surety has the obligations to fulfill the contractor s obligations. 9

10 Types of Bonds 3. Payment Bond - Guarantees the payment of defined subcontractors and material suppliers. 10

11 Types of Bonds 4. Maintenance Bond - Guarantees workmanship and material for a period of time after project completion and acceptance of the work. 11

12 Functions of Bonds - Ensure project completion - Relieves owner from risk of financial loss due to Mechanic s Liens - Smooth transition from construction to permanent financing - Provides payment protection for subcontractors and suppliers - Protects public funds on public projects 12

construction to permanent financing - Provides payment protection for

13 Prequalification Surety Bonds Capital Capacity Character Letters of Credit Single focus Quality & liquidity of collateral 13

14 What Are Bank Letters of Credit? Cash guarantee to owner Called on demand Payment to owner & loan for contractor No guarantee of project completion Irrevocable 14

15 Borrowing Capacity Surety Bonds Issued on unsecured basis Does not diminish borrowing capacity Credit enhancement Letters of Credit Assets used as collateral Diminish existing line of credit Can affect cash flow 15

enhancement Letters of Credit Assets used as

16 Duration Surety Bonds Duration of contract Maintenance period Letters of Credit Date specific Evergreen clauses 16

17 Claims Surety Bonds Surety investigates claim of default Surety s options Surety pays rightful claims of certain parties Letters of Credit Payable on demand Owner determines validity of claims by subs & suppliers 17

of certain parties Letters of Credit Payable on

18 Benefits of Surety Bonds Surety Bonds Protects the interest of labor & vendors on construction projects Surety company assumes the responsibility of investigating & validating claims 18

19 Performance Bond Protection Re-bid the job for completion 19 Surety Arrange for replacement contractor Retain original contractor Reimburse owner as required by the bond

20 Payment Bond Protection Surety Surety pays eligible subs & suppliers Protects owner from mechanics liens Protects subcontractors from nonpayment 20

21 Benefits of Surety Bonds Owner Qualified bidders Reduced risk of liens Timely project completion Defect protection 21

22 Benefits of Surety Bonds Contractor Contract reviews Continuity plans Expertise Project qualification Private construction Lending institutions Subcontractor protection Technical, managerial, financial assistance 22

23 Cost of Surety Bonds Bid Bonds Usually no cost Performance Bonds ½ to 2% of contract price Payment Bonds Maintenance Bonds Price included in cost of Performance Bond Price for1 year included; additional for longer term 23

24 Qualifying the Surety A.M. Best Company Rating agency for all insurance and surety companies. A+++ rating is best Anything B+ or lower is a red flag Treasury Dept. Circular 570 Also know as the Treasury List, this publication lists the sureties that are approved for Federal projects and the maximum single bond that the government will accept from that surety 24

25 P3 s (Public-Private Partnership) Public Government Agency Federal State Local Contract with private entity(s) for any/all of : Finance Design Construction Operation Ownership Maintenance Objective : FASTER COMPLETION and/or LOWER COST 25

26 P3 s Continued Use of P3 s can vary greatly state by state, & even within states Broad use or Limited / Specific project use. Road/Highway Buildings Wastewater Treatment Facilities, etc. Accordingly, state statutes can vary greatly in bonding requirements 26

27 P3 s Continued While bonds still provide basic protection against 1. contractor default & 2. Payment protection for Subcontractors and Suppliers : Extent of such protection can vary significantly by State Form and Amount of the Bond or Security < 100% of contract amount? or less? Conform to Little Miller Act of State, or not? Bond or alternative form of security? (Cash, Bank Irrevocable Letter of Credit) Combination of both? 27

28 P3 s Continued These inconsistent bonding requirements can = insufficient payment protection for State s vendors on P3 contracts Contract surety bonding requirements on P3 contracts help maintain control for state & local governments that otherwise relinquish control to the private sector HOWEVER much of the legislation concerning such is new and evolving with the bottom line presently that ALL parties to P3 s Government, Contractors & Surety should pay particular attention to the applicable bonding requirements 28

29 Thank You Questions?? 29

Surety Bond Associates. Understanding Contract Surety Bonding: An Orientation for Veteran Owned Small Contractors

Surety Bond Associates. Understanding Contract Surety Bonding: An Orientation for Veteran Owned Small Contractors Surety Bond Associates Understanding Contract Surety Bonding: An Orientation for Veteran Owned Small Contractors Contract Surety Bonds Bid Bond Performance Bond Payment Bond Who Requires Bonds? Public