Contractor Bonds: What They Are and What You Need to Know

As a construction worker or other type of contractor, you may be asked to obtain a contractor bond before starting a project. You might be wondering why. What are contractor bonds anyway, and why do you need them? Let’s take a look to help you understand some of the basics.

What Are Contractor Bonds?

A contractor bond is a subtype of a surety bond, specifically designed for professionals who work as contractors. But what exactly is a surety bond? Well, in simple terms, it’s a contract involving three parties, which guarantees that one of the parties (the contractor in this case) will fulfill the terms of the agreement.

The three parties involved in the bond have specific names. Those are:

  • The principal
  • The obligee
  • The surety

To fully grasp how contractor bonds work, we need to understand each of these parties’ roles. So, let’s take a closer look.

The Principal

The principal is the party that obtains the bond and is under obligation to fulfill all the terms of the contract. As a contractor, you’ll be the principal in the contractor bond, as you were hired to complete a specific project.

The Obligee

The obligee requires a surety bond as a guarantee against financial loss and/or damages to the obligee or public. Typically, the obligee is a government agency.

The Surety

The surety is the financial guarantor that covers any potential losses and mediates claims against the bond. The principal purchases the contractor bond from the surety.

Are Contractor Bonds the Same as Insurance?

Since contractor bonds are often backed by insurance companies, many people believe they are essentially a type of insurance policy. However, that’s really not the case. While both contractor bonds and insurances act as a safety net, the difference is in the side that bears all the risk.

When you purchase an insurance policy, you do so to protect yourself from risk. In case things don’t go as planned, your insurance company has to cover all damages and losses instead of you. Naturally, insurance companies try to minimize their own losses by charging higher premiums for people with a history of risky behavior. Still, as long as you pay their fees, the responsibility is on them.

But contractor bonds work quite differently. In the event of a claim against the bond, a surety will temporarily provide compensation to the damaged party. But afterward, they will require a full reimbursement from the principal. That’s why they usually ask you to sign an indemnity agreement right away. Ultimately, the principal still bears all financial responsibility in the end.

Do Contractor Bonds Offer Any Benefits for Contractors?

As a contractor, you’ll probably have to get a contractor bond whether you want to or not if you’re interested in performing work on public jobs. But while it’s clear how it benefits the customer, does it actually offer any benefits for you?

Well, first of all, getting a contractor bond is basically a requirement if you want to work for government agencies. That isn’t always the case with private work, but when you look into it, you’ll see that finding a job without a surety bond is quite difficult. In other words, if you want more work opportunities, contractor bonds are a must.

Furthermore, contractor bonds aren’t made just to please the obligee. In many ways, they are a benefit to the contractor by providing a mediator of claims brought against the bond. For instance, if a dispute arises over whether you fulfilled the terms of your contract or not, the surety provider will help you settle it fairly. In other words, the obligee can’t just claim damages and ask for compensation — they have to prove it first.

How Much Do Contractor Bonds Cost?

The contractor bonds price tag isn’t exactly fixed, and it depends on several factors, such as the provider you choose and the state you’re in. Most sureties charge between 2% and 5% of the total bond amount. So, a $10,000 bond would cost you somewhere between $200 and $500.

Naturally, before you get your contractor bond, the provider will assess your credit and decide on the price accordingly. If your financial history and risk levels are exceptionally good, you could pay only 1% of the total bond amount. That may not be quite so common, but it is possible.

In Conclusion

Now that you have a better grasp on contractor bonds and how they work, you’ll have an easier time finding the perfect one for you. Before you do that, though, make sure to look into it even deeper and do as much research as you can.