How do surety bonds work?
A Surety Bond is an agreement between three parties, the principal, the person or business that requires the bond, the obligee who receives the benefits of the bond, and the surety who guarantees repayment of a loan. The purpose of a surety bond is to enable companies to conduct business with greater confidence. The bonding company, known as the surety, agrees to pay claims if damage occurs while performing services for which they were bonded.
The surety bond must make clear what actions would cause it to become void. For example: If a contractor fails to complete construction on time or within budget, the bonding company guarantees payment for additional expenses incurred by the project owner such as utilities and rental equipment until completion.
If the contractor fails to complete the project, the bonding company reimburses the owner for any additional expenses up to the amount of the bond. If for some reason circumstances make it impossible to continue with construction, payment is issued in accordance with specifications and at agreed-upon prices.
Why do you need a surety bond?
There are many reasons why a business needs to get surety bonds. A bond is an instrument showing that a person or business will perform the obligations of another party in case those obligations are not fulfilled. Please note that there is no one answer as to why someone would need a surety bond. In general, companies receive certain benefits from having one of these protections in place.
A surety bond may be used as an effective tool in protecting your company depending on what type of transaction requires. Not all companies are required to carry this form of security, but for those that are involved in a higher-risk business, then a surety bond is often required. Things that may require a Surety Bond might be exporting goods overseas, transporting goods by truck or rail, as well as dealing with government contracts.
Many businesses seek out surety bonds when they want to establish credit for their company, which is why contract bonds are so important. For example, construction companies work with lenders to use the business’ record of fulfilling contracts as evidence that it will perform any future building projects. If these companies cannot fulfill their side of the contract, then the lender will not have to make good on its promises either, helping both parties avoid financial losses.
Can you get a surety bond with bad credit?
The short answer is yes. While becoming the guarantor for someone else’s contract may be difficult, there are some alternatives available to those who do not have established credit or a good history of borrowing money. A parent may agree to lend you money so that you can become a surety and help an individual or company obtain an acceptance letter from a lender.
Another option is to ask friends or family members if they would be willing to cosign on your agreement, which means they will bear equal responsibility for the debt as well. Yes, even if you have bad credit it is possible to sign as a co-signer this might increase your chances of being accepted into the program by quite a bit without that option, it may be next to impossible.
Another way to become a surety while having bad credit is by asking the person or company for whom you are signing as a guarantor if you can use a co-signer. In this case, someone with better credit who already has been involved in several contracts will sign with you, thus allowing the lender to have two people responsible for payment instead of just one.
How do you know if you need a bond?
Many businesses require a bond to guarantee performance. If you are leasing or purchasing business property, your realtor may point out this requirement as part of the contract terms. Other common uses for surety bonds include:
- Completing contracted work (e.g., construction project)
- Opening a business bank account
- Purchasing equipment on credit
- Signing licenses, permits, and leases
If you do not have one in place before committing to these types of contracts, it is likely that the lender or landlord will cancel any agreement with you because it puts them at risk for significant losses should you default on your obligations.
Who are the parties involved in a surety bond?
The parties involved in a surety bond are the obligee or the entity that is guaranteed payment by the surety if the principal defaults. The principal is the party obligated to perform under the contract, and who requests protection from nonperformance through a bond. Finally, there is the surety that guarantees the performance of the principal’s obligations under the terms of the agreement should they default.
A surety bond is a legal contract between three parties:
- The Principal, or whatever you want to call the company that has obtained the contract and needs the bond
- The Obligee, who is whoever issued the contract and wants to ensure that the terms of it are followed correctly (the owner of a property or business
- The Surety, which is usually a large financial institution taking on risks with every client so as not to expose themselves personally to any loss from one client going bad