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What is a Performance Bond?

If you're a contractor or business involved with the construction industry, you will likely need to secure performance bonds at some point. In fact, you may need to secure performance bonds for every new project you start, making bonding an important part of your business. This page outlines everything a contractor (or someone hiring a contractor) needs to know about performance bonds.

Performance Bond Definition

A Performance Bond is a surety bond issued by an insurance company to guarantee satisfactory completion of, or performance on a project by a Contractor.

How Does a Performance Bond Work?

With a performance bond, there are generally three party agreements as outlined below:

  • Principal – The primary person or business entity who will be performing a contractual obligation.
  • Obligee – The party that is the recipient of the obligation.
  • Surety – The party that ensures (guarantees) that the principal's obligations will be performed. Sureties are similar to (sometimes divisions of) insurance companies.

For example, a General Contractor "Principal" may be required to provide a Performance Bond in favor of a project Owner "Obligee" in order to secure a certain contract. If the Principal fails to perform his or her duties under the contract specifications, the Obligee may call upon the Surety to cure the problem or make payment(s) out of the Performance Bond. These payments are for damages up to the limit of the Performance Bond.

In the same way, a Subcontractor may be required to provide a Performance Bond in favor of a General Contractor "Obligee" in order to secure a certain subcontract. If the Principal fails to perform his or her duties under the subcontract specifications, the Obligee may call upon the Surety to cure the problem or make payment(s) out of the Performance Bond. These payments are for damages up to the limit of the Performance Bond. When Subcontractors provide Performance Bonds to General Contractors it is also called "bonding back".

As with any surety bond, if there is a default which results in loss by the Surety Company, the Surety will expect the Principal to repay any monies paid out by the Surety in the event of a claim. Surety Bonds are NOT insurance.

A Performance Bond Example in Action

To fully understand how a performance bond works, it helps to see how the entire bond process plays out. Consider this hypothetical example:

  1. A general contract gets hired by a city to handle a large renovation project. The work contract stipulates the budget and timeline for the project. It also requires a performance bond.
  2. The general contractor secures the required bond, finalizes the contract, and starts renovating.
  3. Despite the performance requirements stipulated in the bond, the renovation project takes weeks longer than expected. Those delays could be costly to the city.
  4. The city files a claim against the bond for damages equal to the money lost because of the delay. This is their right as the obligee.
  5. The surety that backs the bond investigates the claim to prove whether or not the general contractor failed to meet deadlines outlined in the work contract.
  6. The extent of the losses will also be investigated. The surety will use specialized professionals – investigators, accountants – as necessary to ensure the validity of the investigation.
  7. Contingent upon the investigation validating the claim, the surety will compensate the city the full amount of the claim without further delay.
  8. Finally, the general contractor will repay the surety the claim amount. The final amount will include interest based on how long the debt went unpaid, fees related to the cost of the investigation, and other administrative expenses.

How does a Performance Bond Benefit the Obligee?

A performance surety bond benefits the obligee by giving them a way to pursue justice and financial compensation when a contractor they hire falls short of performance requirements. Without a bond, it would be more difficult to hold these contractors responsible. Bonds guarantee compensation for all valid claims, which gives an obligee an important sense of security when hiring a contractor.

Surety bonds help project owners manage the risk of hiring contractors who do not fulfill their contractual obligations, leading to expensive losses. Surety bonds agreements place this risk, and the financial fallout that results, onto the contractor rather than the project owner who hires him.

How does a Performance Bond Benefit the Principal?

What is a performance bond good for from the perspective of the principal? Even though the principal has to pay for a bond and pay for any claims filed, bonds benefit them as well. Since bonds hold contractors accountable when performance obligations aren't met, they help motivate contractors to finish on time, under budget, and up to quality standards. Bonds also build trust between the principal and the obligee which, ultimately, helps principals secure more work over the long term.

Who Can Get a Performance Bond?

Performance bonds are required as part of a contracted project or job. The owner of the project will require the performance bond as a protection for the contracted project. If you are someone who is being required to get a performance bond – because you're working on a public project and it's required by law or because you're working on a private project and it's a contractual obligation – obtain one ASAP.

Delaying obtaining the necessary surety bond can lead to losing the contract. Viking Bond Service understands the importance of speed when it comes to obtaining performance bonds. That's why we return quotes within as little as 24 hours.

How to Apply for a Performance Bond?

The process is clear when you work with a national surety agency like Viking Bond Service. Contact us to get in touch with one of our contract bond specialists. There are different applications and documentation requirements for different projects. Our agents will provide you with the best path for your specific project and will make clear exactly what is needed throughout the application process, to get the best terms for your performance bond request.

No matter what kind of performance bond you need, prepare to submit a bond application that asks for information about your business, finances, and background. You will also need to submit to a credit check and provide a copy of the performance bond requirements outlined in the contact. Additional documentation may be required as well.

How Much Does a Performance Bond Cost?

Expect to pay a small percentage of the bond total. The exact bond cost depends on the applicant's credit and history with bonding. Applicants who have a higher credit score and have never had a claim filed against a bond will pay a lower percentage of the total. Applicants with credit scores below 700, a blemish like bankruptcy on their financial record, or a previous claim on a bond (performance or otherwise) will pay a higher percentage. If you're simply curious how much a performance bond would cost you, contact us and we can give you a general idea of how much bonding would cost for your specific situation.

Can You Get a Performance Bond With Bad Credit?

Yes, but only as long as you work with a company that knows how to secure bond quotes for applicants with less than perfect credit. Admittedly, the application and approval process for credit-challenged applicants is more in-depth, but obtaining the bond needed to secure a contract is often still very possible.

If you think your credit might be an issue, contact our team to explore your options. We offer a special program designed to help more people get the surety bonds they need, easily and affordably, regardless of their credit. This program doesn't guarantee bond approval. However, it can help people who have been denied a bond elsewhere.

Do You Need to Renew a Performance Bond?

Performance bonds do not renew but since they are tied to a contract, they are affected by changes in the contract post bond issuance. The bond remains in force for the duration of the contract. The surety company will periodically check with the obligee, the contract owner, for status on the contracted job. These status checks let the surety know if the job has been completed or how far along the job is. The potential for what is referred to as an "overrun" exists on contracted projects or jobs.

An overrun occurs when the contract amount is increased or the project exceeds the expected completion date for the contract. Overruns are not bond renewals but represent additional exposure to the surety backing the bond. When the surety learns of an overrun, either from a status check or from a completion notification, the surety will bill the principal for any additional exposure created from the overrun.

In instances where you know an overrun will occur, it's a good idea to let your surety bond provider know as soon as possible. When an overrun occurs, an additional premium is due to the surety. Including this additional premium upfront when billing the obligee for contract extensions is good practice. As always, Viking Bond Service strives to make the bonding process as simple as possible for all those involved. We have developed internal controls to make reporting and accommodating overruns quick and easy.

Performance Bonds at Viking Bond Service

Contact one of our Contract Bond experts today for a free consultation. Our expert Contract Bond department is experienced in the inner workings of and requirements of Performance Bonds in all arenas. We can give clients an understanding of what will be required as well as costs associated with Performance Bonds. We can also determine what the client's maximum bonding capacity is.

During this process, we can even provide a quick lesson on how Performance Bonds work. Our customers return each time a Performance Bond is required because of the service and knowledge our staff is able to offer regarding their Performance Bond requests. Contact us by calling 1-888-278-7389 or by completing the contact form on this page.

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