What is the Performance Bond?
A performance bond is issued to one party of a contract as a guarantee against the failure of the other party to meet obligations specified in the contract. It is also referred to as a contract bond. A performance bond is usually provided by a bank or an insurance company to make sure a contractor completes designated projects.
These are generally three-party agreements as outlined below:
- The Principal – the primary person or business entity who will be performing a contractual obligation.
- The Obligee – the party who is the recipient of the obligation.
- The Surety – who 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 a 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.
What are the benefits of a performance bond?
- Gives the Owner More Than Cash to Fix the Problem Created by a Default
A Letter of Credit (LOC) will provide an owner with money to fix the problems created by a default by the contractor, but it will not give them a completed project. A performance bond gives an owner peace of mind that despite a default by the contractor, the owner will still end up with a completed project in accordance with the terms and conditions of the original contract.
- Response from the First Dollar
A performance bond provides complete protection from the first dollar of loss. An owner does not have to assume responsibilities for deductibles or co-payments.
- Provide Sufficient Protection
LOCs are typically called for in the amount of 10 to 25% of the contract amount which typically means a shortfall of funds (usually 40% of the contract price) which leaves the owner in a very difficult position that not only do they not have the funds to cover the shortfall, but the owner must now find another qualified contractor to pick up and complete the project.
- Non-intrusive Protection
A LOC or certified cheque tie up a contractor’s borrowing line or cash reserves and deny them access to their money especially in times of financial stress. Ironically, by calling for the liquid security of this nature, an owner can inadvertently bring on the very problem it is seeking to protect itself against.
Performance Bonds at everpro consultants
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 areas. We can give clients an understanding of what will be required as well as costs associated with Performance Bonds. We can determine what the clients 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.